As a dividend investor, it pays to follow how much of a company's money goes toward funding its dividend. A nice yield now won't matter much if the company can't keep making those payments going forward.

Here, we'll highlight a given company and its closest competitors to see just how safe their dividends are, with a little help from three crucial tools:

  • The interest coverage ratio, or earnings before interest and taxes, divided by interest expense. The interest coverage ratio measures a company's ability to pay the interest on its debt. An interest coverage ratio less than 1.5 is questionable; a number less than 1 means that the company is not bringing in enough money to cover its interest expenses.
  • The EPS payout ratio, or dividends per share divided by earnings per share. The EPS payout ratio measures the percentage of earnings that go toward paying the dividend. A ratio greater than 80% is worrisome.
  • The FCF payout ratio, or dividends per share divided by free cash flow per share. Earnings alone don't always paint a complete picture of a business's health. The FCF payout ratio measures the percent of free cash flow devoted toward paying the dividend. Again, a ratio greater than 80% could be a red flag.

Each of these ratios reflects dividends paid in the trailing 12 months, while yields are the expected forward yield. Let's examine Yamana Gold (NYSE: AUY) and three of its peers.

Company

Yield

Interest Coverage

EPS Payout Ratio

FCF Payout Ratio

Yamana Gold

1.2%

29.5

14.4%

47.6%

DRDGOLD (Nasdaq: DROOY)

1.5%

29.8

NM

NM

Goldcorp (NYSE: GG)

0.9%

43.1

4%

NM

Newmont Mining (NYSE: NEM)

1.8%

16.4

14.5%

23.7%

Source: S&P Capital IQ. NM = not meaningful due to negative EPS or FCF.

With an interest coverage of 29.5, Yamana Gold covers every $1 in interest expenses with almost $30 in operating earnings. Given that its EPS payout ratio and FCF payout ratio are below 50%, you shouldn't have to worry that Yamana Gold will need to cut its dividend anytime soon.

Another tool for better investing
Most investors don't keep tabs on their companies. That's a mistake. If you take the time to read past the headlines and crack a filing now and then, you're in a much better position to spot potential trouble early. We can help you keep tabs on your companies with My Watchlist, our free, personalized stock-tracking service.