Ensco: Dividend Dynamo, or Blowup?

Dividend investing is a tried-and-true strategy for generating strong, steady returns in economies both good and bad. But as corporate America's slew of dividend cuts and suspensions over the past few years has demonstrated, it's not enough simply to buy a high yield. You also need to make sure those payouts are sustainable.

Let's examine how Ensco (NYSE: ESV) stacks up in four critical areas to determine whether it's a dividend dynamo or a disaster in the making.

1. Yield
First and foremost, dividend investors like a large forward yield. But if a yield gets too high, it may reflect investors' doubts about the payout's sustainability. If investors had confidence in the stock, they'd be buying it, driving up the share price and shrinking the yield.

Ensco yields a moderate 2.7%, a bit better than the S&P 500's 2.2%.

2. Payout ratio
The payout ratio might be the most important metric for judging dividend sustainability. It compares the amount of money a company paid out in dividends last year to the earnings it generated. A ratio that's too high -- say, greater than 80% of earnings -- indicates that the company may be stretching to make payouts it can't afford, even when its dividend yield doesn't seem particularly high.

Ensco has a payout ratio of 54%.

3. Balance sheet
The best dividend payers have the financial fortitude to fund growth and respond to whatever the economy and competitors throw at them. The interest coverage ratio indicates whether a company is having trouble meeting its interest payments -- any ratio less than 5 is a warning sign. Meanwhile, the debt-to-equity ratio is a good measure of a company's total debt burden.

Ensco has a debt-to-equity ratio of 48% and interest coverage of 22.

4. Growth
A large dividend is nice; a large growing dividend is even better. To support a growing dividend, we also want to see earnings growth.

Let's examine how Ensco stacks up next to its peers.

Source: S&P Capital IQ.

The past few years of oil volatility have obviously been pretty crazy for many in the drilling industry, but it says something that Ensco felt confident enough to take its massive dividend hike in 2010.

The Foolish bottom line
Ensco exhibits a reasonable dividend bill of health. It has a nice yield, a moderate payout ratio, and a limited debt burden. Although its relatively strong balance sheet will be helpful, dividend investors will still want to keep an eye on the company's volatile earnings to ensure that they're not too choppy and growing over the long term. To stay up to speed Ensco's progress, or that of any other stock, add it to your stock watchlist. If you don't have one yet, you can create a free, personalized watchlist of your favorite stocks.