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 take a look at how Williams Companies (NYSE: WMB ) stacks up in four critical areas to see if it's a dividend dynamo or a blowup in the making.
1. Yield
First and foremost, dividend investors like a large 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.
Williams Companies yields 2.6%, certainly not cause for alarm.
2. Payout ratio
The payout ratio might be the most important metric for judging dividend sustainability. It compares the amount of money a company pays out in dividends to the amount it generates. 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.
Williams Companies currently pays out 86% of earnings, or 62% of free cash flow, in dividends.
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 debt-to-equity ratio is a good measure of a company's total debt burden and a rough measure of how much leverage a financial institution is taking on.
Let's examine how Williams Companies stacks up to its peers:
|
Company
|
Interest Coverage Ratio
|
Debt-to-Equity Ratio
|
|
Williams Companies
|
3.0
|
112%
|
|
El Paso (NYSE: EP )
|
1.9
|
370%
|
|
Entergy (NYSE: ETR )
|
3.7
|
135%
|
|
Kinder Morgan (NYSE: KMP )
|
3.2
|
180%
|
Source: Capital IQ, a division of Standard & Poor's.
While Williams seems to have a fairly substantial debt load, it's not too bad in comparison to its competitors.
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.
Williams Companies' earnings have shrunk by 4%, while dividends have grown by 23%.
The Foolish bottom line
Williams Companies' dividend doesn't appear to be in much danger, though there doesn't seem to be much room for growth unless earnings continue growing.
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