Not all dividends are created equal. Here, we'll do a top to bottom analysis of a given company to understand the quality of its dividend and how that's changed over the past five years.
The company we're looking at today is Teekay Tankers
Teekay Tankers is a shipping company that focuses on oil tankers. The tanker market had been stabler than other shipping markets, which have greatly hurt companies such as DryShips
To evaluate the quality of a dividend, the first thing to consider is, has the company paid a dividend consistently over the past five years and if so, how much has it grown.
Teekay's dividend has tracked the strength and weakness of the industry, and has been declining since 2010.
To understand how safe a dividend is we use three crucial tools, the first of which is:
- The interest coverage ratio, or the number of times interest is earned. Calculated by 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.
Teekay covers every $1 in interest expense with $16 in operating earnings.
The other tools we use to evaluate how safe a dividend is are:
- 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.
Source: S&P Capital IQ.
Teekay Tankers distributes the majority of its cash flow to shareholders, and, as such, its payout ratio is consistently high.
Source: S&P Capital IQ
There are some alternatives out there in the industry. Nordic American Tankers
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