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Is Western Digital's Large Dividend Yield Sustainable?

By Ashraf Eassa – Dec 9, 2018 at 12:00PM

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The storage specialist pays a generous dividend, but is it too good to be true?

This hasn't been a great year for investors in computer storage specialist Western Digital (WDC 1.05%)

After seeing its shares rise substantially between the start of the year and the middle of March, the stock has largely been on the decline. Those declines seem to be driven by weakness in NAND flash pricing -- a commodity that underpins a significant portion of the company's portfolio. (Western Digital is also one of the two leading vendors of mechanical hard disk drives.)

WDC Chart

WDC data by YCharts.

The decline in the company's share prices has led to a significant increase in the company's dividend yield, as that figure is calculated by taking the company's annual dividend payouts and dividing it by the share price. As of a recent check, the company's dividend yield was about 4.66%. 

A jar of coins with a label that says "dividends"

Image source: Getty Images.

One question you might be asking yourself is the following: Is Western Digital's current dividend sustainable? 

Let's find out.

Western Digital can more than afford it

The company currently doles out a quarterly dividend of $0.50 per share, translating into $2.00 per share on an annual basis. Over the last 12 months, the company has generated nearly $9.10 per share in free cash flow, which means that it rakes in more than enough cash to be able to cover the current dividend multiple times over.

WDC Free Cash Flow Per Share (TTM) Chart

WDC Free Cash Flow Per Share (TTM) data by YCharts.

Now, what's interesting is that despite the fact that Western Digital's trailing-12-month free cash flow generation is multiples of the current annual dividend, the company hasn't raised its dividend in quite some time: 

WDC Dividend Chart

WDC Dividend data by YCharts.

In fact, you'll notice that the dividend increases seemed to come to a halt after the increase in March of 2015. My guess is that since the company took on significant debt to scoop up flash storage specialist SanDisk for $19 billion (that acquisition is how Western Digital became a significant player in the NAND flash storage market in the first place), it didn't want to commit too much of its free cash flow to the dividend when it had debt to service. (At its most recent investor day, the company said that since the SanDisk deal closed, it has managed to pay down $6.3 billion worth of debt.) 

What's interesting to note, though, is that the company is actually funneling a significant amount of cash into share repurchases, having recently announced a $5 billion share repurchase authorization back in July. It doesn't seem to be the case, then, that Western Digital can't allocate more of its free cash flow to the dividend, but it's instead choosing not to and would rather give back that cash another way. 

Not a great dividend growth story, though

While Western Digital's current dividend seems more than sustainable -- the company's free cash flow generation would have to drop a lot for investors to even begin to worry about a dividend cut -- its track record indicates that consistent dividend growth isn't a top priority. 

That's not necessarily a bad thing, but it's something to keep in mind if you're an income-oriented investor who likes to own companies that regularly give their shareholders dividend raises.

Ashraf Eassa has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

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