In this series, we analyze financial metrics to begin answering the following questions about a company's dividend:

  1. Over time, has this company steadily increased its payouts?
  2. How sustainable is the dividend?
  3. Does the company have room to further increase the dividend?

The Dividend Report Card wasn't designed as a buy or sell signal but rather as a tool to gauge the health of a company's dividend. For a full explanation of each category, click here for a tutorial.

Today's pupil is Walgreen (NYSE: WAG), which posts a 1.7% yield.

Dividend history

Metric

5-Year Annualized Growth Rate

Dividend per share 21.6%
Diluted earnings per share 7.8%

Source: Capital IQ, as of Feb. 16.

What Walgreen may have lacked in terms of dividend yield -- it's rarely been above 2% since 2005 -- it's more than made up for in dividend growth. In January, it boosted its payout by 27.3%, marking 35 consecutive years of increased payouts.

Nevertheless, past returns don't guarantee future results, so dividend history is only 10% of the final grade. Walgreen does, however, score a 5 of 5 in this category.

Sustainability

 Metric

Trailing 12 Months

Final Grade
Weighting

Report Card Score
(out of 5)

Interest coverage 41.9 times 10% 5
EPS payout ratio 26.2% 10% 5
FCFE payout ratio 42.7% 30% 5

Source: Capital IQ, a division of Standard & Poor's, as of Feb. 16.

Walgreen's interest coverage is a bit lower than stated due to substantial operating lease commitments that are kept off the official balance sheet. This is a common practice in the retail industry, but something we need to be mindful of because in many cases those lease payments are non-cancellable.

Even if we made the adjustment to account for lease expenses, Walgreen's interest coverage would be more than adequate, so we won't ding the company in this category.

Walgreen also generates more than enough profit and free cash flow to cover its current dividend.

Growth

Metric 

Trailing 12 Months

Final Grade
Weighting

Report Card Score
(out of 5)

EPS payout ratio 26.2% 10% 4
FCFE payout ratio 42.7% 20% 4
Sustainable growth rate 11.1% 10% 5

The company's stated dividend policy is to pay out between 30% and 35% of its profit. That's meaningfully above the roughly 20% average payout over the past four years, so Walgreen may fuel future dividend growth by paying out a larger percentage of profit.

The median analyst estimate for long-term earnings-per-share growth is 13.5%, and based on these fundamentals, I think dividend growth over the next five years could well match that pace.

Competitors
An "ungraded" section of the dividend report card is to see how a stock's current yield stacks up against that of direct competitors. If it's too high relative to competitors' yields, the board could be tempted to slow the growth rate, or vice versa, to bring it more in line with the industry average.

Company

Dividend Yield

Median Analyst Est. Long-Term EPS Growth

CVS Caremark (NYSE: CVS) 1.5% 12.25%
Express Scripts (Nasdaq: ESRX) N/A 20%
Rite Aid (NYSE: RAD) N/A 7%

With its current yield at 1.7%, Walgreen's dividend is above this peer group, but is in-line with the S&P 500 average yield of 1.7%.

Pencils down!
With all the numbers in, here's how Walgreen's dividend scored:

Weighting

Category

Final Grade

10%

History

5

  Sustainability  

10%

Interest Coverage

5

10%

EPS Payout Ratio

5

30%

FCFE Payout Ratio

5

  Growth  

10%

EPS Payout Ratio

4

20%

FCFE Payout Ratio

4

10%

Sustainable growth

5

100%

Total Score (out of 5)

4.7

  Final Grade

A

An impressive score for sure. The combination of a market average dividend yield plus above-average dividend growth potential is intriguing and makes Walgreen very much worth further research.

Want some more dividend ideas? Click here for a free report from Motley Fool expert analysts: "13 High-Yielding Stocks to Buy Today."

Todd Wenning is advisor of Motley Fool UK Dividend Edge. He does not own shares of any company mentioned. The Fool has a disclosure policy.