Dividend payers deserve a berth in any long-term stock portfolio. But seemingly attractive dividend yields are not always as fetching as they may appear. Let's see which companies in the gas utility industry offer the most promising dividends.

Yields and growth rates and payout ratios, oh my!
Before we get to those companies, though, you should understand just why you'd want to own dividend payers. These stocks can contribute a huge chunk of growth to your portfolio in good times, and bolster it during market downturns.

As my colleague Matt Koppenheffer has noted: "Between 2000 and 2009, the average dividend-adjusted return on stocks with market caps above $5 billion and a trailing yield of 2.5% or better was a whopping 114%. Compare that to a 19% drop for the S&P 500."

When hunting for promising dividend payers, unsophisticated investors will often just look for the highest yields they can find. While these stocks will indeed pay out the most, the yield figures apply only for the current year. Extremely steep dividend yields can be precarious, and even solid ones are vulnerable to dividend cuts.

When evaluating a company's attractiveness in terms of its dividend, it's important to examine at least three factors:

  1. The current yield
  2. The dividend growth
  3. The payout ratio

If a company has a middling dividend yield, but a history of increasing its payment substantially from year to year, it deserves extra consideration. A $3 dividend can become $7.80 in 10 years, if it grows at 10% annually. (It will top $20 after 20 years.) Thus, a 3% yield today may be more attractive than a 4% one, if the 3% company is rapidly increasing that dividend.

Next, consider the company's payout ratio, which reflects what percentage of income the company is spending on its dividend. In general, the lower the number, the better. A low payout ratio means there's plenty of room for generous dividend increases. It also means that much of the company's income remains in its hands, giving it a lot of flexibility. That money can fund the business's expansion, pay off debt, buy back shares, or even buy other companies. A steep payout ratio reflects little flexibility for the company, less room for dividend growth, and a stronger chance that if the company falls on hard times, it will have to reduce its dividend.

Peering into gas utilities
Below, I've compiled some of the major dividend-paying players in the gas utility industry (and a few smaller outfits), ranked according to their dividend yields:

Company

Recent Yield

5-Year Avg. Annual Div. Growth Rate

Payout Ratio

My Watchlist

 

Suburban Propane Partners LP (NYSE: SPH) 6.1% 7.1% 109% Add
AmeriGas Partners LP (NYSE: APU) 6.1% 4.4% 27% Add
AGL Resources 4.6% 5.9% 59% Add
National Grid (NYSE: NGG) 4.2% Irregular growth 68% Add
TransCanada (NYSE: TRP) 4.2% 19.1% 88% Add
Sempra Energy 3.6% 7.6% 52% Add
ONEOK (NYSE: OKE) 3.2% 10.7% 59% Add
Southern Union 2.1% 8.5% 32% Add
National Fuel Gas (NYSE: NFG) 1.9% 3.6% 52% Add
EQT 1.9% 1.1% 56% Add
Energen 0.9% 5.1% 13% Add

Source: Motley Fool CAPS.

If you focus on dividend yield alone, you might end up with Suburban Propane and AmeriGas Partners, but they're not necessarily your best bets. Their dividend growth rates aren't stellar, and Suburban Propane has a very steep payout ratio.

Instead, let's focus on the dividend growth rate first, where TransCanada and ONEOK lead the way. However, TransCanada's growth rate is so steep that it may be hard to maintain for long.

You may also notice that some well-regarded players in the industry didn't make the list. Clean Energy Fuels (Nasdaq: CLNE) is smaller than most of the names above, and would rather devote excess cash to growth than to shareholder payouts. With more attention than ever on alternative fuels, this natural-gas supplier to vehicle fleets may have a lot of growth ahead.

Just right
As I see it, in this group TransCanada gives you the best combination, with a yield exceeding 4% and a strong dividend growth rate. Its payout ratio is a bit steep, but if it keeps its earnings rising, the payout ratio may hold up for a good while. National Grid and ONEOK are also worth considering.

Of course, as with all stocks, you'll want to look into more than just a company's dividend situation before making a purchase decision. Still, these stocks' compelling dividends make them great places to start your search, particularly if you're excited by the prospects for this industry.

Do your portfolio a favor. Don't ignore the growth you can gain from powerful dividend payers.

To get more ideas for great dividend-paying stocks, read about "13 High-Yielding Stocks to Buy Today."

Longtime Fool contributor Selena Maranjian owns shares of National Grid. TransCanada is a Motley Fool Global Gains selection. AGL Resources, National Grid, and ONEOK are Motley Fool Income Investor picks. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.