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.
First and foremost, dividend investors like a large forward 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.
Seagate yields a whopping 4.9%, far higher than the S&P's 1.8%. Seagate's dividend is based on its continuing ability to pay out at a rate of $0.18 per quarter.
2. Payout ratio
The payout ratio might be the most important metric for judging dividend sustainability. It compares the amount of money a company paid out in dividends last year to the earnings it generated. 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, even when its dividend yield doesn't seem particularly high.
Seagate's payout ratio is a moderate 60%.
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 interest coverage ratio indicates whether a company is having trouble meeting its interest payments -- any ratio less than 5 is a warning sign. Meanwhile, the debt-to-equity ratio is a good measure of a company's total debt burden.
Let's examine how Seagate stacks up next to its peers who compete across the broader storage industry.
Source: Capital IQ, a division of Standard & Poor's.
It's a bit unusual for company in Seagate's space to have debt loads as large as it does, though, on the other hand, it's equally rare for tech stocks to yield as much as Seagate. (In fact, none of the other three tech stocks listed even pays a dividend.)
A large dividend is nice; a large growing dividend is even better. To support a growing dividend, we also want to see earnings growth.
Over the past five years, Seagate's earnings per share have shrunk at an annual rate of 7%. Its $0.12 quarterly dividend was suspended since 2009, until it was reinstated last quarter at $0.18.
The Foolish bottom line
Seagate exhibits a reasonable dividend bill of health because of its high yield and affordable payout ratio. Dividend investors may want to keep an eye on the company's earnings stability and growth as well as its leverage, which could require the company to suspend its dividend again to preserve cash should it face a truly significant downturn.
Ilan Moscovitz doesn't own shares of any companies mentioned. You can follow him on Twitter @TMFDada. The Motley Fool owns shares of Western Digital. Try any of our Foolish newsletter services free for 30 days. We Fools don't 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.