Today we'll look at a Brazilian steel producer Companhia Siderurgica (SID 2.83%) to show investors how to quickly check if a company's dividend is safe. In today's interest rate environment, it can be all too tempting to look for stocks with a high dividend yield and invest in them for that yield. What investors need to understand is that chasing high yields can be very dangerous. It's of the upmost importance to make sure the yield is sustainable and those dividends won't disappear.
Foreign dividends are really confusing
A quick search on the popular finance websites and investors will find dividend yields for Companhia ranging from 3.83% all the way to 7.20%. What the heck is going on here, are these finance sites all wrong?
Unfortunately most of the data investors see on finance websites is populated by computer programs, as these sites cannot afford to have human beings double check every single stock in the market. This proves to be more problematic with shares of foreign companies especially, and generally results in incorrect dividend yield calculations.
If an investor is looking at a foreign company with a dividend, they should always calculate the dividend yield themselves and look at how sustainable the company's dividend policy is.
What's happening with Companhia Siderurgica's dividend?
Looking at the company's cash flow statement, investors can see that it has paid out approximately $787 million in dividends to common shareholders over the past 12 months. This amount divided by the company's market cap equals a dividend yield of 11.6% over the past four quarters.
This 11.6% yield assumes an investment that is made today, and the company will continue paying dividends equal to what they did over the past four quarters.
Where most investors get led astray is by assuming the company will continue paying dividends at an equal rate in the future. Looking at the Compnahia's dividend payments since 2009, they've ranged from about $1.2 billion in 2009 to $585 million in 2012. That's a far cry from a consistent dividend.
Since the company is based in Brazil, and the country is not taxed on dividend income, investors would only have to pay taxes at their domestic rates. When investing in a foreign company always be sure to look up its home country's dividend tax rate, as dividends will be taxed first at that rate and then again at the investor's domestic rate. This so-called double tax can have a profound effect on the net yield of the investment.
Why huge dividends are huge red flags
Whenever you see a rather large dividend, it's extremely important to see why the dividend is so large and if it is sustainable. If a company has a high dividend yield it usually means that the stock market is neither optimistic about the company's future, nor the sustainability of its dividend.
While this task may seem daunting, it's relatively painless and can save investors from making poor decisions. In the video below, Motley Fool analyst Blake Bos will go through Companhia Siderurgica's dividend, and let investors know exactly why he thinks it is in severe trouble. He'll also walk investors through his process step by step, so they can evaluate all of those high-yield dividends that are so often traps.