Some dividends have staying power. Companies delivering enduring dividends tend to back such often-rising payouts with robust business and financial achievement.
Fragile dividends, meanwhile, arise because of weaker operational and financial characteristics. Those are the dividends to avoid. However, fragile dividends often tempt us because of high dividend yields.
How to tell the difference
Under the spotlight today, two FTSE 100 firms: Wm Morrison Supermarkets (LSE: MRW) the grocery chain and Royal Dutch Shell (LSE: RDSB) the oil giant.
These firms operate in different sectors, but they both have a high dividend yield. At the recent share price of 185p Wm Morrison Supermarkets forward yield for 2015 is 4.8%. At 2222p Royal Dutch Shells is 5.6%.
Lets run some tests to gauge business and financial quality, and score performance in each test out of a maximum five.
-
Dividend record
Both firms enjoy a decent dividend record:
Ordinary dividends |
2010 |
2011 |
2012 |
2013 |
2014 |
2015 (e) |
Wm Morrison |
8.2p |
9.6p |
10.7p |
11.8p |
13p |
8.9p |
Royal Dutch Shell |
109.2p |
109.2p |
111.8p |
117p |
122.2p |
124.3p |
Over four years Wm Morrisons dividend advanced 58%, delivering a compound annual growth rate of 12.2% up to last year. Since then its set to fall, rebased down near the level it started at the beginning of the period, thanks to the well-reported troubles in the supermarket sector. Royal Dutch Shells moved forward by 12%, scoring a modest growth rate of 2.8% and weve yet to see a cut in forward projections.
For their dividend records, Im scoring Wm Morrison 1/5 and Royal Dutch Shell 2/5
-
Dividend cover
Wm Morrison expects its 2015 adjusted earnings to cover its dividend around 1.42 times. Royal Dutch shell expects fag-paper-thin cover from earnings of about 1.11 times.
Of course, cash pays dividends, so its worth digging deeper into how well, or poorly, both companies cover their dividend payouts with free cash flow thats cash flow after maintenance capital expenditure.
On dividend cover from earnings, though, both Wm Morrison and Royal Dutch Shell score 2/5
-
Cash flow
Dividend cover from earnings means little if cash flow doesnt support profits.
Here are the firms recent records on cash flow compared to profits:
Wm Morrison |
2010 |
2011 |
2012 |
2013 |
2014 |
Operating profit (m) |
907 |
904 |
973 |
949 |
(95) |
Net cash from operations (m) |
735 |
898 |
928 |
1,107 |
722 |
Royal Dutch Shell |
|||||
Operating profit ($m) |
26,244 |
42,715 |
37,722 |
26,870 |
20,159 |
Net cash from operations ($m) |
27,350 |
36,771 |
46,140 |
40,440 |
45,044 |
Generally, both businesses see there cash flow support profits, but WM Morrisons profits dipped as the sectors problems kicked in.
Looking forward, Wm Morrison may see weakened cash flow thanks to tougher competition, and Royal Dutch shells cash performance could suffer if oil prices remain low. However, it seems likely that cash flow could continue to move up and down with profits at both firms.
Im scoring both companies 4/5 for their cash flow records.
-
Debt
Interest payments on borrowed money compete with dividend payments for incoming cash flow. Thats why big debts are undesirable in dividend-led investments.
At the last count, Wm Morrisons borrowings were around four times the size of its net cash flow from operations, which seems high. Royal Dutch Shells, though, were around the same level as its last-reported operating cash flow, which appears reasonable.
For their debt positions, Wm Morrison gets 2/5 and Royal Dutch Shell scores 4/5.
-
Degree of cyclicality
Wm Morrisons share price moved from around 270p at the beginning of 2011 to 185p or so today, handing investors a 31% capital loss over the period, which is likely to have reversed any investor gains from dividend income. Thats not so much macro-economic cyclicality at work as a structural change in the industry, which we could consider a much larger cycle in motion.
Royal Dutch Shell moved from 2140p at the start of 2011 to around 2222p today, providing investors with a modest 4% capital gain, although the share price was volatile over the period because the oil sector is highly cyclical.
Both firms face uncertain immediate futures thanks to cyclical effects. Wm Morrison trades against the current of a consumer dash to value-delivering competition, and Royal Dutch Shell just tumbled into a lower oil price environment.
Wm Morrison scores 3/5 and Royal Dutch Shell 1/5
Putting it all together
Here are the final scores for these firms:
Wm Morrison |
Royal Dutch Shell |
|
Dividend record |
1 |
2 |
Dividend cover |
2 |
2 |
Cash flow |
4 |
4 |
Debt |
2 |
4 |
Degree of cyclicality |
3 |
1 |
Total score out of 25 |
12 |
13 |
Neither firm is perfect by these measures, and both face altered trading circumstances going forward, which could affect ongoing dividend performance.
Successful dividend investing may not be as straightforward as it at first seems. However, there is an opportunity to obtain a wealth report prepared by our industry-leading analysts who navigate the dividend-investing minefield every day. Add it to your toolkit now. Click here.
Get FREE Issues of The Motley Fool Collective
Get straightforward advice on whats really happening with the stock markets, direct to your inbox. Help yourself with our FREE email newsletter designed to help you protect and grow your portfolio wealth.
By providing your email address, you consent to receiving further information on our goods and services and those of our business partners. To opt-out of receiving this information click here. All information provided is governed by our Privacy Statement.
Kevin Godbold has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. We Fools don’t all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.