Today we’ll take a closer look at Johnson Matthey Plc (LON:JMAT) from a dividend investor’s perspective. Owning a strong business and reinvesting the dividends is widely seen as an attractive way of growing your wealth. Yet sometimes, investors buy a popular dividend stock because of its yield, and then lose money if the company’s dividend doesn’t live up to expectations.
In this case, Johnson Matthey likely looks attractive to investors, given its 3.4% dividend yield and a payment history of over ten years. We’d guess that plenty of investors have purchased it for the income. There are a few simple ways to reduce the risks of buying Johnson Matthey for its dividend, and we’ll go through these below.
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Dividends are usually paid out of company earnings. If a company is paying more than it earns, then the dividend might become unsustainable – hardly an ideal situation. So we need to form a view on if a company’s dividend is sustainable, relative to its net profit after tax. In the last year, Johnson Matthey paid out 43% of its profit as dividends. This is a medium payout level that leaves enough capital in the business to fund opportunities that might arise, while also rewarding shareholders. Besides, if reinvestment opportunities dry up, the company has room to increase the dividend.
In addition to comparing dividends against profits, we should inspect whether the company generated enough cash to pay its dividend. Unfortunately, while Johnson Matthey pays a dividend, it also reported negative free cash flow last year. While there may be a good reason for this, it’s not ideal from a dividend perspective.
Is Johnson Matthey’s Balance Sheet Risky?
As Johnson Matthey has a meaningful amount of debt, we need to check its balance sheet to see if the company might have debt risks. A quick check of its financial situation can be done with two ratios: net debt divided by EBITDA (earnings before interest, tax, depreciation and amortisation), and net interest cover. Net debt to EBITDA is a measure of a company’s total debt. Net interest cover measures the ability to meet interest payments. Essentially we check that a) the company does not have too much debt, and b) that it can afford to pay the interest. Johnson Matthey has net debt of 2.01 times its EBITDA. Using debt can accelerate business growth, but also increases the risks.
Net interest cover can be calculated by dividing earnings before interest and tax (EBIT) by the company’s net interest expense. Johnson Matthey has EBIT of 9.02 times its interest expense, which we think is adequate.
We update our data on Johnson Matthey every 24 hours, so you can always get our latest analysis of its financial health, here.
From the perspective of an income investor who wants to earn dividends for many years, there is not much point buying a stock if its dividend is regularly cut or is not reliable. Johnson Matthey has been paying dividends for a long time, but for the purpose of this analysis, we only examine the past 10 years of payments. During this period the dividend has been stable, which could imply the business could have relatively consistent earnings power. During the past ten-year period, the first annual payment was UK£0.41 in 2010, compared to UK£0.85 last year. Dividends per share have grown at approximately 7.6% per year over this time.
Businesses that can grow their dividends at a decent rate and maintain a stable payout can generate substantial wealth for shareholders over the long term.
Dividend Growth Potential
While dividend payments have been relatively reliable, it would also be nice if earnings per share (EPS) were growing, as this is essential to maintaining the dividend’s purchasing power over the long term. Earnings have grown at around 2.4% a year for the past five years, which is better than seeing them shrink! Johnson Matthey is paying out less than half of its earnings, which we like. Earnings per share growth have grown slowly, which is not great, but if the retained earnings can be reinvested effectively, future growth may be stronger.
Dividend investors should always want to know if a) a company’s dividends are affordable, b) if there is a track record of consistent payments, and c) if the dividend is capable of growing. Firstly, the company has a conservative payout ratio, although we’d note that its cashflow in the past year was substantially lower than its reported profit. Earnings growth has been limited, but we like that the dividend payments have been fairly consistent. Ultimately, Johnson Matthey comes up short on our dividend analysis. It’s not that we think it is a bad company – just that there are likely more appealing dividend prospects out there on this analysis.
Earnings growth generally bodes well for the future value of company dividend payments. See if the 14 Johnson Matthey analysts we track are forecasting continued growth with our free report on analyst estimates for the company.
If you are a dividend investor, you might also want to look at our curated list of dividend stocks yielding above 3%.
If you spot an error that warrants correction, please contact the editor at [email protected] This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned.
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