Could ATCO Ltd. (TSE:ACO.X) be an attractive dividend share to own for the long haul? Investors are often drawn to strong companies with the idea of reinvesting the dividends. Yet sometimes, investors buy a stock for its dividend and lose money because the share price falls by more than they earned in dividend payments.
A high yield and a long history of paying dividends is an appealing combination for ATCO. We’d guess that plenty of investors have purchased it for the income. Remember that the recent share price drop will make ATCO’s yield look higher, even though recent events might have impacted the company’s prospects. Some simple research can reduce the risk of buying ATCO for its dividend – read on to learn more.
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Companies (usually) pay dividends out of their earnings. If a company is paying more than it earns, the dividend might have to be cut. 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, ATCO paid out 36% of its profit as dividends. This is a middling range that strikes a nice balance between paying dividends to shareholders, and retaining enough earnings to invest in future growth. Plus, there is room to increase the payout ratio over time.
We also measure dividends paid against a company’s levered free cash flow, to see if enough cash was generated to cover the dividend. The company paid out 55% of its free cash flow, which is not bad per se, but does start to limit the amount of cash ATCO has available to meet other needs. It’s positive to see that ATCO’s dividend is covered by both profits and cash flow, since this is generally a sign that the dividend is sustainable, and a lower payout ratio usually suggests a greater margin of safety before the dividend gets cut.
Is ATCO’s Balance Sheet Risky?
As ATCO 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. ATCO has net debt of 4.34 times its EBITDA, which is getting towards the limit of most investors’ comfort zones. Judicious use of debt can enhance shareholder returns, but also adds to the risk if something goes awry.
We calculated its interest cover by measuring its earnings before interest and tax (EBIT), and dividing this by the company’s net interest expense. With EBIT of 2.78 times its interest expense, ATCO’s interest cover is starting to look a bit thin.
Consider getting our latest analysis on ATCO’s financial position here.
One of the major risks of relying on dividend income, is the potential for a company to struggle financially and cut its dividend. Not only is your income cut, but the value of your investment declines as well – nasty. ATCO has been paying dividends for a long time, but for the purpose of this analysis, we only examine the past 10 years of payments. The dividend has been stable over the past 10 years, which is great. We think this could suggest some resilience to the business and its dividends. During the past ten-year period, the first annual payment was CA$0.50 in 2010, compared to CA$1.74 last year. This works out to be a compound annual growth rate (CAGR) of approximately 13% a year over that time.
It’s rare to find a company that has grown its dividends rapidly over ten years and not had any notable cuts, but ATCO has done it, which we really like.
Dividend Growth Potential
Dividend payments have been consistent over the past few years, but we should always check if earnings per share (EPS) are growing, as this will help maintain the purchasing power of the dividend. ATCO has grown its earnings per share at 4.2% per annum over the past five years. ATCO 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, we like that ATCO pays out a low fraction of earnings. It pays out a higher percentage of its cashflow, although this is within acceptable bounds. Earnings growth has been limited, but we like that the dividend payments have been fairly consistent. Overall we think ATCO is an interesting dividend stock, although it could be better.
Market movements attest to how highly valued a consistent dividend policy is to one to which is more unpredictable. At the same time, there are other factors our readers should be conscious of before pouring capital into a stock. To that end, ATCO has 3 warning signs (and 2 which make us uncomfortable) we think you should know about.
We have also put together a list of global stocks with a market capitalisation above $1bn and yielding more 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.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Thank you for reading.