Big dividends: good or bad news?

June 11, 2016

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By Jacob Wolinsky. Originally published at ValueWalk.

Big dividends: good or bad news?

Published on May 27, 2016

European firms in particular are paying out a huge proportion of their profits as dividends. This week I offer a few words of caution for income investors.

0:11welcome to the skill explains finance video this week big dividends a good or

0:17bad idea now I don’t like 200 million pounds of profit in a year that say what

0:23is Joyce’s quick but a relation between March alt number one they could keep all

0:28that money to themselves and if they do that as an investor you want a reason

0:32for it to maybe that funding innovation and future organic growth maybe they’re

0:36looking fund acquisitions to strengthen their balance sheet by reducing debt

0:42building up the cash reserve whatever happens to be you need a reason why

0:45they’re keeping the cash now we’re looking at the alternatives situation

0:48where you are a company decides to return it to shareholders and there are

0:51two ways they can do that i’m gonna focus on the first one here paying big

0:55dividends and buying back their own shares either route will result in cash

1:02getting out of the business into the hands of shareholders what you might

1:05think that’s happy days actually let’s consider which is better and are there

1:10any warning signs to look out for when companies take route to now did you not

1:16get a lot of companies all taking root to the European companies of hangout a

1:20higher proportion of their earnings as dividends known as a record payout ratio

1:24in the job and in more than 40 years and Thomson Reuters data suggests that

1:28nearly 60 percent of your earnings pretty big number are currently being

1:32paid out as dividends to have company’s gone too far too fast that’s the

1:37question are there any risks now what’s being said about least generous dividend

1:42hands well we’ve got top analyst at S&P global market intelligence saying we’re

1:47seeing a lot of companies trapped into their dividend policy they offer

1:50generous dividends may feel they can pull out and we’ve also got him drunk

1:55with a homie tonight but one thing actually we like companies that don’t

1:58have too much that cash flows dividends so what’s going on shortly

2:03big dividends a good use for shelters while they can be and I’m certainly not

2:06suggesting in this video

2:08dividend are bad for one simple reason let’s take a look at this chart that

2:14shows what would have happened if you don’t vested in your jet at the start

2:19one of the worst bear market

2:21nineteen seventies get your investment rolling and reinvested reinvested all

2:27the dividend she received back into shares all the end of 2015 now the

2:33bottom is the party no guide future serial no guarantee that is the point

2:37you would have basically made around morning charges its presence on a

2:43hundred and eight times your original investment in your jail a total return

2:47basis without again a hundred and eight times so I played the right way

2:53dividends can generate some pretty impressive returns added on top of any

2:56capital gain and bandwidth say a great dividends are a tangible benefit to

3:04shareholders cash in your pocket

3:06jam today waiting to jam tomorrow and post cash flow displayed on manages his

3:11manager got to run the business in a way to generate the cash needed and

3:15reinvested I can really power up your long-term return so what’s the problem

3:19was like there’s a flip side of this coin and critics are increasingly

3:23getting nervous but I level of dividend payout why didn’t my run out of ideas

3:30that returning cash to do with it they don’t think of any reason project to

3:34invest in that’s not a good thing maybe also breeds complacency all the way I’ll

3:39keep my cell is quite another dividend and not worry too much that’s not good

3:43either they might be using debt to fund these buyouts that’s even worse carrying

3:48up to

3:49dividends and big payouts can eventually we can balance sheets and ultimately not

3:56be sustainable

3:57jam today but will you get jam tomorrow to an investor what are you supposed to

4:01do and the answer is to diversify our money about why the moment do not put

4:08all your eggs in one basket do not pick a huge company that’s been a regular

4:12reliable income Perrigo I’ll take that one but even so I want you to spreading

4:17your risk out get under the bonnet see what’s going on so check the business

4:21logic is this a business with a model that is cash

4:24cash generative or not check earnings cover has it got out of control what’s

4:29the pattern over the last five years

4:31check free cash flow cover I companies in more detail and other videos to what

4:35extent is free cash flow cover the annual dividend and check that novels

4:40and look back and see what the train look like it

4:43having done your homework you like your safety checks then so spread your risk

4:48over companies that pass those tests what a warning against what can go wrong

4:54you don’t this graph belongs to another big is coming to market most reliable

5:03dividend maritime bank the dividend / capital expenditure find all the rest of

5:10it just goes to show that even the biggest steady as dividends can get it

5:14wrong the need to do a lot of ground cover there on a big debate