Dividend investing is a tried-and-true strategy for generating strong, steady returns in economies both good and bad. But as corporate America's slew of dividend cuts and suspensions over the past few years has demonstrated, it's not enough simply to buy a high yield. You also need to make sure those payouts are sustainable.
Let's examine how Ensco (NYS: ESV) stacks up. In this series, we consider four critical factors investors should examine in every dividend stock. We'll then tie it all together to look at whether Ensco is a dividend dynamo or a disaster in the making.
First and foremost, dividend investors like a large forward yield. But if a yield gets too high, it may reflect investors' doubts about the payout's sustainability. If investors had confidence in the stock, they'd be buying it, driving up the share price and shrinking the yield.
Ensco yields 2.9%, quite a bit higher than the S&P's 2%.
2. Payout ratio
The payout ratio might be the most important metric for judging dividend sustainability. It compares the amount of money a company paid out in dividends last year to the earnings it generated. A ratio that's too high -- say, greater than 80% of earnings -- indicates that the company may be stretching to make payouts it can't afford, even when its dividend yield doesn't seem particularly high.
Ensco's payout ratio is a moderate 52%.
3. Balance sheet
The best dividend payers have the financial fortitude to fund growth and respond to whatever the economy and competitors throw at them. The interest coverage ratio indicates whether a company is having trouble meeting its interest payments -- a ratio less than five can be a warning sign. Meanwhile, the debt-to-equity ratio is a good measure of a company's total debt burden.
Let's see how Ensco stacks up next to its peers:
Diamond Offshore (NYS: DO)
Helmerich & Payne (NYS: HP)
Rowan (NYS: RDC)
Source: S&P Capital IQ.
A large dividend is nice; a large growing dividend is even better. To support a growing dividend, we also want to see earnings growth.
Here's how Ensco has performed over the last few years:
Diamond Offshore Drilling
Helmerich & Payne
Source: S&P Capital IQ.
Ensco's dividend growth figure looks massive because the company really began paying serious dividends in 2010.
The Foolish bottom line
Ensco exhibits a fairly clean dividend bill of health. It has a decent yield, a moderate payout ratio, and a reasonable debt burden. Dividend investors will want to keep an eye on how well the company's recent acquisition of Pride International is integrated and how successfully Ensco is able to use its new assets to boost its earnings. To stay up to speed on Ensco's dividend progress, add it to your stock watchlist. If you don't have one yet, you can create a free, personalized watchlist of your favorite stocks by clicking here.
At the time thisarticle was published Ilan Moscovitz doesn't own shares of any company mentioned. You can follow him on Twitter @TMFDada. The Motley Fool owns shares of Ensco. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.