The Most Promising Dividends in Shipping

Dividend payers deserve a berth in any long-term stock portfolio. But seemingly attractive dividend yields are not always as fetching as they may appear. Let's see which companies in the shipping industry offer the most promising dividends.

Yields and growth rates and payout ratios, oh my!
Before we get to those companies, though, you should understand just whyyou'd want to own dividend payers. These stocks can contribute a huge chunk of growth to your portfolio in good times, and bolster it during market downturns.

As my colleague Matt Koppenheffer has noted: "Between 2000 and 2009, the average dividend-adjusted return on stocks with market caps above $5 billion and a trailing yield of 2.5% or better was a whopping 114%. Compare that to a 19% drop for the S&P 500."

When hunting for promising dividend payers, unsophisticated investors will often just look for the highest yields they can find. While these stocks will indeed pay out the most, the yield figures apply only for the current year. Extremely steep dividend yields can be precarious, and even solid ones are vulnerable to dividend cuts.

When evaluating a company's attractiveness in terms of its dividend, it's important to examine at least three factors:

• The current yield

• The dividend growth

• The payout ratio

If a company has a middling dividend yield, but a history of increasing its payment substantially from year to year, it deserves extra consideration. A $3 dividend can become $7.80 in 10 years, if it grows at 10% annually. (It will top $20 after 20 years.) Thus, a 3% yield today may be more attractive than a 4% one, if the 3% company is rapidly increasing that dividend.

Next, consider the company's payout ratio, which reflects what percentage of income the company is spending on its dividend. In general, the lower the number, the better. A low payout ratio means there's plenty of room for generous dividend increases. It also means that much of the company's income remains in its hands, giving it a lot of flexibility. That money can fund the business's expansion, pay off debt, buy back shares, or even buy other companies. A steep payout ratio reflects little flexibility for the company, less room for dividend growth, and a stronger chance that if the company falls on hard times, it will have to reduce its dividend.

Peering into shipping
Dividend investors typically focus first on yield. Ship Finance International (NYS: SFL) and Nordic American Tankers (NYS: NAT) are among the highest-yielding stocks in the shipping business, recently offering 15.9% and 9.2%, respectively. But they're not necessarily your best bets. Both sport negative average dividend growth rates over the past five years. Ship Finance International sports a hefty payout ratio of more than 100%, and carries considerable debt -- more than $2 billion, recently, versus just $100 million in cash. Nordic American has no payout ratio at all, since it has posted negative earnings. Like many of its peers, it has been suffering from weak demand and a general oversupply of tankers. Indeed, Frontline (NYS: FRO) has recently had to restructure itself in order to address debt problems, and plenty of investors are now wary of the company, as it remains unprofitable and in a weakened competitive position. That had a bad impact on the entire industry.

Instead, let's focus on the dividend growth rate first, where Teekay leads the way, with a five-year average annual dividend growth rate of 16%. That rate is so steep, though, that it may be hard to maintain for long.

Some shipping companies, such as DryShips (NAS: DRYS) , don't pay dividends at all. DryShips suspended its dividend to free up money for other purposes. It specializes in drybulk transport and owns some oil drilling platforms, but like some peers, is plagued by steep debt and overcapacity in the industry. That's enough to cause some investors to be skittish.

Just right
As I see it, TK LNG Partners (NYS: TGP) offers the best combination of dividend traits, sporting a strong yield of 7.3% now and a good chance of solid dividend growth in the future. It transports a lot of oil and natural gas, which are likely to remain in demand for the foreseeable future, enjoys the security of some long-term contracts, and has been beefing up its capacity as well. It does sport considerable debt, but it also has positive earnings. Note that it's organized as a master limited partnership (MLP), with certain tax advantages.

Of course, as with all stocks, you'll want to look into more than just a company's dividend situation before making a purchase decision. Still, these stocks' compelling dividends make them great places to start your search, particularly if you're excited by the prospects for this industry. Remember, though, that you may find even more attractive dividends elsewhere, such as in electric utilities or tobacco.

Do your portfolio a favor. Don't ignore the growth you can gain from powerful dividend payers.

Looking for someAll-Star dividend-paying stocks? Look no further.

At the time thisarticle was published Longtime Fool contributorSelena Maranjianholds no position in any company mentioned. Check out hisholdings and a short bio. Try any of our Foolish newsletter servicesfree for 30 days. We Fools don't all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. The Motley Fool has adisclosure policy.

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