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 Bank of New York Mellon (NYS: BK) 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 BNY 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.
BNY yields 2.4%, a bit higher than the S&P 500's 2.1%.
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.
BNY has a payout ratio of 20%.
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 Tier 1 capital ratio is a commonly used leverage metric for banks that compares equity and reserves with total risk-weighted assets. In a non-financial-crisis period, a ratio above 13% is generally considered to be relatively conservative.
BNY has a Tier 1 capital ratio of 14%.
A large dividend is nice; a large, growing dividend is even better. To support a growing dividend, we also want to see earnings growth.
Over the past five years, BNY's has grown its earnings per share at an average annual rate of 3%, while its quarterly payout was cut from $0.24 to just $0.09 during the economic crisis, though it's beginning to return to more normal levels, with a 2011 payout increase to $0.13.
The Foolish bottom line
Though it may not be a dividend dynamo today, BNY exhibits a reasonable dividend bill of health. It has a moderate yield, a modest payout ratio, fairly high capital levels, and some recovery from the massive 2009 cut. If you're looking for great dividend stocks, check out "Secure Your Future With 11 Rock-Solid Dividend Stocks," a special report from the Motley Fool about some serious dividend dynamos. I invite you to grab a free copy to discover everything you need to know about the 11 generous dividend-payers -- simply click here.
At the time thisarticle was published Ilan Moscovitzdoesn't own shares of any company mentioned.You can follow him on Twitter@TMFDada. Try any of our Foolish newsletter servicesfree for 30 days. We Fools may not 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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