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 Ford (NYS: F) 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 Ford 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.
Ford yields 1.9%, basically in line with the S&P 500.
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.
Adjusted for one-time items like a massive tax benefit this past year, Ford's payout ratio is still a modest 16%.
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 -- any ratio less than 5 is a warning sign. Meanwhile, the debt-to-equity ratio is a good measure of a company's total debt burden.
Ford carries a whopping 604% debt-to-equity ratio, but much of that is from leverage in the company's financing division. Its interest coverage rate is 10 times.
A large dividend is nice; a large growing dividend is even better. To support a growing dividend, we also want to see earnings growth.
The economic downturn has meant several bumpy years for automakers. All told, Ford's normalized earnings per share have basically rebounded to 2004 levels -- the last year before the wheels really began to come off. The company's $0.10-per-quarter dividend was suspended back in 2006 but was reinstated earlier this year at $0.05 per share.
The Foolish bottom line
A few years of dividend growth under its belt will be necessary before we could consider Ford a true dividend dynamo. What's more, cyclicality in the auto industry poses a serious challenge to Ford's ability to become a steady, long-term dividend payer. That being said, with a modest payout ratio, manageable debt, and a successful turnaround, for the time being Ford exhibits a fairly safe dividend bill of health to go along with its healthy yield.
If you're looking for some other great dividend stocks, check out "Secure Your Future With 9 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 these nine generous dividend payers.
At the time thisarticle was published Ilan Moscovitzowns shares of Ford. You can follow him on Twitter,@TMFDada. The Motley Fool owns shares of Ford.Motley Fool newsletter serviceshave recommended buying shares of Ford and creating a synthetic long position in Ford. The Motley Fool has adisclosure policy. We Fools don't all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. Try any of our Foolish newsletter servicesfree for 30 days.
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