Dividend Gut Check

Looking at a company with a nice fat dividend? That’s great, but here’s a quick reality check to see if that dividend is viable. Look at the ratio of dividend per share to earnings per share. What is that number?

In short, it’s the percent of profits the company is allocating to paying dividends to shareholders. The lower the number, the greater the likelihood the dividend is safe. Example: A company pays a $0.90 dividend and earns $1.00 per share. 90% of profits are going toward dividends. If earnings dip just a little bit, the dividend is at risk. Compare this to a company that earns $1.00 and pays a $0.25 dividend. Earnings could be cut in half, and there would still be plenty of profit left over to pay the dividend.

Is this the only analysis you’ll ever need to do to assess the safety of a dividend?  No, but it’s a good first step.

David R. Evanson is a financial journalist in Philadelphia.