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 Republic Services (NYSE: RSG ) 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 Republic Services 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.
Republic Services yields 3%, a bit higher than the S&P 500’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.
Republic Services has a moderate payout ratio of 53%.
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 five is a warning sign. Meanwhile, the debt-to-equity ratio is a good measure of a company’s total debt burden.
Republic Services has a debt-to-equity ratio of 90% and an interest coverage rate of four times. While that may seem to be cutting it a bit close, those metrics are actually a bit more conservative than those of much of the garbage disposal industry, which, after all, is a reasonably stable and capital-intensive business.
A large dividend is nice; a large growing dividend is even better. To support a growing dividend, we also want to see earnings growth.
Although Republic Services’ earnings per share have fluctuated wildly over the past five years, overall growth comes out to an average annual rate of 2%, while its dividend has grown at a 16% rate.
The Foolish bottom line
So, is Republic Services a dividend dynamo? With a decent yield, a moderate payout ratio, a manageable debt burden, and a bit of growth, it could very well be. Although its payout ratio is low enough that the company should be able to continue growing its dividend faster than earnings, dividend investors will want to keep an eye on that earnings growth to see if the company can sustain earnings growth as it did in 2011 and is expected to in the near future.
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