Can This Share With A Tasty 4.9% Dividend Yield Sustain Its Dividends?

Credit: Simon Cunningham

A high dividend yield can be an attractive draw for investors. After all, who wouldn’t like their shares to be paying out fat dividend cheques?

But that said, it’s also worth pointing out that it can be a mistake for investors to focus on a share’s yield alone because that figure tells us nothing about what’s important here – the share’s ability to sustain or even grow its dividends.

With that, what should investors make of Dyna-Mac Holdings Ltd (SGX: NO4)?

At its current share price of S$0.305, the marine engineering outfit has a tasty yield of 4.9% based on its dividend of S$0.015 per share for the whole of 2014.

In comparison, the SPDR STI ETF (SGX: ES3) – an exchange-traded fund which closely mimics the fundamentals of the Straits Times Index (SGX: ^STI) – has a yield of just 2.7% at the moment.

The makings of a solid dividend

There are a few things about a company I like to dig into when I’m thinking about its ability to sustain its dividends:

  1. The company’s track record in growing and paying its dividend.

This criterion’s importance lies in the insight it can give investors about management’s commitment to reward shareholders as the business grows.

  1. The company’s ability to grow its free cash flow over time and generate it in excess of the dividends paid.

Ultimately, a company pays its dividends with the cash it has and that cash can come from a few sources. A company can 1) take on debt, 2) issue new shares, 3) sell its assets, and/or 4) generate cash from its daily business activities.

There are always exceptions, but it’s generally more sustainable for a company to pay its dividends using the cash it has generated from its businesses.

It thus follows that investors should be keeping a close watch on a company’s free cash flow as it is the cash flow from operations that’s left after the firm has spent the necessary capital needed to maintain its businesses at their current state.

  1. The strength of the company’s balance sheet.

Having a weak balance sheet that’s laden with debt puts a company’s dividends at risk of being reduced or removed – either due to pressures from creditors or from a simple lack of cash – even at the slightest hiccup in the fortunes of the firm’s business.

In contrast, a strong balance sheet that is flush with cash gives a company the ability to tide over tough times and emerge relatively unscathed.

Piecing the puzzle together

Given that Dyna-Mac went public only in March 2011, I’d only be looking at the firm’s recent track record over the past four years. Here’s how the firm has fared against the three criteria:

Dyna-mac's historical financials

Source: S&P Capital IQ

For the time period under study, Dyna-Mac has kept its dividends at a rather steady level of between S$0.02 and S$0.015 per share. However, the firm has not been able to produce free cash flow at all. In fact, as you can observe, Dyna-Mac’s free cash flow has been declining.

While Dyna-Mac started the chart with a strong balance sheet that had more cash than debt, the situation has since reversed; the company ended 2014 with S$42.2 million in cash on its balance sheet and S$66.9 million in total borrowings.

A Fool’s take

Pulling it all together, I see Dyna-Mac as a company that has 1) managed to pay a steady dividend, 2) difficulty in churning out any free cash flow, and 3) experienced a deterioration in the strength of its balance sheet.

So, on balance, it would appear that there’s a chance that Dyna-Mac would be unable to sustain its current level of dividends.

All that being said, it’s worth pointing out that this look at Dyna-Mac’s historical financials is certainly not a holistic overview of the entire picture. Investors would still have to dig into the qualitative aspects of the firm’s business and consider if better days are ahead.

This peek at Dyna-Mac’s financial history can be important and informative, but more work needs to be done beyond that before any investing decision can be made.

For more analyses on dividend investing and important updates about the stock market, sign up to The Motley Fool Singapore's free weekly investing newsletter, Take Stock Singapore. Written by David Kuo, it can help you grow your wealth in the years ahead.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore writer Chong Ser Jing doesn't own shares in any company mentioned.