Is Keppel Corporation Limited’s 5.9% Dividend Yield Sustainable?

Credit: Simon Cunningham

When it comes to high-yielding blue chips, oil-rig builder and property developer Keppel Corporation Limited (SGX: BN4) would be near the top of the list.

At its present share price of S$8.13, the mighty conglomerate has a historical dividend yield of 5.9% thanks to its annual dividend of S$0.48 per share in 2014.

Meanwhile, the SPDR STI ETF (SGX: ES3) – an exchange-traded fund tracking Singapore’s market barometer, the Straits Times Index (SGX: ^STI) – has a yield of just 2.8% currently. In other words, the 30 blue chips in Singapore that make up the Straits Times Index has an average dividend yield of 2.8% at the moment.

But while Keppel Corp’s yield does look attractive, it’s important to think about one key question: Can it sustain its dividends?

The anatomy of a sustainable dividend

In general, there are a few things about a company that I like to dig into when I’m trying to assess its ability to maintain its payouts. Here they are:

  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 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 actual cash flow from operations that’s left after the firm has spent the necessary capital needed to maintain its businesses at their current state. The higher the company’s free cash flow can be over time, the larger the potential for growing dividends.

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

When a company has a weak balance sheet that’s laden with debt, its dividends can be at risk of being reduced or removed – either due to pressure from creditors or from a simple lack of cash – even at the slightest hiccup in the fortunes of its business.

On the other hand, a strong balance sheet that is flush with cash gives a company the resources to protect its dividends during the inevitable tough times that rolls along every now and then. In addition, it enables the firm to go on the offensive during a downturn and reinvest for growth even as its financially weaker competitors have to batten down the hatches.

Keppel Corp’s positioning

Here are two charts which show how Keppel Corp has fared against the three criteria over the decade stretching from 2004 to 2014:

Keppel Corp's ordinary dividends and free cash flow (FCF) per share

Keppel Corp's balance sheet figures

Source: S&P Capital IQ

Keppel Corp deserves a thumbs-up for its great track record in raising its ordinary dividends; as you can see in the chart, there was only one year (2013) in which the company had not managed to hike its annual pay-outs over the time period we’re looking at.

But beyond that, there are some areas of concern for investors to note. First, Keppel Corp’s ability to generate free cash flow has severely weakened after 2008. Second, the company’s balance sheet has also steadily deteriorated since 2009 with the growth in debt outpacing that of cash, resulting in the firm ending 2014 with a balance sheet that has a net-debt position.

These two traits – the recent inability to generate free cash flow and a balance-sheet that’s not in the best of shape – when coupled with low oil prices and a soft private residential real estate market in both Singapore and China (the two countries are the main geographical markets for Keppel Corp’s real estate arm), paint a picture of a company that does not have too much room for error when it comes to maintaining its dividends.

A Fool’s take

Given what we’ve seen with Keppel Corp, investors might need to be aware of the risk that the conglomerate may not be able to sustain its dividends in the future. That being said, it’s worth noting that this look at the firm’s historical financials is not a holistic overview of the entire situation.

A deeper dive into the qualitative aspects of the conglomerate’s business as well as an assessment of its ability to grow is also needed. A study of Keppel Corp’s financial track record can be important and informative, but more work needs to be done beyond this before a proper 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 companies mentioned.