If you love dividends as much as I do, then you should know a high trailing yield shouldn’t be the only consideration when investing. More important than the yield is whether the company can sustain or even grow its dividend in the future.
So, let’s see if bus operator SBS Transit Ltd‘s (SGX: S61) 3.5% dividend yield is sustainable.
The key determinant for whether a company can sustain its dividend is its earnings. After all, a company can only pay out as much as it earns without eventually having to tap into its reserves.
SBS Transit earns the majority of its keep from service fees that the Land Transport Authority of Singapore pays it to operate public bus services.
The contract also entitles the bus operator to a performance payment of up to 10% of its annual service fee if it meets five performance indicators such as bus reliability and maintenance. The government, on the other hand, dictates new bus routes and retains fares collected from passengers.
As of 2018, SBS operates a total of nine bus packages with an average contract period of seven years.
Due to the long-term nature of these contracts, SBS has a very reliable income stream. There’s also the potential for growth as LTA increases the number of bus routes in the future. On top of that, SBS also collects a leasing fee of its close to 2,900 buses to LTA.
These long-term contracts provide SBS with visible recurring revenue. As long as SBS can keep its costs manageable, investors can expect that SBS will easily keep raking in the profits.
Free cash flow
It’s also important to consider the company’s cash flow. In particular, free cash flow is the cash left over after taking into account cash generated from operations and capital expenditures.
In 2018, SBS generated S$161 million in free cash flow and only paid out S$40.4 million in dividends. The company also decided to reduce its debt by more than S$100 million last year with the excess capital raised, thus improving its balance sheet.
Lastly, the dividend cover looks at how much of the earnings generated are being paid out as dividends. SBS has a dividend policy to pay out around 50% of its earnings in dividends.
This is a fairly conservative payout ratio, which gives SBS plenty of room to increase its payout ratio in the future.
The Foolish bottom line
Given SBS’s reliable earnings, well-covered dividend, and robust free-cash-flow generation, it seems the bus operator will have no problems sustaining its dividend in the foreseeable future.
The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Jeremy Chia does not own shares in any of the companies mentioned. The Motley Fool Singapore has recommended shares of SBS Transit Limited.