johnny_automatic_money_bags

While I don't typically invest in a company due to its dividends, others do. If you are one of those people, then you need to understand what to look for to make sure you are buying into a decent company. You need to be confident that your investment will be able to maintain or grow its dividend while not driving the company into the ground.

Dividends can (and should) flow from the cash flows derived from earnings, but there are other ways to pay out a dividend. Consider these other options. A company could pay out a dividend by:

 

  1. Draining its cash holdings.
  2. Selling off assets.
  3. Diluting your investment by issuing more shares of stock.
  4. Increasing its risk position by taking on more debt.

The problem here is that all of these options are temporary solutions. You eventually run out of cash and assets. Issuing more shares to pay shareholders can turn into a legal version of a Ponzi scheme. And increasing debt increases bankruptcy risk. Only long-term earnings power can sustainably fuel big dividends.

I have written a series of articles on how to read an annual report in 20 minutes. This is if you are choosing a stock after it has passed all of the standard metrics that I describe in my book, The Confident Investor. If you are buying the stock for another reason, such as for its dividend return, then you need to do more homework.

If you are choosing a stock based on its dividends, there are few things to check in the last 3 annual reports. Luckily, you really do not need to dig into the individual annual reports if you do not want to go through that effort. The information is in those reports, but free websites do most of the heavy lifting. You can find this information on the financial portals of Yahoo and MSN, but for my example I will use Morningstar.  Go to Morningstar.com and search for GE.  GE is the NYSE symbol for General Electric. Most people that own General Electric do so for its dividends and its exposure to the manufacturing sector and the international markets. According to Dividend.com, GE is currently offering a dividend yield of 3.27% and an annual payout of $0.76. This yield is not enough to get rich on, but it currently is beating your bank savings account.

If you go to the quotes page of Morningstar for GE, you can see a quick overview of the company. Scroll down to the Financials section and you can follow along. The first thing I want to look for is not included in the above list. I want to make sure the company is growing its top line revenue over the last 3 years and that it has been profitable for the last 3 years. Note that this would be a different check if you were buying the company as a stock growth company but in this case we are buying it for dividends. We need to make sure the dividends are coming from a solid company and those dividends are not going to be disrupted. In the case of GE, you can see that both situations are true even though Net Income is the lowest it has been in the last 3 years. That drop in income would have been very troublesome if we were evaluating the Confident Investor Rating that I describe in my book. In the case of a dividend investment, it has maintained enough profit for us to feel confident in the continued profitability.

Now let's jump over to the Financials tab and select the Cash Flow sub tab (immediately below the tabs are sub tabs). Scroll all the way to the bottom and we see that the Operating Cash Flow and Free Cash Flow are decreasing. This is a problem.  We need this number to be increasing or at least steady to trust a dividend payout.

The next item is assets. Stay on the Financials tab, but go to the Balance Sheet sub tab. Look at the Net Property, Plant and Equipment line (it should be bold). This isn't too bad. Over the last 5 years, it has gone up and down. The worst move was about 10%, but lately it has even increased a bit. This is a sign that the company is continuing to invest in its infrastructure and at least isn't selling it off to satisfy its dividend needs.

To check the number of shares outstanding, we can jump to the Key Ratios tab. Halfway down the Financials section is Shares. Here, we can see that the number of shares outstanding is essentially the same YOY for the last 3 years. This is fine.

For the last check, stay on the Key Ratios tab and look at the Key Ratios section. On the sub-tab Financial Health, you will see Total Liabilities. In this case, the liabilities are decreasing slightly. This means the company isn't taking on debt to pay your dividend.

Overall, General Electric is a fairly safe dividend investment. While I don't typically invest in a company due to its dividends, others do. If you are one of those people, then you need to understand what to look for to make sure you are buying into a decent company. You need to be confident that your investment will be able to maintain or grow its dividend while not driving the company into the ground.

The reality is that General Electric is not likely to decrease the dividend even though it has a few warning signs. Cutting a dividend almost always results in a drop in share price. Since executives and board members are usually paid with stock or receive bonuses based on stock price, they don't want that price to drop. They will do unnatural acts if needed to maintain the stock price. This is the problem with focusing only on dividends for an investment. That addiction to the dividend can cause companies to make really bad decisions in the hopes that investors will not run from an ailing company. However, there is no free lunch for dividend owners. If you want to trust your dividend and hope that it can grow, choose companies that are extremely well run.

Do you have any questions about this? I would spend more time on this in a book, but hopefully this article gives you a few things to consider. Let me know below in the comments or send me a tweet at @ConfidentInvest.

Image is sourced from OpenClickart.com

[stckqut]GOOGL[/stckqut]

I recently discussed how I use Google Finance to do part of my "quick" analysis of a stock when a reader asks my advice. Typically, I receive these requests from Twitter (@ConfidentInvest) or via the Contact Me on this site. After I do the quick review of a company on Google Finance, I need to dig in a bit more before I give an opinion on the stock. Most of that work, I do on MSN Money.

As you can tell by the metrics I report in my analysis reports, I worry about the 10 year growth history of 4 major metrics:

  1. P/E
  2. EBIT
  3. Sales
  4. Profit

I also look at the ability of a company's managers to manage their revenue and profitability as a function of the number of employees.

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To find the 10 year history, go to 10-Year Summary on the left side of the page. Also go to Key Ratios and further select 10-YEAR SUMMARY across the top of that page. When I do a full analysis for my site, I enter these values into a spreadsheet and perform trend analysis that closely models the rate of growth. I call this deep analysis TWCA and will explain more about that technique in the future. However, for a quick response to a reader's question, I will do a mental calculation that the values are growing at a fairly even pace over the past decade. My concern is a major change in the numbers (especially negative growth). If the growth is relatively consistent, then I assume that a Confident Investor can cautiously invest in the company.

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I then quickly look at the revenue per employee and then income per employee. This is found in the Key Ratios section but under MGMT EFFICIENCY on the top. I want to compare these numbers to the averages in the specific industry as well as to the S&P500. Companies that have too little revenue or profit per employee may be out of control and be heading into a rough time. This isn't an albatross, but it does give me some concerns. For instance, in the screen shot above, IBM is significantly lower than the industry as well as the S&P 500.

At this point, I can answer the inquisitor. On an email or Twitter response, it is usually not very definitive. For a quick look, I haven't done the math to rate the stock as a Good Company, Fair Company or Poor Company. However, if my quick look is interesting, I will add it to my list of stocks to spend more time with and perhaps create an analysis here.

When I find a company that I like and have on my Watch List, I use my account on Fidelity to manage my investment. I am very open on my Disclaimer page that you can expect that I personally invest in companies that I find attractive. Other brokerage houses have similar tools that I am sure are quite good, but I really like Fidelity's tools.  In a future post, I will write about what I do there. If you want to make sure that you don't miss my posts, please follow me on Twitter (@ConfidentInvest), subscribe to the RSS feed of this site, or subscribe to the weekly digest email that is sent out on Monday.

I regularly get asked what tools that I use to analyze stocks. I am going to write about these tools in a series of posts. I want to clarify that I am not saying negative things about other sites and tools. In fact, I am sure that other tools can provide similar benefits and features.

When I first look at a company, I use two tools: MSN Money and Google Finance. I find that I can understand most of what I need to look quickly at a company with these two tools. I will first focus on Google Finance, and in a subsequent post, I will explore MSN Money.

I usually receive requests via Twitter (follow me @ConfidentInvest) or the contact form on this site. The request is usually something like, "What do you think of XYZ?" My first step when someone asks me about an unfamiliar company is to go to Google Finance. I can quickly determine the company's profitability, the major competitors, and then review recent news that is affecting the stock.

If you have read my site for any length of time, you will notice that the company must be profitable if I am going to invest. This is extremely obvious at the top of the Google Finance screen. If the company is not profitable, then I am done. I reply to the inquiring individual not to invest in unprofitable companies because it is extremely difficult to be confident in their actions.

Google 3 month stock history

I set the trading history on the stock chart to 3 months on my first review. My goal is to determine the dividend history. I also check out some of the articles that may be relevant to the company. This only takes a few minutes, but it allows me to see if there is any news about the company that may be influencing price moves. Also, since my site is called Confident Investor, a 3 month history will give me some idea of the volatility of the stock.

Google Finance competitors listing

I then scroll down to the competitors. Do I know any of them? If I already invest in one of the competitors, I can do a comparison of the two stock histories. This gives me an idea if this new company is a better investment than the original company. I also do a quick comparison of the P/E between the competitors. If it is not in line, there may be a problem. If the P/E is too high compared to its competitors, I will need to figure out why investors pay a premium for this company. If the P/E is too low, why are they punishing the company? P/E is a excellent indicator to see if investors like or dislike a company.

Google Finance Description

Finally, I do a quick read of the Description of the company. I usually know what the company does , but this quick read confirms it.

This is my first review of the company. At this point, I may be able to inform the inquirer if I dislike the company , but I cannot tell if I like the company. To do that, I need to go to MSN Money – I will review that tool in a later post. Stay tuned.

If you want to be warned when I post about MSN Money, there are several straightforward ways to do this. You can subscribe to my feed in your news reader. You can also sign up for my weekly newsletter which will give you the articles for the week. Finally, you can subscribe to my Twitter account @ConfidentInvest.