What is a good dividend payout ratio for a company? Is 70% too high? Does a company with a low ratio imply high dividend growth?
Using a concrete example, we’ll answer 3 simple questions to figure out if a company has a good dividend payout ratio that supports a healthy dividend. You can ask the same questions for any dividend company you’re interested in.
However, a payout ratio based on earnings may not be appropriate for companies with big depreciation. Cash flows instead of earnings are better used in such cases, including for REITs and MLPs.
What is the payout ratio?
The payout ratio is the percentage of earnings that are paid out to shareholders as dividends.
For example, Fortis Inc’s (TSX:FTS) is expected to pay out $1.525 per share of dividends in 2016. The company just hiked its Q4 dividend to $0.40 per share.
- Fortis’s originally quarterly dividend per share was $0.375.
- $0.375 * 3 + $0.40 * 1 = $1.525
Its earnings per share are estimated to be $2.17 in 2016. So, Fortis’s payout ratio is about 70%.
- Annual dividend per share / Earnings per share
- $1.525 / $2.17 = 0.7028
So, Fortis retained about 30% of its earnings to grow its business or repay its debt, etc.
A lower payout ratio implies a safer dividend than a higher ratio. Read More