Dividend paying stocks like Duke Realty Corporation (NYSE:DRE) tend to be popular with investors, and for good reason - some research suggests a significant amount of all stock market returns come from reinvested dividends. If you are hoping to live on your dividends, it's important to be more stringent with your investments than the average punter. Regular readers know we like to apply the same approach to each dividend stock, and we hope you'll find our analysis useful.
A 2.6% yield is nothing to get excited about, but investors probably think the long payment history suggests Duke Realty has some staying power. Before you buy any stock for its dividend however, you should always remember Warren Buffett's two rules: 1) Don't lose money, and 2) Remember rule #1. We'll run through some checks below to help with this.
Dividends are usually paid out of company earnings. If a company is paying more than it earns, then the dividend might become unsustainable - hardly an ideal situation. Comparing dividend payments to a company's net profit after tax is a simple way of reality-checking whether a dividend is sustainable. Duke Realty paid out 60% of its profit as dividends, over the trailing twelve month period. This is a fairly normal payout ratio among most businesses. It allows a higher dividend to be paid to shareholders, but does limit the capital retained in the business - which could be good or bad.
We also measure dividends paid against a company's levered free cash flow, to see if enough cash was generated to cover the dividend. Duke Realty paid out 59% of its cash flow as dividends last year, which is within a reasonable range for the average corporation. It's positive to see that Duke Realty's dividend is covered by both profits and cash flow, since this is generally a sign that the dividend is sustainable, and a lower payout ratio usually suggests a greater margin of safety before the dividend gets cut.
It is worth considering that Duke Realty is a Real Estate Investment Trust (REIT). REITs have different rules governing their payments, and are often required to pay out a high portion of their earnings to investors.
Is Duke Realty's Balance Sheet Risky?
As Duke Realty has a meaningful amount of debt, we need to check its balance sheet to see if the company might have debt risks. A rough way to check this is with these two simple ratios: a) net debt divided by EBITDA (earnings before interest, tax, depreciation and amortisation), and b) net interest cover. Net debt to EBITDA is a measure of a company's total debt. Net interest cover measures the ability to meet interest payments. Essentially we check that a) the company does not have too much debt, and b) that it can afford to pay the interest. With net debt of 5.62 times its EBITDA, Duke Realty could be described as a highly leveraged company. While some companies can handle this level of leverage, we'd be concerned about the dividend sustainability if there was any risk of an earnings downturn.
We calculated its interest cover by measuring its earnings before interest and tax (EBIT), and dividing this by the company's net interest expense. Interest cover of 3.28 times its interest expense is starting to become a concern for Duke Realty, and be aware that lenders may place additional restrictions on the company as well. High debt and weak interest cover are not a great combo, and we would be cautious of relying on this company's dividend while these metrics persist. That said, Duke Realty is in the real estate business, which is typically able to sustain much higher levels of debt, relative to other industries.
Consider getting our latest analysis on Duke Realty's financial position here.
One of the major risks of relying on dividend income, is the potential for a company to struggle financially and cut its dividend. Not only is your income cut, but the value of your investment declines as well - nasty. Duke Realty has been paying dividends for a long time, but for the purpose of this analysis, we only examine the past 10 years of payments. This dividend has been unstable, which we define as having fallen by at least 20% one or more times over this time. During the past ten-year period, the first annual payment was US$1.94 in 2009, compared to US$0.86 last year. The dividend has shrunk at around 7.8% a year during that period. Duke Realty's dividend hasn't shrunk linearly at 7.8% per annum, but the CAGR is a useful estimate of the historical rate of change.
When a company's per-share dividend falls we question if this reflects poorly on either external business conditions, or the company's capital allocation decisions. Either way, we find it hard to get excited about a company with a declining dividend.
Dividend Growth Potential
With a relatively unstable dividend, and a poor history of shrinking dividends, it's even more important to see if EPS are growing. It's good to see Duke Realty has been growing its earnings per share at 73% a year over the past five years. With recent, rapid earnings per share growth and a payout ratio of 60%, this business looks like an interesting prospect if earnings are reinvested effectively.
To summarise, shareholders should always check that Duke Realty's dividends are affordable, that its dividend payments are relatively stable, and that it has decent prospects for growing its earnings and dividend. Duke Realty's is paying out more than half its income as dividends, but at least the dividend is covered by both reported earnings and cashflow. We were also glad to see it growing earnings, but it was concerning to see the dividend has been cut at least once in the past. In sum, we find it hard to get excited about Duke Realty from a dividend perspective. It's not that we think it's a bad business; just that there are other companies that perform better on these criteria.
Earnings growth generally bodes well for the future value of company dividend payments. See if the 8 Duke Realty analysts we track are forecasting continued growth with our free report on analyst estimates for the company.
Looking for more high-yielding dividend ideas? Try our curated list of dividend stocks with a yield above 3%.
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If you spot an error that warrants correction, please contact the editor at email@example.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.