Dividend cuts are typically bad news for shareholders - so anticipating them ahead of time can reduce risk and help improve portfolio performance.
There are lots of financial indicators that can help us evaluate the sustainability of a company’s dividend. Taking the best of these and applying them to Reckitt Benckiser (LON:RB.), which pays a 1.75 rolling dividend, raises questions about whether it can afford this dividend payment...
Reckitt Benckiser's (LON:RB.) heavily geared balance sheet
One way to analyse dividend safety is to focus on a company’s balance sheet strength. A highly leveraged company that struggles to meet its short-term liabilities is more likely to cut its dividend than a well-financed one.
A safe level of net gearing (net debt to equity) on the balance sheet is generally considered to be 50 percent or less. Reckitt Benckiser’s net gearing ratio is 113.7% - above the 50% threshold.
The current ratio (current assets / current liabilities ) gauges a company’s capacity to service short term debts. A current ratio of less than one can be cause for concern. Reckitt Benckiser's current ratio is 0.56 - below the 1.0x threshold.
Is Reckitt Benckiser's (LON:RB.) dividend cover below 1.0x?
Dividend cover is seen by many as the essential dividend health metric and is calculated by dividing earnings per share divided by dividend per share (EPS/DPS). The usual rule of thumb is that dividend cover of less than 1.5x earnings can become a concern.
- The rolling dividend cover is based on projected dividends and earnings. Reckitt Benckiser’s rolling dividend cover is 1.96.
- The historic dividend cover is, of course, based on historic dividends and earnings. Reckitt Benckisers’s historic dividend cover is -2.25.
One of these figures is below the 1.0x safety threshold for Reckitt Benckiser that we have set. This suggests that the dividend could be at risk.
Is the company struggling to generate cash?
Shareholders could take additional steps to analyse dividend safety by comparing Free Cashflows Per Share (FCF PS) with the Dividend Per Share (DPS). Reckitt Benckiser generated 1.37 in FCF PS. This is lower than the dividend per share of 1.75 and indicates that the company has not generated enough FCF to sustain dividends over the past twelve months.
Income investing: what you need to know
For many investors, dividends are a vital part of their long-term strategy. That's why we have created a variety of income-focused stock screens, such as the Best Dividends Screen, to identify promising candidates for income portfolios. Take a look and see if any of the qualifying stocks might be worthy of further research.
As for Reckitt Benckiser (LON:RB.), you can find a wealth of financial data on the group's StockReport, including information on the group's past and forecast dividend payments. If you’d like to discover more about dividend investing, you can read our free ebook: How to Make Money in Dividend Stocks.