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Do Investors Have Good Reason To Be Wary Of BCE Inc.'s (TSE:BCE) 5.3% Dividend Yield?

Simply Wall St

Is BCE Inc. (TSE:BCE) a good dividend stock? How can we tell? Dividend paying companies with growing earnings can be highly rewarding in the long term. If you are hoping to live on the income from dividends, it's important to be a lot more stringent with your investments than the average punter.

A high yield and a long history of paying dividends is an appealing combination for BCE. We'd guess that plenty of investors have purchased it for the income. Some simple analysis can reduce the risk of holding BCE for its dividend, and we'll focus on the most important aspects below.

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TSX:BCE Historical Dividend Yield, January 4th 2020

Payout ratios

Dividends are typically paid from company earnings. If a company pays more in dividends than it earned, then the dividend might become unsustainable - hardly an ideal situation. As a result, we should always investigate whether a company can afford its dividend, measured as a percentage of a company's net income after tax. In the last year, BCE paid out 95% of its profit as dividends. This is quite a high payout ratio that suggests the dividend is not well covered by earnings.

In addition to comparing dividends against profits, we should inspect whether the company generated enough cash to pay its dividend. BCE paid out 76% of its cash flow last year. This may be sustainable but it does not leave much of a buffer for unexpected circumstances. It's good to see that while BCE's dividends were not well covered by profits, at least they are affordable from a free cash flow perspective. Even so, if the company were to continue paying out almost all of its profits, we'd be concerned about whether the dividend is sustainable in a downturn.

Is BCE's Balance Sheet Risky?

As BCE's dividend was not well covered by earnings, we need to check its balance sheet for signs of financial distress. A quick check of its financial situation can be done with two ratios: net debt divided by EBITDA (earnings before interest, tax, depreciation and amortisation), and 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 2.61 times its EBITDA, BCE has a noticeable amount of debt, although if business stays steady, this may not be overly concerning.

Net interest cover can be calculated by dividing earnings before interest and tax (EBIT) by the company's net interest expense. Net interest cover of 5.07 times its interest expense appears reasonable for BCE, although we're conscious that even high interest cover doesn't make a company bulletproof.

We update our data on BCE every 24 hours, so you can always get our latest analysis of its financial health, here.

Dividend Volatility

Before buying a stock for its income, we want to see if the dividends have been stable in the past, and if the company has a track record of maintaining its dividend. BCE has been paying dividends for a long time, but for the purpose of this analysis, we only examine the past 10 years of payments. During the past ten-year period, the first annual payment was CA$1.54 in 2010, compared to CA$3.17 last year. Dividends per share have grown at approximately 7.5% per year over this time. The dividends haven't grown at precisely 7.5% every year, but this is a useful way to average out the historical rate of growth.

Dividends have grown at a reasonable rate, but with at least one substantial cut in the payments, we're not certain this dividend stock would be ideal for someone intending to live on the income.

Dividend Growth Potential

With a relatively unstable dividend, it's even more important to evaluate if earnings per share (EPS) are growing - it's not worth taking the risk on a dividend getting cut, unless you might be rewarded with larger dividends in future. Earnings have grown at around 5.4% a year for the past five years, which is better than seeing them shrink! Although per-share earnings are growing at a credible rate, virtually all of the income is being paid out as dividends to shareholders. This is okay, but may limit growth in the company's future dividend payments.

Conclusion

To summarise, shareholders should always check that BCE's dividends are affordable, that its dividend payments are relatively stable, and that it has decent prospects for growing its earnings and dividend. We're a bit uncomfortable with its high payout ratio, although at least the dividend was covered by free cash flow. Unfortunately, earnings growth has also been mediocre, and the company has cut its dividend at least once in the past. With this information in mind, we think BCE may not be an ideal dividend stock.

Companies that are growing earnings tend to be the best dividend stocks over the long term. See what the 17 analysts we track are forecasting for BCE for free with public analyst estimates for the company.

Looking for more high-yielding dividend ideas? Try our curated list of dividend stocks with a yield above 3%.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.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.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Thank you for reading.