Is New World Development Company Limited (HKG:17) At Risk Of Cutting Its Dividend?

Simply Wall St

Could New World Development Company Limited (HKG:17) be an attractive dividend share to own for the long haul? Investors are often drawn to strong companies with the idea of reinvesting the dividends. Yet sometimes, investors buy a popular dividend stock because of its yield, and then lose money if the company's dividend doesn't live up to expectations.

A high yield and a long history of paying dividends is an appealing combination for New World Development. We'd guess that plenty of investors have purchased it for the income. Some simple research can reduce the risk of buying New World Development for its dividend - read on to learn more.

Explore this interactive chart for our latest analysis on New World Development!

SEHK:17 Historical Dividend Yield March 29th 2020

Payout ratios

Companies (usually) pay dividends out of their earnings. If a company is paying more than it earns, the dividend might have to be cut. Comparing dividend payments to a company's net profit after tax is a simple way of reality-checking whether a dividend is sustainable. In the last year, New World Development paid out 66% of its profit as dividends. This is a healthy payout ratio, and while it does limit the amount of earnings that can be reinvested in the business, there is also some room to lift the payout ratio over time.

In addition to comparing dividends against profits, we should inspect whether the company generated enough cash to pay its dividend. Last year, New World Development paid a dividend while reporting negative free cash flow. While there may be an explanation, we think this behaviour is generally not sustainable.

Is New World Development's Balance Sheet Risky?

As New World Development 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. New World Development has net debt of 7.90 times its EBITDA, which implies meaningful risk if interest rates rise of earnings decline.

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 9.69 times its interest expense appears reasonable for New World Development, although we're conscious that even high interest cover doesn't make a company bulletproof. Despite a decent level of interest cover, shareholders should remain cautious about the high level of net debt. Rising rates or tighter debt markets have a nasty habit of making fools of highly-indebted dividend stocks.

Remember, you can always get a snapshot of New World Development's latest financial position, by checking our visualisation of its financial health.

Dividend Volatility

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. For the purpose of this article, we only scrutinise the last decade of New World Development's dividend payments. The dividend has been stable over the past 10 years, which is great. We think this could suggest some resilience to the business and its dividends. During the past ten-year period, the first annual payment was HK$0.30 in 2010, compared to HK$0.51 last year. This works out to be a compound annual growth rate (CAGR) of approximately 5.4% a year over that time.

Dividends have grown at a reasonable rate over this period, and without any major cuts in the payment over time, we think this is an attractive combination.

Dividend Growth Potential

While dividend payments have been relatively reliable, it would also be nice if earnings per share (EPS) were growing, as this is essential to maintaining the dividend's purchasing power over the long term. New World Development's EPS have fallen by approximately 11% per year during the past five years. With this kind of significant decline, we always wonder what has changed in the business. Dividends are about stability, and New World Development's earnings per share, which support the dividend, have been anything but stable.

Conclusion

When we look at a dividend stock, we need to form a judgement on whether the dividend will grow, if the company is able to maintain it in a wide range of economic circumstances, and if the dividend payout is sustainable. First, we think New World Development has an acceptable payout ratio, although its dividend was not well covered by cashflow. Second, earnings per share have actually shrunk, but at least the dividends have been relatively stable. In summary, New World Development has a number of shortcomings that we'd find it hard to get past. Things could change, but we think there are a number of better ideas out there.

Companies possessing a stable dividend policy will likely enjoy greater investor interest than those suffering from a more inconsistent approach. Meanwhile, despite the importance of dividend payments, they are not the only factors our readers should know when assessing a company. To that end, New World Development has 4 warning signs (and 1 which is a bit unpleasant) we think you should know about.

We have also put together a list of global stocks with a market capitalisation above $1bn and yielding more 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.