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Are my dividends or distributions in trouble?

Posted by admin on January 29, 2009 in Dividends

What most of us seek more than anything else is some certainity in our investments. While dividends are typically referred to as “sticky” (in that once declared they are difficult to decrease without a lot of damage to the company), are there ways to know that your dividend or distribution may be decreased in the near future?

There are at least some warning signs to watch with the caveat that regulators seemed to have turned a blind eye recently to some not so forthcoming press releases indicating everything is fine and then mere weeks or months later, a company slashes its dividend. But what can you watch for as warning signs in bad times?

• Large issuance of shares: More relevant in income trusts than dividend paying stocks. If shares are continuingly issued which are not part of a dividend reinvestment program, it could indicate that the company is robbing Peter (the new shareholders/unit-holders) to pay Paul (the old shareholders/unit-holders) especially if shares are being issued over and over during a long period of time.
• Large cut in capital expenditure. Here is Bank of America’s cash flow statement for fiscal 2008. See capital expenditure go to $0 in Q1 and Q2 2008? A dramatic drop in cap ex indicates the company needs to horde cash drastically and is often accompanied by a dividend decrease. A steady drop in cap ex for capital intensive companies (real estate, railways, utilities) is also not good since they are not maintaining the assets which produce revenue.
• Credit lines being drawn down on: The Globe and Mail wrote about the relationship between energy trusts and credit lines yesterday. Companies which are steadily drawing on credit lines may be tipping off investors that there is a cash flow crunch which would affect the dividend or distribution going forward.
• Falling commodity prices. Mostly affects energy trusts since, obviously, profits are often a function of commodity prices.
• Continual asset sales. There is a fine line between selling divisions to focus on core competences and selling divisions for cash.
• Not a subject to the three kings of cash: cash on hand, cash flow and working capital are the three kings of cash. If all three are declining, it is not a good sign.

What happens if a dividend is decreased. The Dividend Guy proposes some options.