The current distribution of $0.44 comes out to a 6% yield.

Impressive.

What’s even more notable is the company’s ability to continue to hike the distribution in the future.

Enterprise Products Partners is a master limited partnership (MLP) that owns pipelines and provides other services to the oil and gas industry. MLPs pay distributions, not dividends.

Cash available for distribution (CAD) is forecast to be $5.94 billion this year. (CAD is a measure of cash flow used by MLPs.) That $5.94 billion figure is actually down a pinch from last year’s $5.99 billion, and SafetyNet Pro penalizes companies whose cash flows are projected to decline.

However, the company’s payout ratio, or the percentage of cash flow it pays out in distributions, is just 65%. That means the company has plenty of room to increase the distribution even if CAD slips in the future.

That gives me plenty of confidence that the company can continue to pay and likely increase the distribution.

The fact that Enterprise Products Partners has raised the distribution every year for 20 years gets it a bonus point from SafetyNet Pro, canceling out the penalty point for the slightly lowered cash flow forecast for 2019.

With the company’s comfortable payout ratio, more than sufficient cash flow and amazing distribution-paying track record, investors in Enterprise Product Partners have nothing to worry about when it comes to the safety of their distributions.

Dividend Safety Rating: A

If you have a stock whose dividend safety you’d like me to analyze, leave the ticker symbol in the comments section.

Good investing,

Marc

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One of the most common questions I get is: How can investors receive compounding returns? First, let’s take a look at savings accounts. Basic savings accounts tend to pay very little interest. A few pennies each month won’t add up to much. The idea is to put your money to work and start receiving compounding returns. Your basic goal is to earn interest on the interest. That is what they call compounding returns. This will grow your nest egg much faster.

Compounding Returns

Let’s dive a little deeper. Suppose you invest $5,000 in an investment account that earns 10% interest yearly. Leave the money in the account for a year and you’ll have $5,500. Don’t touch the account and the you’ll earn additional interest not only on the $5,000 of your initial investment, but also on the extra $500.

This is a good way to sock away funds you’re not in need of right now. If you are new to investing, you’ll need to start with the basics. Look into setting up a 401k, 403b or an IRA account. Over time, these investment accounts will continue to grow, earning compounding returns on the interest.

How can investors receive compounding returns?

If you’re wondering how you as an investor can earn compounding returns, you’ll need to look for investments that pay compounding returns rather that what is known as simple interest. Opting for simple interest gives you interest only on the basic investment capital of the investment. Compound interest adds an extra layer of interest and therefore an extra chance to earn more money from your investment capital. Many loans are based on simple interest. You take out a car loan and you agree to pay it back in a few years. You’re not charged the amount the capital would have earned in interest. This is something homeowners know all to well.

As an investor looking for compounding returns, your goal is to find an investment vehicle that offers you guaranteed compound interest. Look closely at the terms of any financial agreement in front of you. Most of the time, individuals in search of the highest possible rate of return on their capital, are better off with compounding returns. This will help you on your way to a wealthy retirement.

Good Investing,
– Robert

How can investors receive compounding returns?

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A share buyback, also known as a stock buyback or repurchase program, occurs when a company’s management repurchases shares of its own stock. It is an example of institutional buying. Because buying back stock reduces share count, it artificially inflates earnings per share and stock price. This is common practice for companies that have extra cash on hand.

How Repurchase Programs Can Benefit Investors

Traditional wisdom on stock buybacks suggests that increasing earnings per share also increases shareholder value. This is true if the buyback occurs when the stock is trading at a reasonable valuation. In this situation, a CEO would repurchase more shares of their company’s stock as its price fell. Consider this quote from a recent article by Marc:

For example, if a company earns $10 million and has 10 million shares outstanding, it earns $1 per share. If the company bought back five million shares and it earned $10 million, earnings per share rises to $2, even though the company didn’t earn an additional penny.

Problems with Share Buybacks

Often, instead of repurchasing stock at an attractive price, companies’ managements tend to buy back stock when it is at a high. For example, Wal-Mart‘s (NYSE: WMT) stock peaked in the fall of 2018, during which time management repurchased five times as much stock as it had previously. Qualcomm (Nasdaq: QCOM) followed the same pattern.

Buying back stock at its highs does not have the same benefits for shareholders as repurchasing stock at a lower value. In this case, the inflated success metrics only produce good publicity for the company.

Alternatives to Share Buybacks

Companies that have extra cash on hand can consider making an acquisition instead of repurchasing stock at an unreasonable value. Management can also consider initiating a dividend and handing the power to reinvest at a value back to its shareholders.

Using Dividend Reinvestment Plans, or DRIPs, investors can put their extra cash back into the company and accomplish the same goal that a reasonably-valued stock buyback would. To estimate profits from using a plan like this one, try using our Dividend Reinvestment Calculator.

A share buyback can benefit a company’s investors if it is timed correctly – but this is notoriously rare.

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How to Calculate the Dividend Payout Ratio

In order to calculate the dividend payout ratio, you will need to know the amount of yearly dividends paid out to the shareholders, also known simply as dividends, and the total yearly net income of the company, also known as net income or earnings per share. You want to divide the dividends by the earnings per share to get the ratio.

For example, let’s pretend stock “A” pays out a dividend of $4 per share per year and the company has yearly net earnings of $12 per share. You would then divide the dividend ($4) by the net earnings ($12) to get a dividend payout ratio of 33.33%. That means that a third of the money the company earns, as net income, is paid back to the shareholders.

Why is this Ratio so Important?

A dividend payout ratio is important because it shows how much money companies pay back to their shareholders. A dividend investor wants to buy a stock that will pay a reliable dividend over a long period of time. Therefore, the first piece of data the dividend investor will look at is the payout ratio.

Investors tend to look at payout ratio over the long term. For instance, if a stock has had a rising payout ratio over the last ten years, that indicates that the company will most likely continue to pay a rising dividend for the next several years… or income is dropping. In fact, a select group of dividend-paying stocks known as the “Dividend Aristocrats” distinguish themselves by raising dividends for at least a quarter-century.

What is the ideal payout ratio for a dividend stock?

Dividend investors seek to find a “sweet spot” when it comes to payout ratio. If the payout ratio is too low, that indicates that the company may have room to raise its dividend. It’s even possible for a dividend to have a payout ratio of 0%. That means the company isn’t paying a dividend or has negative earnings. They might be paying dividends from their bottom line. Many dividend investors see this type of dividend payment structure as unsustainable.

Conversely, a high dividend ratio indicates that the company is paying out more than 75% of their net income as dividends. Many investors see this as dividend payout structure as unsustainable and at risk for being cut in the future. The ideal dividend payout ratio lies between 35% to 55%. That means about a third to a little over a half of a company’s annual net earnings are paid out to shareholders.

Which Companies Likely Have Low Ratios?

A low dividend payout ratio signals a company that sows much of its profits back into the business.

In this group, you will find many younger, start-up firms. These rely upon the earnings as capital to expand product lines and services, especially those that have proven successful. To meet the demand for these products, the companies seek more equipment, supplies and employees. Manufacturers may expand the size of plants, while growing retailers acquire land or other buildings for stores. Newer companies often need marketing and advertising to expand name and brand recognition. The profits can aid these companies in those efforts.

You might find that some companies, even established ones, have small even miniscule payout ratios. Technology firms often populate this category. In fact, 2012 marked the first year since 1995 that technology bulwark Apple paid dividends.

This business approach reflects Apple’s emphasis on innovation that has produced desktops, laptops, phones and tablets and concern for the risk of diminished availability of cash.

Investors of biotech companies might not expect large dividends. The biotech sector produces medicines and crops. In fact, bio engineering processes account for more than 90 percent of the corn, soybeans and cotton grown in the United States.

As with other technology, the biotechnology sector relies heavily upon research and development. As such, profits are often devoted to such development efforts to sustain the enterprise.

Companies With High Dividend Payout Ratios

Investors of well established companies often see higher levels of dividends. The longer lived stalwarts and recognized brands have higher dividend payout ratios due to a combination of their products and the expectations of shareholders.

Companies with higher dividend payout ratios have developed over the years well recognized products and brands. These include manufacturers of soft drinks, batteries, personal care and household products, foods and other daily consumer staples. Oil and fuel companies also rank among those with the highest dividend payout ratios.

More established companies have made annual dividends a seemingly regular occurrence. As such, shareholders may deem skips in dividend payments or significant drops in the ratio as evidence of poor management or trouble for the company. This apprehension might reflect itself in lower share prices, which prices board may seek to prop through higher dividends.

What Ratio is Right?

The optimal or right ratio depends upon many factors and points of view. As an investor, you likely want the ratio to be as high as possible. You will likely have more dividend income. What may be right for the company maybe less.

Opinions of the proper ratio may vary by publication or investing expert. As a rule of thumb, consider a ratio between 35 percent and 55 percent to be a healthy one.

At this ratio, the company is generally paying up to half of its profits in dividends, while investing the other half in growth, expansion and maintenance of the business. Companies who pay out this ratio usually signal stability.

If you’re an investor and especially a startup or high tech firm, don’t think that ratios south of 35 percent are bad. In fact, companies with these small or zero ratios emphasize research, testing and development for products. The value to an investor is realized through the growth in the value of the business rather than through dividends.

Similarly, do not assume that high payout ratios indicate a valuable investment. When payouts rise above 55 percent, it may indicate for certain companies short-term appeasement of shareholders. With higher dividend payout ratios come less money retained for maintaining the business. Manufacturing and other businesses with considerable amount of physical capital need funds for maintenance and upgrades.

Excessive use of dividends reduce the availability of earnings for capital improvements and other business expansion. Thus, to grow the business, the company must borrow or garner more stockholders. Should the company opt for the former approach, the increased debt will also carry more interest expense and cut into profits — and the capacity for future dividends. Remember that bondholders and other creditors have a legal entitlement to be paid, whereas dividends generally are discretionary. Creditors thus have priority over shareholders when it is time for payments.

Pay special attention to dividend payout ratios that approach or even surpass 100 percent. Companies paying dividends at this rate likely will dip into cash reserves, borrow or sell certain assets to find the cash. Increasing debt for the sake of dividends further threatens the profitability of the business.

The Tax Consequences

The company’s dividend practices — as reflected in the dividend payout ratio — may have tax implications.

Federal tax law treats some dividends as ordinary income, along with wages or payments for services. Ordinary income carries a tax rate of ten percent to a maximum of 37 percent, depending on your total taxable income. By contrast, long term capital gains have a lower tax rate. If you hold your shares for longer than a year, the gain enjoys a lower capital gains rate. Shareholders pay either no tax, 15 percent or 20 percent tax on these gains, again dependent upon income.

Not all dividends fall under the ordinary umbrella. If your dividends are qualified, they get taxed at the capital gains rates rather than the ordinary tax rate.

Among the criteria for qualified dividends is the shareholder’s holding period. To satisfy the holding period requirement, you must hold the stock for at least 60 days of a 121-day period which starts 60 days before the “ex-dividend” day. This means you must own stock before this date to receive dividends declared for that year.

For example:
*Ex-dividend date of July 10
*Sixty days before July 10 is May 11
*121 days after May 11 is September 9

In this scenario, for your dividends to be “qualified” for lower tax rates, you must hold the stock for 60 days between May 11 and September 9.

Looking at the Big Picture

The dividend payout ratio should be just one of the factors in your investing decision. Using it as your primary criteria could lead you into poor investment outcomes.

The ratio takes two numbers — the dividends and earnings. If the latter number is low, it won’t take much of a dividend to produce a seemingly healthy or high ratio. However, excessive reliance on the ratio might mask problems that low net income reveals. These include low sales and high expenses resulting from inefficient operations, high interest rates and excessive debt. To judge a company’s efficiency, consider these two ratios:

*Gross profit ratio: Gross profit divided by total sales

This ratio indicates the company’s performance in controlling the costs of materials or other items that generate the revenues. A high ratio means that the business has efficient manufacturing or service delivery processes and controls the cost of inventory, supplies and employees involved in production or rendering of the services.

*Net profit ratio: Post-tax net profit divided by total sales
A low ratio indicates that the company has problems with administrative overhead. It might portend of too many positions in management or too much spent on matters that, at best, are tangentially related to earning revenues. Also, excessive debt or poor tax planning by the company may factor into a low net profit ratio.

The dividend payout ratio also depends on the availability of sufficient cash. For the company’s earnings to translate to dividends, these earnings must become cash. The cash flow margin ratio measures how well a company can turn profits into cash:

*Cash flow margin = Cash flows from operating activities divided by net sales.

Sales come not only from cash, but from credit. On a balance sheet, the credit sales are reflected in accounts receivables. This figure represents what the company is owed. A lower number relative to the total sales means that the company is adequately collecting its debts or receiving cash for its sales. The cash flow margin uses net sales to account for discounts and returns.

The dividend payout ratio affords valuable insights into a company’s strategy and financial condition. However, expand your research of a company’s finances and performance with other ratios and examination of financial statements such as the balance sheet and the income statement.

If you’re interested in learning more about dividend investing, check out our unique dividend investing articles.

Good investing,

Rob

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If you follow the stock market long enough, you’ll notice that some companies issue a special dividend. It might seem strange for a firm to set aside money for a one-time payout to shareholders, but there are a number of situations where it’s advantageous to do so. Let’s look at what a special dividend is and why some businesses prefer to pay them.

What Makes a Special Dividend Special?

When a company issues a one-time dividend, it usually does so with cash or additional shares. If the amount is less than 25% of the stock’s value, the company is obligated to set a record date and an ex-dividend date. The ex-dividend date ensures that only those who hold the stock prior to the date are paid. Also, special dividend payments tend to be much larger than normal dividends.

Tax considerations are different when it comes to special dividends. Many investors treat regular dividends as long-term capital gains, but a special one often isn’t. Some IRA and 401(k) holders get special tax deferments, although they don’t benefit from the cash issuance. In general, the government treats special dividends as returns on capital. Shareholders usually receive a 1099-DIV. But on the upside, the issuance of stock does not lead to a change in a shareholder’s basis cost.

You can learn more about dividend taxes by checking out this link on IRS.gov.

Market Reactions

As is the case with most dividends, the market tends to mark the price of the stock down by the amount of the dividend. If a firm, for example, issues a $2 per share payout, its share price will see a similar drop. In fact, these drops often occur well before payouts if the market sees them coming.

No Long-Term Obligations

Some firms, such as Diamond Offshore Drilling (NYSE: DO), have gone to issuing one-time dividends on a quarterly basis. Investors consider them special dividends because the company takes the time to schedule them as such. The advantage for a drilling company is simple. The industry is cyclical and it’s hard to pay consistent dividend amounts. Also, reversing a declared dividend can be a lengthy process. If a firm is worried about cash flow problems, it can simply stop scheduling the special dividend. This helps a company respond to macro trends outside of its control.

Reorganization

Some companies free up cash when reorganizing through mergers, acquisitions and spinoffs. The company can then use the surplus of cash as a special dividend. For example, SAIC spun off a part of its business in 2013, and prior to the change in organization, SAIC issued a special disbursement.

Rewarding Shareholders

Apple (Nasdaq: AAPL) has a long history of being stingy with dividends. Its cash on hand represents more than a good chunk of the company’s overall market cap. In return for shareholders being patient with the firm’s low payouts on regular dividends, Apple occasionally issues special ones.

Microsoft (Nasdaq: MSFT) took a similar tactic in 2004 when it issued $32 billion in cash to its shareholders. In the case of Microsoft, it appears the intent was to reward board members. They wanted to take some cash out before heading in different directions.

Annual Payouts

Some firms prefer to pay decent quarterly dividends on a regular basis and then do annual special disbursements. Ford (Nasdaq: F), for example, has often elected to issue an annual dividend as a special payment, calculating the amount to be roughly 50% of adjusted EPS.

Conclusion

Special dividends can help companies navigate unique situations and reward shareholders. They also allow firms to maintain tighter control over when to make cash disbursements.

To learn more about dividend investing, check out our recent dividend research articles.

Good investing,

Rob

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Difference between a Dividend Reinvestment Plan and a Dividend

Most shareholders receive their dividend payment in the form of a cash payment or a payment into a direct deposit account. If the shareholder has an account at a brokerage firm, the cash payment will be made to the shareholder’s brokerage account.

If the shareholder opts for the dividend reinvestment plan, the shareholder will receive the shares or the fractional shares from the company’s own stock reserve. Therefore, that stock is usually not available through a stock exchange. Though the shareholder never actually takes possession of the stock, they must report it as taxable income. Not all companies offer a dividend reinvestment plan. However, many brokerages will allow you to reinvest your dividend payment in any shares that shareholder has in his investment account.

Shareholder Advantages

For the shareholder, there are many advantages to choosing a dividend reinvestment plan. One of the biggest advantages is the ability for the shareholder to accumulate shares of the stock without having to pay a commission. Also, some companies offer a discount when shareholders opt into a DRIP. That discount can range from 1% to 10% of the current share price. When you combine the company discount with the lack of commission, the benefits for a long-term shareholder can be significant.

Over the long term, the shareholder gains a huge advantage when you factor in the compounding returns. This is especially the case if the company regularity increases the dividend payment. If the dividends are increased, then that increases the number of shares the shareholder can receive in a DRIP plan.

Company Advantages

In addition to the shareholder, the company also has some advantages for participating in a dividend reinvestment plan. The biggest advantage is the capital the company can gain when shareholders use their dividend payments to acquire more shares. The other big advantage for companies is that a shareholder is less likely to sell a stock that is participating in a DRIP plan.

Automatically reinvesting dividends is a powerful strategy. To learn more about dividend investing, check out our dividend investing articles.

Good investing,

Rob

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An Example of a Property Dividend

Let’s say a company known as entity “A” has 20,000 shareholders. Entity A decides to distribute a property dividend to each of its shareholders on March 1 and to shareholders of record on February 20. The company’s asset is worth $1,000 to each of its shareholders. Multiplying the number of shareholders by the worth of each dividend gives a total asset value of $20 million dollars. Each individual shareholder may decide to hold onto the asset or to sell.

So what kind of non-cash asset can companies distribute to the shareholders? A company may decide to distribute samples of a product it sells to its shareholders. Or the company may decide to distribute shares of a subsidiary company to the shareholders. As long as the asset the company distributes is not cash, scrip, or shares, the investors consider the payment a property dividend.

How the Property Dividend Process Works

This type of dividend needs approval much like that of a cash dividend. The board of directors must approve the dividend. The company is also required to have the assets before the property dividend is declared. The company must record this type of dividend at fair market value. The fair market value can be determined by a professional appraisal, a quoted market price or a comparison to a similar asset. Finally, the company must recognize a gain or a loss once the asset is distributed.

You can learn about dividend taxation by checking out the IRS.gov website.

When to Consider a Property Dividend

So what is the advantage of receiving a non-cash dividend for the shareholder? A non-cash dividend can allow the shareholder to defer or reduce their taxes. Also, the shareholder can hold the asset without having to liquidate.

From the company’s perspective, this type of non-cash dividend can make sense if the fair market value of the asset is much different from the book value. The difference between the fair market value and the book value can allow the company some flexibility when reporting taxable income.

If you’re interested in learning more about dividend investing, check out our unique dividend investing articles.

Good investing,

Rob

The post Property Dividend: Non-Cash Dividends appeared first on Wealthy Retirement.