The Economist wrote in the aftermath of the 2008 financial crash that the crisis had led to the largest number of dividend cuts and suspensions since the Great Depression of the 1930s.
Income investors were reminded of the fact that dividend payments are far from certain. This type of risk doesn’t go away. People just forget about it for a while. Then, before you know it, one of your “safe” companies has issued a profit warning and is cutting its dividend.
Take UK betting companies. The sector's fixed odds betting terminals were a license to print money (or rather, take money off consumers). Changing legislation has completely transformed the profitability of retail betting estates around the country. For William Hill, this meant plummeting from net income of £142.2m to a massive net loss of £716.1m. Given this change in fortunes, surely the prospects are not good for the group's dividend...
One of the quickest ways to check is to look at the dividend cover (earnings per share divided by dividend per share). Dividend cover is the inverse of the dividend payout ratio. Dividend cover of two times or above is strong. Anything below one and a half times - as is the case for William Hill - should be stirring us to investigate in more detail.
Calculating William Hill’s dividend cover ratio
A low level of dividend cover means that a small decline in earnings could consign your dividend payment to the scrap heap. It happens all the time. With that in mind, let’s take a look at William Hill’s (LON:WMH) dividend cover.
We can get all the information we need to see if William Hill has an adequate level of dividend cover from the group’s StockReport. The group’s FY18 earnings per share were -83.7p and its FY18 dividend per share were 12p.
Divide the former by the latter and we get an FY18 dividend cover for William Hill of -6.96. This is below the 1.5 times cover limit that marks the point at which we should do some further digging on dividend sustainability and safety. Even if we take next year's forecast earnings of 11.2p and the forecast dividend payment of 9.02p, we get a dividend cover of 1.25 times.
Disclaimer: These articles are provided for information purposes only. The content is not intended to be a personal recommendation. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser. The author has no position in the stocks mentioned, unless otherwise stated.