Corporate management can often paint a rosy picture complete with optimist earnings guidance. But these forecasts are often biased to the upside. This is why cash dividends are important to investors. They provide a tangible measure of a company's success and a signal of future corporate stability. When companies raise dividends, this is a tangible signal of future strength. When a company decreases its dividend, it signals future fundamental weakness. Beware of the dividend paying stocks listed below. We speculate that their yields could be at risk.
1. Nokia Corp (NOK)
Dividend: $0.46 / 7.00%
The cellphone maker has had a rapid fall from grace. Despite still being one of the world's largest smart phone and cell phone makers, the company stock price dropped from around $40 in early 2008 to the current price of around $6. During this period, total cash dividends paid have decreased from $2.887 billion to $2.038 billion but the dividend spiked because of the dramatic stock price decline.
More recently, the negative thesis continued to play out as Texas Instruments (TI) reported weaker than expected guidance, in part because of Nokia's weak demand.
Nokia has been the focus of recent buyout rumors, one involving Microsoft Corp (MSFT) and the other involving Samsung (OTC:SSNLF). While the rumors have done little to halt the stock price's downward trend, trading volume has jumped. Investors should be cautious. An acquisition by a more established technology company may be positive for shareholders if it is done at a meaningful premium in cash. But buyout rumors actually increase the risk to income investors if the acquisition is paid for in stock because potential acquirers likely have lower dividend yields.
Nokia could turn out to be a great investment for a contrarian investor. The company has a history of success and its new development partnership with Microsoft allows it to continue to benefit from the secular growth of the smart phone and mobile device industry.
2. Newmont Mining (NEM)
Dividend: $0.80 / 1.50%
The Canadian gold and copper mining company has continued to grow and prosper along with rising commodity and precious metal prices and as such it may be an unlikely name for this list. Newmont Mining's dividends per share were $0.40 from 2006 to 2009 before increasing to $0.50 in 2010. During that same period, SPDR Gold Shares (GLD) have nearly tripled from $54 to $149. If gold prices continue to rise, so will dividends because of Newmont's dividend payment policy. Annual payouts increase at a rate of $0.20 per share for each $100 per ounce rise in gold price. If you are bearish of gold prices, this dividend could be very susceptible.
Even with a modest decline in gold prices, Newmont's dividend-paying capacity could be constrained by future mine investment projects in Canada, Ghana and Peru. In addition, the company expects to pay a significant amount upfront for its Long Canyon purchase from Frontier. A large collapse in commodity and gold prices could seriously hurt a company's dividend paying ability. This is especially true with Newmont Mining because it purposely avoided spot price hedging so that investors are fully leveraged to the gyrations of the underlying prices.
3. Southern Copper Corporation (SCCO)
Dividend: $2.24 / 7.30%
Southern Copper is one of the top copper stocks in the marketplace. It has a long history of strong dividends and high payout ratios, but despite the relative strength in copper prices, the company's dividends may be stretched. Trailing twelve month diluted earnings per share are around $1.94 and dividends during the same period were $1.94. The last time the dividend payout ratio reached 100% was in 2008 and in the following year, the payout ratio dropped to 40%. This was an unusual situation because of the volatility of the financial crisis, but it may be reasonable for some investors to believe that the same forces that drove commodity prices higher and lower during that period are still relevant in today's market place. In addition, this company also carries some geopolitical risks because of its massive exposure to Mexico and Peru.
The company trades at a trailing P/E of 16.24 and a forward P/E of 8.47. Like Newmont Mining, an investor's views of Southern Copper's dividend are largely dependent on their view of the underlying commodity.
4. EarthLink Inc (ELNK)
Dividend: $0.20 / 2.60%
The company provides internet services and access to retail and business clients. EarthLink already reduced its quarterly dividend in January 2011 to $0.05 per share.
Between 2006 and 2010, revenues dropped from $1,301 million to $622 million. During that same period, the company was still able to expand margins by reducing operating costs and expenses. While annual subscriber numbers have dropped, the company's average monthly revenue per user has remain consistent, around $21. In 2010, business services contributed $160.76 million of revenue. While the business services segment provides some stability to the company's top line, investors need to keep track of EarthLink's indebtedness. As of December 31, 2010, the company had $325 million 10.5% senior secured notes due 2016 and $255.8 million EarthLink notes.
As of December 31, 2010, the company had net federal tax operating losses of $515.9 million and $776.6 million for state income tax purposes. Because of these assets, it is vital for management to continue growing the company's businesses, both organically and through acquisitions, so that EarthLink can fully utilize the value of those tax assets.
In the near term, financial performance is supposed to decline sharply. Forward P/E is expected to spike to 43.7 from a trailing P/E of 11.59.
5. SuperValu Inc (SVU)
Dividend: $0.35 / 4.00%
The supermarket chain operates a high profile portfolio of brands including: Jewel-Osco, Save-A-Lot, Shaw's and Albertson's. The company's stock price is under pressure largely because of debt burdens accumulated during an acquisition spree that took place before the 2008 financial crisis.
This stock has contrarian upside for investors who think the end of QE2 can reduce speculative pressures on commodity prices. If this comes true, SuperValu could benefit meaningfully on two fronts: With lower energy prices, shoppers will have more money to spend on higher margin food products. This will boost sales and margins. In addition, lower input costs would improve the margins across the board.
Despite this potential for upside, income investors should be cautious of the dividend. Interest expenses were $554 million in fiscal year 2010 compared to sales of $37.5 billion and EBITDA of $2 billion. Ultimately, with such large financing costs, the $74 million in cash dividends could easily be eliminated if there is further financial distress. SuperValu is ready for upside but also has little room for error. Investors may be drawn to the underlying company's turnaround story, but they should think twice if the investment thesis centers on the dividend.
Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in SVU, NOK over the next 72 hours.