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Yesterday's dividend payments do not guarantee tomorrow's dividend payments. On the contrary, if dividends exceed earnings there is a serious question as to whether a company can continue to disburse the same payments to its shareholders. Payout ratios (dividend payments divided by earnings) which are greater than 1 are cause for scrutiny: investors must find reasons to explain how this dividend yield is sustainable.

Unfortunately, owners of stocks which cut dividends might face a double whammy: reduced income and reduced stock prices. The drop in stock prices upon the announcement of a dividend cut is rationalized by academics as a signaling mechanism. Finance professors view a dividend cut as a way for management to express lowered company expectations to shareholders. In short, "money talks" and reduced dividend payouts result in lower income and lower capital gains.

Stock Selection Criteria

Payout ratios well above 1. This is used as a quick measure of dividend stability.

Distressed Altman Z-Scores. Each stock scored in the "distressed" zone according to the Altman Z-score.* This score places companies into three groups: "safe" (Z-score > 2.99), "grey" (Z-score between 2.99 and 1.81), and "distressed*" (Z-score < 1.81). This metric is surprisingly useful for identifying bankruptcy risk in the coming year. Atlman's method of segmenting companies uses fundamental (financial statement) data and market capitalization only. Beyond credit risk prediction, companies with higher Z-scores have been shown to outperform companies with lower Z-scores, in aggregate.

Caution should be applied to the following stocks:

Ticker

Company

Altman Z-score

Payout Ratio

P/B

P/E

BALT

Baltic Trading Limited

0.78

7.44

0.36

64.43

CNSL

Consolidated Communications Holdings

0.80

1.87

9.81

22.77

CTL

CenturyLink, Inc.

0.79

2.23

1.08

21.58

CV

Central Vermont Public Service Corp.

1.27

2.26

1.76

86.22

EEP

Enbridge Energy Partners LP

1.77

1.64

2.32

31.28

EP

El Paso Corp.

0.83

1.67

4.81

909

ETE

Energy Transfer Equity, L.P.

0.83

1.75

196.14

31.96

ETP

Energy Transfer Partners LP

1.34

2.73

1.96

35.7

FTR

Frontier Communications Corporation

0.69

4.98

0.93

29.73

KMP

Kinder Morgan Energy Partners LP

1.63

22.93

3.9

558.69

ORA

Ormat Technologies Inc.

0.83

1.82

0.86

177.3

OTT

Otelco Inc.

1.01

3.44

N/A

68.86

OTTR

Otter Tail Corporation

1.61

2.67

1.34

48.53

QUAD

Quad/Graphics, Inc.

1.46

2.04

0.47

73.53

RGC

REGAL ENTERTAINMENT GROUP

1.76

6.84

N/A

41.94

Dividend investors should be very cautious when considering these stocks. Giving more than 100% makes for good motivational slogans, but it is not a sustainable dividend policy.

*"Distressed" was a label coined by researchers, and should not be taken to mean that any company is bankrupt or in default on the basis of this calculation alone. Credit scoring is not fate, only prediction based on relative past performance of companies grouped by key variables. Time will tell.

Disclaimer: This article was written to provide investor information and education, and should not be construed as a guarantee or investment advice. I have no idea what your individual risk, time-horizon, and tax circumstances are: please seek the personal advice of a financial planner. This article uses third-party data and may contain approximations and errors. Please check estimates and data for yourself before investing.

Source: Burnout Payouts: Giving A Hundred And Ten Percent Is Not Sustainable