Not All Dividends Are Worth It

by: Alberto Quintana

I'm subscribed to Dividend Quick Picks and Lists within Seeking Alpha. It's a great way of being informed of new articles of my interest. Sometimes, I receive an appealing list of possible picks based on high dividend yields for the short term. However, the use of dividends exclusively as an investment engine might not be a good idea. Why? First, because when a dividend is paid, the stock goes down accordingly to avoid arbitrage opportunities. Second, it's very difficult to steadily time the market, and the only way to become consistent as an investor is buying good companies that know how to share their earnings with their stockholders. The key words are "good companies".

Here, we will show a list of nine stocks with very high dividends. I wouldn't buy most of them, though. The reasons are explained below:

1. Life Partners Holdings (NASDAQ:LPHI). The first thing we notice is that the company loses money (EPS -0.167). Life Partners Holdings, Inc.'s revenues decreased 5% to $83.3M. Net income decreased 3% to $22.8M. Revenues reflect a decrease in income from operations. So, why is it paying such a huge dividend (21.2%)? Of course, the ratios are negative, and Piotroski score, an easy way of determining the strength of a company, shows a perfect 0/9, with high probabilities of default. A high dividend payment could represent an attempt to attract uninformed investors.

2. Highway Holdings (NASDAQ:HIHO). This is another company that almost gets even (Basic Earnings per Share excluding Extraordinary Items decreased from $0.10 to $0.03), but pays a very high dividend, 18%. Highway Holdings Limited revenues decreased 18% to $5.3M. Net income decreased 66% to $129K in the last six months, and scores a low 2/9 in the Piotroski index. Again, it is a very risky bet.

3. Hugoton Royalty Trust (NYSE:HGT). The first stock that has profits (personally it's my first filter) and good dividend, 16.4%. However, the perspective is not very clean. For the six months ended 30 June 2012, Hugoton Royalty Trust revenues decreased 39% to $17M. Its sales and EPS went down more than 50% in comparison with the same quarter last year. According to these figures, it seems its business is rapidly declining.

4. Ellington Financial (NYSE:EFC). Company that manages mortgage-related assets with a dividend yield of 12.4%. The risk here is the product itself if we see another downturn in the economy, though it's doing relatively well. It has almost no debt and a Return On Equity of 11%. The market shows its appreciation with a steady increase during this year. If you don't mind getting involved in mortgages, it could be an option.

5. Roundy's (NYSE:RNDY). This is one of these too-good-to-be-true stocks. This grocery company has a huge debt problem, despite the recent IPO: total debt to equity is 238 (competitors 55). The Quick ratio measures the availability a company has to meet its short-term obligations. Roundy's Quick ratio is 0.35 and it should be more than 1 to be considered safe. The present high dividend could represent an effort to keep the IPO initial price. However, with its EPS (MRQ) vs. Qtr. 1 Yr. ago declining by 19.98% and using most of the earnings to pay the dividend, we estimate the dividend won´t be sustainable.

6. Knightsbridge Tankers (VLCCF). It has a very irregular dividend, this time 10.5%. It only owns 8 ships to transport mainly oil and dry bulk. Lovely dividend of 10% with a payout ratio of ... 144%. Dividends must be paid out of earnings or retained earnings, so if the company continues to pay more in dividends than it earns (payout ratio > 100), it will draw down retained earnings and will eventually be unable to continue the dividend. It is a very high payout ratio, mainly when its business is decreasing: EPS (TTM) vs. TTM 1 Yr. Ago -32%. Small, dependent company with a dividend trap. Not recommended.

7. Prospect Capital (NASDAQ:PSEC). It could be the best buy of the list with a dividend of 10.6%. As the markets are dry (banks are not easily lending money), this company found a niche by lending to private small and medium firms. So far, it has done really well, with a big increase in earnings from the previous year: revenues increased 89% to $320.9M, while net income increased 61% to $190.9M. It scores 5/9 in the Piotroski index, which is reasonable. Besides, it has low P/E (6.9) and trades steadily upwards the last 12 months.

8. Dominion Resources Black Warrior Trust (NYSE:DOM). For the three months ended 31 March 2012, Dominion Resources Black Warrior Trust revenues decreased 17% to $1.7M. Net income decreased 20% to $1.4M. That's not a good start. Piotroski score shows a small 3/9. All the above is driving its dividend down: dividend per share decreased from $0.23 to $0.18. Risky business.

9. Partner Communications (NASDAQ:PTNR). Despite its incredible dividend of 21%, its EPS vs. TTM 1 Yr. ago declined 76% (it's not a typo). Besides, it owns a huge debt (more than 600% over equity). These figures are not reasonable under normal investing standards and represent a casino-type bet.

So, to sum up, nine companies have been chosen based on their high dividends just to show that buying most of them represents a serious threat for retail investors. In general, buying stocks based exclusively on high dividends is riskier than investing in good companies. The stock market is very complicated, and money is very competitive, so, please, when investing, do your own research. Don't even trust what an expert writes. It could be a good starting point, but further study will be required.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.