How to Evaluate the Numbers for Dividend Investments - dummies

How to Evaluate the Numbers for Dividend Investments

By Lawrence Carrel

Eeny, meeny, miny, moe is no way to pick dividend stocks. Savvy investors carefully inspect the company reports — balance sheet, income statement, and cash flow statement — and crunch the numbers to evaluate the company’s performance, at least on paper. As you prepare to evaluate a company, research the following figures or calculate them yourself by using numbers from the company’s quarterly report.

  • Current dividend per share (DPS): The quarterly cash payment each investor receives for each share of company stock he or she owns.

  • Indicated dividend: The projected annual dividend for the next year, assuming the company pays the same dividend per share for each quarter of the next year.

  • Dividend yield: A ratio that compares the amount the company pays out in dividends per share to its share price. You use yields to gauge a dividend’s rate of return. Yields move inversely to share price — that is, yields go up when share prices go down (and vice versa).

  • Earnings per share (EPS): The portion of a company’s profit allocated to each share of stock. If XYZ Company sold 2 million shares of stock and earned a profit of $1 million, it earned 50 cents per share, or $1 million/2 million shares = $0.50. A company that earns $1 per share is twice as profitable as the one that earned 50 cents a share.

  • Price-to-earnings ratio (P/E): The ratio of the share price to the annual earnings per share, which tells you how many dollars you need to invest to receive a dollar of the company’s profits.

  • Payout ratio: The percentage of a company’s net profit it pays to shareholders in the form of dividends. The payout ratio indicates whether the company is sharing more of its profits with investors or reinvesting it in the company.

  • Net margin: The ratio of net profits to net revenues, indicating the percentage of each dollar of sales that translates into a profit. High net margins typically indicate that a company has little competition and large demand for its products. This situation allows the company to charge a high price for its products or services.

  • Return on equity (ROE): The ratio of a company’s annual net profit to shareholder equity, ROE provides some indication of how effective a company is turning investor dollars into profits.

  • Quick ratio: An indication of a company’s liquidity or ability to meet its short-term financial obligations. The higher the ratio, the more likely it can afford to pay dividends moving forward.

  • Debt covering ratio: An indication of whether a company has sufficient operating income to cover its current liabilities, including payments on debt.

  • Cash flow: The difference in how much actual cash comes into the company during the quarter versus how much it pays out. A company can make a lot of sales in a quarter, but if clients don’t pay their bills, no cash comes into the firm.

Don’t evaluate a company based on one value. The numbers work collectively to paint a portrait of the company’s current financial status.