I am new to dividend stocks investing and from what i understood that payout ratio under 50% is excellent, between 50-70% is good and above 70 is risky.
Trying to read more and see recommendations, i see many recomendations on stocks that their payout ratio is over 90% and sometimes even a lot more then 100%.
For example , in Fool i found article recommending Clearway energy as dividend stock while their payout ratio is 320%… What am I missing? how can a stock with such high ratio can be a safe dividend?
Some stocks are in industries where it is very common to have high up front capital costs but modest operating costs. Typical ones like that are real estate and energy pipelines.
Thanks to the accounting concept of “depreciation and amortization”, from an accounting perspective, those high up front capital costs are spread out over the expected lifespan of the assets. That holds back their reported earnings during the d&a window. In that time, they can generate a ton of cash but show only modest accounting earnings, leading to an ability to sustain a higher than normal payout ratio for a fairly long time.
In other cases, companies hit a short term bump in the road, and for a brief window, can’t cover their dividends from their earnings for a short time. If they really believe in a recovery and if their balance sheet supports it, they can pay a high payout ratio to maintain their dividend until they pass the bump.
And in still other cases, a high payout ratio is a sign of a dividend about to get cut…
In any case, it’s certainly a signal to dig deeper before making an investment decision.
You can easily estimate the payout of a stock by multiplying the %yield of the dividend by the PE. This gives per centage of earnings paid out as the dividend. Most companies will not borrow money to pay the dividend. And they often need to invest earnings in the business. So companies paying more than about 50% of earnings in dividends are at risk of cutting their dividend.
That applies to most typical stocks. But there are some that get funds from other sources such as depreciation. There can be a few exceptions but be very careful to research those stocks.