Traditionally, this is calculated as Annual Dividend Per Share divided by Earnings Per Share (EPS). I don't particularly care for this calculation. Due to all the odd accounting rules; EPS is not cash. Instead, I prefer to use a Free Cash Flow Payout Ratio.
Free Cash Flow has several different definitions, but the one I use is Operating Cash Flow less Capital Expenditures. These amounts are found on the statement of cash flows. Operating cash flow starts with Net Earnings and adjusts out non-cash items, such as depreciation and amortization, and non-operating items such as land sales.
Since a business can't continue in the long-term without capital spending (machinery and equipment, etc.), capital expenditures are subtracted from operating cash flow in calculating free cash flow. It is important to note, that only "normal" capital expenditures are deducted, not acquisitions. The decision to make an acquisition or divestiture is strategic, not operating.
Once calculated, Free Cash Flow is divided by diluted shares to put it on a per share basis. Finally, the annual dividend per share is divided by free cash flow per share to calculate the payout ratio. With the traditional EPS based payout ratio, many people consider 50% or below good. However, since a lot of the noise has been removed when using free cash flow, I consider a payout ratio of 60% or lower good.
The lower the payout ratio the more cash is available to increase the company's dividend. A low ratio is especially good during an economic downturn, when the amount of cash generated will likely be less.
Here are several stocks with a free cash flow payout ratio less than 30% and a yield greater than 2%:
Cummins Inc. (CMI) is a leading manufacturer of truck engines also makes stand-by power equipment and industrial filters.
FCF Payout Ratio: 2.1% | Yield: 2.7%
Bank of the Ozarks (OZK) owns Bank of the Ozarks, which provides retail & commercial banking products and services mainly in the southern United States.
FCF Payout Ratio: 18.4% | Yield: 2.9%
Arrow Financial Corp. (AROW) owns Glens Falls National Bank & Trust Company and Saratoga National Bank & Trust Company, which offer commercial and consumer banking and financial products in U.S.
FCF Payout Ratio: 7.1% | Yield: 3.1%
Community Trust Bank Corp. (CTBI) owns and operates Community Trust Bank, Inc., which provides commercial banking services in Kentucky, Tennessee and West Virginia; and a trust company.
FCF Payout Ratio: 29.5% | Yield: 3.6%
Wells Fargo & Company (WFC), with March 31 assets of $1.85 trillion, is the fourth largest U.S. bank, by global assets, but has the largest U.S. lending footprint.
FCF Payout Ratio: 29.7% | Yield: 3.9%
The data present above is in its raw form. Some of the the companies would be disqualified for poor dividend fundamentals. However some of the others may be worth some additional probing.
My database, D4L-Data, is an Open Office spreadsheet containing more than 20 columns of information on the 190+ companies that I track. The data is sortable and has built-in buttons and macros to make it easy to use. Companies included in the list are those that have had a history of dividend growth. The D4L-Data spreadsheet is a part of D4L-Premium Services and is updated each Saturday for subscribers.
Full Disclosure: Long CTBI, CMI,
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Tags: CMI, AROW, OZK, CTBI, WFC,
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