Here’s why we’re reluctant to buy Telecom Plus (LON: TEP) for its next dividend

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Telecom Plus Plc (LON: TEP) is set to trade ex-dividend within the next 4 days. Typically, the ex-dividend date is one business day prior to the record date which is the date a company determines which shareholders are eligible to receive a dividend. The ex-dividend date is important because any share transaction must have been settled before the registration date to be eligible for a dividend. Thus, you can buy Telecom Plus shares before December 2 in order to receive the dividend that the company will pay on December 17.

The company’s next dividend payment will be £ 0.27 per share. Last year, in total, the company distributed £ 0.57 to shareholders. Looking at the last 12 months of distributions, Telecom Plus has a rolling return of around 3.9% on its current price of £ 14.46. We love to see companies pay a dividend, but it’s also important to be sure that laying the golden eggs is not going to kill our goose that lays the golden eggs! It is necessary to see if the dividend is covered by the profits and if it increases.

Check out our latest review for Telecom Plus

Dividends are usually paid out of business income, so if a business pays more than it earned, its dividend is usually at risk of being reduced. Telecom Plus last year distributed 146% of its profits in the form of dividends to shareholders. Without more sustainable payment behavior, the dividend seems precarious. A useful secondary check can be to assess whether Telecom Plus has generated enough free cash flow to pay its dividend. Over the past year, it paid dividends equivalent to 325% of what it generated in free cash flow, an unusually high percentage. Unless there is something about the business that we don’t capture, it could signal a risk that the dividend may need to be reduced in the future.

Since the Telecom Plus dividend was not well covered by earnings or cash flow, we are concerned that this dividend may be at risk in the long run.

Click here to view the company’s payout ratio, as well as analysts’ estimates of its future dividends.

LSE Historical Dividend: TEP November 27, 2021

Have profits and dividends increased?

Companies with strong growth prospects generally make the best dividend payers because dividends are easier to grow when earnings per share improve. If business goes into recession and the dividend is reduced, the company could experience a sharp drop in value. With that in mind, we are encouraged by the steady growth of Telecom Plus, with earnings per share up 3.5% on average over the past five years. Minimal earnings growth, combined with relatively high payout ratios, suggests that Telecom Plus is unlikely to increase the dividend much in the future, and indeed the payout could be vulnerable to a cut.

Many investors will assess a company’s dividend yield by evaluating how much dividend payments have changed over time. Telecom Plus has generated dividend growth of 10.0% per year on average over the past 10 years. We are happy to see dividends increasing along with earnings over a number of years, which may be a sign that the company intends to share the growth with its shareholders.

Last takeaways

From a dividend perspective, should investors buy or avoid Telecom Plus? Telecom Plus pays an uncomfortably high percentage of earnings and cash flow as dividends, although at least earnings per share are increasing somewhat. It’s not the most attractive proposition from a dividend standpoint, and we would probably drop this one for now.

That said, if you look at this stock without worrying too much about the dividend, you should still be familiar with the risks involved with Telecom Plus. For example, we found 2 warning signs for Telecom Plus which we recommend that you consider before investing in the business.

A common investment mistake is to buy the first interesting stock you see. Here you will find a list of promising dividend paying stocks with a yield above 2% and an upcoming dividend.

This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts using only unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell shares and does not take into account your goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative documents. Simply Wall St has no position in any of the stocks mentioned.

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