how I analyze dividend stocks (start to finish)
What’s up Profit Zone Gang!
Back with another issue of The Profit Zone, the #1 investing newsletter on Substack as seen on Forbes, CNBC and the Financial Times.
I’m just kidding, I wasn’t featured on any of those websites (yet), that’s just me manifesting a potential future reality.
Today we will be covering how I analyze dividend stocks from start to finish. If you’re a dividend investor, you’re going to want to break out the notepad.
I’ve been dividend investing for just over 6 years now and I’ve learned a lot along the way. Through trial and error, I’ve found what works and what doesn’t work and I’m here to share it with you.
Being a Profit Zone subscriber has its perks, doesn’t it?
Let’s dive in.
The Macro Overview
I like to analyze the Macro before I dive into the Micro. Why? Because the company can’t flourish if they’re operating in an environment that is limiting their growth. Approaching investing from a top-down strategy is a lot easier than a bottom-up.
Are they creating products people use on a daily basis?
You want to buy businesses that create products people use every single day. Consumer staples. Think healthcare products, shampoo, toilet paper, tissue paper, soap, beverages. Find out what people can’t live without and invest in the companies that make those products. These are the companies that will continue being able to pay you a dividend long term no matter market conditions.
Are they investing in properties people use and live in?
On the other side of the coin, there’s REIT investing. The same principles apply. Is the REIT investing in properties people use and live in? Think storage, retirement homes, single-family real estate, office space, shopping centers etc.
Are they operating in an industry that can continue growing?
This is important. Is there a runway for growth? You don’t want to invest in an industry that isn’t growing. It doesn’t matter how strong the business is if the industry isn’t performing.
Who are their competitors?
Most people neglect this part of the Macroanalysis. Why? I don’t know. It’s important to know who you’re going up against (at least I think so). If you look at the digital payment industry, you have two large competitors in PayPal and Square (now called Block). How is PayPal taking market share away from Square? What features do they offer that Square doesn’t, and vice versa? Who has more cash on hand to invest in long-term growth?
These are all questions you should be asking yourself. It’s tedious work, but this is your hard-earned money and your financial future we’re talking about. You can take an hour out of your day to do some research.
The Mirco Overview
How long have they been raising dividends? (if at all)
Past performance is a good predictor of future performance, but that’s not always the case. When it comes to dividend investing, if a company has been raising dividends for the past 50 years, it’s safe to say that they will most likely continue doing so. If the company has only been raising dividends for 3 years, there will naturally be less confidence in another dividend raise the following year. A quick google search will give you the answer to this question.
Is there room for dividend growth?
The best way to know if there’s room for dividend growth is to look at the companies net profits. Have they been increasing? If yes, they now have more money to pay out in dividends. It could also be the case that they decide to spend that money elsewhere, for example, to fund internal projects or acquire other businesses. Not always does an increase in net profits mean that there will be a dividend increase in the future, but it’s definitely a good sign as a dividend investor.
How much free cash flow do they have and is it growing?
If cash is King, cash flow is the Emperor.
Businesses need cash flow for a variety of reasons. One of those reasons is to pay out dividends to people like you and me. The first thing I look at on the cash flows statement is how much free cash flow does the business have and is it growing year over year. If not, I usually don’t touch it with a ten-foot pole.
How much of their earnings are they paying out in dividends?
You can find your answer to this question by looking up the Payout Ratio of the company.
35-55% is healthy. Anything higher than 75% is concerning (unless you’re investing in REITs). The simple explanation for this is that you don’t want the company to be paying out too much of their earnings in dividends because then they won’t have anything left over to reinvest in the business and that limits growth.
Remember: coupling a growing dividend with share appreciation is the ultimate combo.