Is Shoe Zone plc (LON:SHOE) A Strong Dividend Stock?

Dividend paying stocks like Shoe Zone plc (LON:SHOE) tend to be popular with investors, and for good reason - some research suggests a significant amount of all stock market returns come from reinvested dividends. If you are hoping to live on your dividends, it's important to be more stringent with your investments than the average punter. Regular readers know we like to apply the same approach to each dividend stock, and we hope you'll find our analysis useful.

With a goodly-sized dividend yield despite a relatively short payment history, investors might be wondering if Shoe Zone is a new dividend aristocrat in the making. We'd agree the yield does look enticing. Remember though, due to the recent spike in its share price, Shoe Zone's yield will look lower, even though the market may now be factoring in an improvement in its long-term prospects. Some simple research can reduce the risk of buying Shoe Zone for its dividend - read on to learn more.

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Payout ratios

Dividends are usually paid out of company earnings. If a company is paying more than it earns, then the dividend might become unsustainable - hardly an ideal situation. As a result, we should always investigate whether a company can afford its dividend, measured as a percentage of a company's net income after tax. Looking at the data, we can see that 101% of Shoe Zone's profits were paid out as dividends in the last 12 months. This is quite a high payout ratio that suggests the dividend is not well covered by earnings.

In addition to comparing dividends against profits, we should inspect whether the company generated enough cash to pay its dividend. Shoe Zone paid out 179% of its free cash flow last year, which we think is concerning if cash flows do not improve. Paying out such a high percentage of cash flow suggests that the dividend was funded from either cash at bank or by borrowing, neither of which is desirable over the long term. Cash is slightly more important than profit from a dividend perspective, but given Shoe Zone's payments were not well covered by either earnings or cash flow, we are concerned about the sustainability of this dividend.

While the above analysis focuses on dividends relative to a company's earnings, we do note Shoe Zone's strong net cash position, which will let it pay larger dividends for a time, should it choose.

We update our data on Shoe Zone every 24 hours, so you can always get our latest analysis of its financial health, here.

Dividend Volatility

Before buying a stock for its income, we want to see if the dividends have been stable in the past, and if the company has a track record of maintaining its dividend. Looking at the data, we can see that Shoe Zone has been paying a dividend for the past five years. During the past five-year period, the first annual payment was UK£0.036 in 2015, compared to UK£0.12 last year. Dividends per share have grown at approximately 26% per year over this time. The dividends haven't grown at precisely 26% every year, but this is a useful way to average out the historical rate of growth.

Shoe Zone has grown distributions at a rapid rate despite cutting the dividend at least once in the past. Companies that cut once often cut again, but it might be worth considering if the business has turned a corner.

Dividend Growth Potential

With a relatively unstable dividend, it's even more important to see if earnings per share (EPS) are growing. Why take the risk of a dividend getting cut, unless there's a good chance of bigger dividends in future? Over the past five years, it looks as though Shoe Zone's EPS have declined at around 6.6% a year. A modest decline in earnings per share is not great to see, but it doesn't automatically make a dividend unsustainable. Still, we'd vastly prefer to see EPS growth when researching dividend stocks.

Conclusion

To summarise, shareholders should always check that Shoe Zone's dividends are affordable, that its dividend payments are relatively stable, and that it has decent prospects for growing its earnings and dividend. We're a bit uncomfortable with Shoe Zone paying out a high percentage of both its cashflow and earnings. Second, earnings per share have been in decline, and its dividend has been cut at least once in the past. In this analysis, Shoe Zone doesn't shape up too well as a dividend stock. We'd find it hard to look past the flaws, and would not be inclined to think of it as a reliable dividend-payer.

See if management have their own wealth at stake, by checking insider shareholdings in Shoe Zone stock.

Looking for more high-yielding dividend ideas? Try our curated list of dividend stocks with a yield above 3%.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Thank you for reading.