If the dividend yield for a stock you are considering exceeds 10%, you should be taking a long, hard look at the business to determine whether that payout is safe. If it's safe, the odds are good other investors would be buying up such a deal (and reducing the yield as a result). A dividend that high generates significant income, which boosts overall returns offers a great buffer during challenging market conditions.
Walgreens Boots Alliance (WBA 0.73%) slashed its dividend earlier this year. However, because the stock price fell significantly following the cut, its yield remains high -- at around 12.1% right now. At such a high rate, an investment of roughly $8,300 would result in $1,000 in dividends on an annual basis. But what if Walgreens cuts the dividend again? Then your investment is likely to take a big hit both on dividend and on share price.
Let's take a closer look to see whether Walgreens (reduced) payout is manageable, and determine if investors should brace for another potential cut in the near future.
A big red flag for dividend investors is if a company can't stay out of the red. When that happens, dividend cuts tend to follow. Eventually, a suspension of the payout occurs if management doesn't see a way to turn things around.
In three of the past four quarters, Walgreens reported an operating loss. For its most recent fiscal year, which ended on Aug. 31, the company's operating loss totaled $14.1 billion. Of that, $12.7 billion was due to non-cash goodwill impairment charges. If you exclude those one-time charges, then its operating loss would have been approximately $1.4 billion -- less than the $6.9 billion loss it incurred a year earlier.
While that's an improvement, it may not provide much comfort to investors who want some confidence that the dividend is sustainable.
Walgreens is also in a tough cash position, which may only exacerbate concerns about its dividend. The company has been looking at asset sales as a way to boost its cash flow because its operating results haven't been strong. In the trailing 12 months, Walgreens' operating cash flow has come in at just over $1 billion, but its free cash flow has been negative. At its current dividend rate, Walgreens is paying approximately $864 million in cash dividends over the course of a full year.
Given the company's investments into growing its healthcare business and launching primary care clinics, the business needs to be in a much better position in terms of cash to balance both its growth aspirations and its dividend payments. But at this point, Walgreens may need to make a decision: Does it prioritize the dividend, or does it focus more on growth? Balancing both doesn't appear to be a viable scenario, at least not for much longer.
CEO Tim Wentworth slashed the dividend in January after being on the job for just a few months. Now, with more time to assess the company's situation, more drastic changes could be coming for Walgreens. The company is already planning to shut 1,200 pharmacy retail locations over the next few years, but that may not be enough to get its operations back into the black.
I wouldn't suggest investing in Walgreens for its dividend. In five years, the stock has lost more than 85% of its value, and that's a big reason the yield is so high even with a dividend cut earlier in the year. Unless you are OK with a lot of risk and have faith in the company's new CEO, you may be better off steering clear of Walgreens, as there are plenty of safer dividend stocks to choose from right now.
As tempting as the yield may appear to be, there is real danger that the dividend could be cut or suspended at any time, given the uncertainty the business faces both in the short term and the long term.