Some investors rely on dividends for growing their wealth, and if you're one of those dividend sleuths, you might be intrigued to know that Luzhou Xinglu Water (Group) Co., Ltd. (HKG:2281) is about to go ex-dividend in just 3 days. The ex-dividend date is one business day before a company's record date, which is the date on which the company determines which shareholders are entitled to receive a dividend. The ex-dividend date is of consequence because whenever a stock is bought or sold, the trade takes at least two business day to settle. Thus, you can purchase Luzhou Xinglu Water (Group)'s shares before the 5th of July in order to receive the dividend, which the company will pay on the 31st of July.

The company's next dividend payment will be CN¥0.05 per share. Last year, in total, the company distributed CN¥0.05 to shareholders. Based on the last year's worth of payments, Luzhou Xinglu Water (Group) stock has a trailing yield of around 8.5% on the current share price of HK$0.63. Dividends are an important source of income to many shareholders, but the health of the business is crucial to maintaining those dividends. So we need to check whether the dividend payments are covered, and if earnings are growing.

Dividends are typically paid from company earnings. If a company pays more in dividends than it earned in profit, then the dividend could be unsustainable. Luzhou Xinglu Water (Group) paid out just 21% of its profit last year, which we think is conservatively low and leaves plenty of margin for unexpected circumstances. That said, even highly profitable companies sometimes might not generate enough cash to pay the dividend, which is why we should always check if the dividend is covered by cash flow. Luzhou Xinglu Water (Group) paid out more free cash flow than it generated - 186%, to be precise - last year, which we think is concerningly high. It's hard to consistently pay out more cash than you generate without either borrowing or using company cash, so we'd wonder how the company justifies this payout level.

While Luzhou Xinglu Water (Group)'s dividends were covered by the company's reported profits, cash is somewhat more important, so it's not great to see that the company didn't generate enough cash to pay its dividend. Cash is king, as they say, and were Luzhou Xinglu Water (Group) to repeatedly pay dividends that aren't well covered by cashflow, we would consider this a warning sign.

Click here to see how much of its profit Luzhou Xinglu Water (Group) paid out over the last 12 months.

Have Earnings And Dividends Been Growing?

Businesses with strong growth prospects usually make the best dividend payers, because it's easier to grow dividends when earnings per share are improving. Investors love dividends, so if earnings fall and the dividend is reduced, expect a stock to be sold off heavily at the same time. With that in mind, we're encouraged by the steady growth at Luzhou Xinglu Water (Group), with earnings per share up 6.4% on average over the last five years. Earnings have been growing at a steady rate, but we're concerned dividend payments consumed most of the company's cash flow over the past year.

The main way most investors will assess a company's dividend prospects is by checking the historical rate of dividend growth. Luzhou Xinglu Water (Group)'s dividend payments per share have declined at 7.5% per year on average over the past six years, which is uninspiring. Luzhou Xinglu Water (Group) is a rare case where dividends have been decreasing at the same time as earnings per share have been improving. It's unusual to see, and could point to unstable conditions in the core business, or more rarely an intensified focus on reinvesting profits.

To Sum It Up

Is Luzhou Xinglu Water (Group) worth buying for its dividend? Luzhou Xinglu Water (Group) delivered reasonable earnings per share growth in recent times, and paid out less than half its profits and 186% of its cash flow over the last year, which is a mediocre outcome. Overall we're not hugely bearish on the stock, but there are likely better dividend investments out there.

With that being said, if dividends aren't your biggest concern with Luzhou Xinglu Water (Group), you should know about the other risks facing this business. Our analysis shows 3 warning signs for Luzhou Xinglu Water (Group) and you should be aware of them before buying any shares.

If you're in the market for strong dividend payers, we recommend checking our selection of top dividend stocks.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com