Power Integrations, Inc. (NASDAQ:POWI) stock is about to trade ex-dividend in 4 days. The ex-dividend date is usually set to be one business day before the record date which is the cut-off date on which you must be present on the company's books as a shareholder in order to receive the dividend. The ex-dividend date is important as the process of settlement involves two full business days. So if you miss that date, you would not show up on the company's books on the record date. Therefore, if you purchase Power Integrations' shares on or after the 30th of August, you won't be eligible to receive the dividend, when it is paid on the 30th of September.

The company's upcoming dividend is US$0.20 a share, following on from the last 12 months, when the company distributed a total of US$0.80 per share to shareholders. Last year's total dividend payments show that Power Integrations has a trailing yield of 1.2% on the current share price of US$67.90. Dividends are a major contributor to investment returns for long term holders, but only if the dividend continues to be paid. So we need to check whether the dividend payments are covered, and if earnings are growing.

If a company pays out more in dividends than it earned, then the dividend might become unsustainable - hardly an ideal situation. Power Integrations paid out 105% of its earnings, which is more than we're comfortable with, unless there are mitigating circumstances. A useful secondary check can be to evaluate whether Power Integrations generated enough free cash flow to afford its dividend. Over the last year, it paid out more than three-quarters (83%) of its free cash flow generated, which is fairly high and may be starting to limit reinvestment in the business.

It's disappointing to see that the dividend was not covered by profits, but cash is more important from a dividend sustainability perspective, and Power Integrations fortunately did generate enough cash to fund its dividend. If executives were to continue paying more in dividends than the company reported in profits, we'd view this as a warning sign. Extraordinarily few companies are capable of persistently paying a dividend that is greater than their profits.

Click here to see the company's payout ratio, plus analyst estimates of its future dividends.

Have Earnings And Dividends Been Growing?

Businesses with shrinking earnings are tricky from a dividend perspective. If business enters a downturn and the dividend is cut, the company could see its value fall precipitously. With that in mind, we're discomforted by Power Integrations's 8.7% per annum decline in earnings in the past five years. When earnings per share fall, the maximum amount of dividends that can be paid also falls.

Many investors will assess a company's dividend performance by evaluating how much the dividend payments have changed over time. In the last 10 years, Power Integrations has lifted its dividend by approximately 15% a year on average. The only way to pay higher dividends when earnings are shrinking is either to pay out a larger percentage of profits, spend cash from the balance sheet, or borrow the money. Power Integrations is already paying out a high percentage of its income, so without earnings growth, we're doubtful of whether this dividend will grow much in the future.

Final Takeaway

Is Power Integrations an attractive dividend stock, or better left on the shelf? Earnings per share have been shrinking in recent times. Additionally, Power Integrations is paying out quite a high percentage of its earnings, and more than half its cash flow, so it's hard to evaluate whether the company is reinvesting enough in its business to improve its situation. It's not that we think Power Integrations is a bad company, but these characteristics don't generally lead to outstanding dividend performance.

With that being said, if you're still considering Power Integrations as an investment, you'll find it beneficial to know what risks this stock is facing. For example - Power Integrations has 2 warning signs we think you should be aware of.

A common investing mistake is buying the first interesting stock you see. Here you can find a full list of high-yield dividend stocks.

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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.