YouYou Foods Co., Ltd. (SHSE:603697) stock is about to trade ex-dividend in 2 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 because any transaction on a stock needs to have been settled before the record date in order to be eligible for a dividend. Therefore, if you purchase YouYou Foods' shares on or after the 26th of December, you won't be eligible to receive the dividend, when it is paid on the 26th of December.

The company's next dividend payment will be CN¥0.10 per share, and in the last 12 months, the company paid a total of CN¥0.32 per share. Based on the last year's worth of payments, YouYou Foods has a trailing yield of 3.1% on the current stock price of CN¥10.28. Dividends are a major contributor to investment returns for long term holders, but only if the dividend continues to be paid. As a result, readers should always check whether YouYou Foods has been able to grow its dividends, or if the dividend might be cut.

Dividends are typically paid out of company income, so if a company pays out more than it earned, its dividend is usually at a higher risk of being cut. YouYou Foods distributed an unsustainably high 136% of its profit as dividends to shareholders last year. Without extenuating circumstances, we'd consider the dividend at risk of a cut. Yet cash flows are even more important than profits for assessing a dividend, so we need to see if the company generated enough cash to pay its distribution. Over the past year it paid out 174% of its free cash flow as dividends, which is uncomfortably high. We're curious about why the company paid out more cash than it generated last year, since this can be one of the early signs that a dividend may be unsustainable.

YouYou Foods does have a large net cash position on the balance sheet, which could fund large dividends for a time, if the company so chose. Still, smart investors know that it is better to assess dividends relative to the cash and profit generated by the business. Paying dividends out of cash on the balance sheet is not long-term sustainable.

Cash is slightly more important than profit from a dividend perspective, but given YouYou Foods's payments were not well covered by either earnings or cash flow, we are concerned about the sustainability of this dividend.

Click here to see how much of its profit YouYou Foods paid out over the last 12 months.

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 YouYou Foods's 11% per annum decline in earnings in the past five years. Ultimately, when earnings per share decline, the size of the pie from which dividends can be paid, shrinks.

The main way most investors will assess a company's dividend prospects is by checking the historical rate of dividend growth. In the past five years, YouYou Foods has increased its dividend at approximately 4.5% a year on average. That's intriguing, but the combination of growing dividends despite declining earnings can typically only be achieved by paying out a larger percentage of profits. YouYou Foods is already paying out 136% of its profits, and with shrinking earnings we think it's unlikely that this dividend will grow quickly in the future.

To Sum It Up

From a dividend perspective, should investors buy or avoid YouYou Foods? Not only are earnings per share declining, but YouYou Foods is paying out an uncomfortably high percentage of both its earnings and cashflow to shareholders as dividends. This is a clearly suboptimal combination that usually suggests the dividend is at risk of being cut. If not now, then perhaps in the future. It's not the most attractive proposition from a dividend perspective, and we'd probably give this one a miss for now.

Having said that, if you're looking at this stock without much concern for the dividend, you should still be familiar of the risks involved with YouYou Foods. To help with this, we've discovered 2 warning signs for YouYou Foods that you should be aware of before investing in their shares.

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.