Payout Ratios & Dividend Safety

A dividend is only as safe as the cash behind it. Here is how payout ratios, free cash flow and debt reveal whether a dividend can last, and why the highest yields are often traps.

The payout ratio

The payout ratio is dividends divided by earnings. A company earning $4 a share and paying $2 has a 50% payout ratio. Lower ratios leave room to keep paying through a bad year. Ratios near or above 100% mean the company is paying out everything it earns, or more, which cannot last forever unless earnings recover.

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