3 Big Dividends That Are Too Good to Be True

These companies all pay out more than they earn. That cannot last forever.

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With interest rates still so low, dividend-paying companies are a wonderful alternative for investors who are looking for some yield. And as a bonus, many of these companies raise their dividends every year.

There are also some companies that pay especially large dividends, and these can be very tempting. But some of these dividends can be too good to be true. In extreme cases, companies’ dividends will actually exceed their net income.

When this happens, one has to wonder if the company can really afford its high dividend. Because if things don’t change, then eventually that dividend will have to be cut. Below are three companies whose dividends exceed their net income.

Torstar: As the business declines, the dividend increases

The past few years have not been kind to publisher Torstar Corporation (TSX: TS.B). The company best known for The Toronto Star newspaper and Harlequin romance novels has seen its revenue and earnings fall in recent years, as have many publishers. Last year revenue fell by 7% in both its media and book publishing segments, and the company reported a net loss of $27 million, or $0.35 per share.

But Torstar pays out a quarterly dividend of 13.125 cents per share, a yield of 8%. And this dividend has been raised twice since 2009. But can the company really afford such a payout as it loses money? For investors who rely on their dividend income, and are counting on it never decreasing, this is a gamble not worth taking.

AGF: The dark side of asset management

Despite being in a completely different industry, AGF Management (TSX: AGF.B) has a lot in common with Torstar. Despite the fact that the business has been declining, the dividend has not been cut in recent years, and now yields 8%. Also like Torstar, this yield is too good to be true.

In 2013, declining assets under management took their toll – net income from continuing operations fell nearly 20% to $22.4 million. But AGF still paid out over $90 million in dividends. In fact the company hasn’t made enough money from operations to pay its dividend since 2010.

Crescent Point: The power of a DRIP

Unlike the first two companies listed, business is good for Crescent Point Energy (TSX: CPG)(NYSE: CPG). In 2013, production increased by 18% and cash flow from operations was up by 28%. Earnings per diluted share came in at $0.37. But the company declared dividends of $2.76 per share. How could Crescent Point afford this?

The key is the company’s dividend reinvestment plan (DRIP), which incentivizes investors to take their dividends in shares rather than cash. So if you buy Crescent Point shares and take the cash dividend, you’ll get a nice cheque, but your share of the company will be slowly diluted. And that is not good for long-term returns.

Foolish bottom line

In the business world, there is always tremendous pressure on a company to not cut its dividend. As can be seen above, some companies would rather pay out more than they can afford than resort to a dividend cut. As an investor, this should make you very suspicious, and you’re probably better off avoiding these companies altogether.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Benjamin Sinclair holds no positions in any of the stocks mentioned in this article.

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