Crescent Point Energy (TSX:CPG)(NYSE:CPG) has been pursuing a strategy based around attracting investors with its 9.52% yield. This strategy has come under criticism, since it has resulted in Crescent Point needing to use most of its cash flow to fund its huge dividend, resulting in the company needing to issue large amounts of equity to pay for its string of acquisitions.
The question investors may be asking is: what are the consequences of this dividend focused strategy? I think there are two main concerns, and with a share price that has shown minimal growth over the past three years, the following risks simply aren’t worth the high yield.
Low oil prices are putting dividend growth and sustainability at risk
Crescent Point is paying a dividend beyond its means. If the recent 10% decline in WTI prices since the start of November alone persists, it will almost definitely prevent a future increase, and possibly result in either a cut to the dividend, or a reduction in capital expenditures, both of which are bad for investors. Since Crescent Point is focused on its yield to attract investors (especially U.S. investors), a cut would be very detrimental to share price.
Why is Crescent Point paying a dividend beyond its means? Currently its payout ratio based on its earnings is around 540%. Based on cash flow from operations though, it is a much more reasonable 48%.
The problem? When capital expenditures are subtracted from cash flow from operations, Crescent Point is only left with $451 million of free cash flow for the past four quarters, which is not nearly enough to fund the $1.1 billion in dividends it paid out for the previous four quarters.
To cover the gap, Crescent Point has been paying for about 40% of those dividends with stock, which only adds to the dilution concerns shareholders already have.
Crescent Point has seen its net debt grow approximately 47% since 2012, and with WTI currently sitting at US $82.68, far below the US$100 forecasted by Crescent Point in its 2013 Annual Information Form, Crescent Point is putting shareholders at risk, especially in these oil price conditions, by paying such a high dividend. This is not a position shareholders want to be in.
The focus on yield leaves little cash flow, and risks shareholder dilution
Since Crescent Point is spending so much of its cash flow on paying its yield, it has to rely on equity to pay for its expensive acquisitions. The result? Crescent Points share count has increased 140% since 2009. This affects EPS. For example, between 2012 and 2013, Crescent Point observed a 24% drop in net income, but a 35% drop in EPS. This is because shares outstanding increased 16% during the same period.
With all the equity issues, if cash flow from the acquired assets does not reflect the new amount of issued shares, EPS will drop, and put downward pressure on share prices.
This is again not a position shareholders want to be in, as it is always preferable that a company pays for its acquisitions and production growth using cash flow, which creates value for current shareholders and is immediately accretive.
To make matters worse for Crescent Point, its high yield has been ineffective in attracting the U.S. investors it desperately needs to move its share price, with U.S. investment actually dropping 24% from 43% two years ago.
Crescent Point Energy may offer a fantastic yield, but with share price growth severely lagging the Standard & Poor’s/TSX Energy Index, it has not been worth it. And with low oil prices, and a dividend that is already stretched, it continues not to be.
