Monster dividend yields continue to attract the attention of investors despite the risk of those dividends being cut in response to the economic difficulties that many companies are now facing. If there is one thing the prolonged slump in crude should’ve taught investors, it’s that not all dividends are created equal. Many lofty yields are predicated on ever-growing earnings and solid economic fundamentals that can’t last forever.
Accordingly, when economic conditions decline many companies are forced to cut or even eliminate their dividends altogether. This has even happened with companies that are considered to be blue-chip stalwarts that are among Canada’s 60 largest listed companies.
Let’s take closer look at the three highest dividend yields on the S&P/TSX 60 Index in order to determine whether or not they are sustainable.
Now what?
The highest yield on the index is the 6% yield paid by the world’s largest fertilizer company, Potash Corporation of Saskatchewan Inc. (TSX:POT)(NYSE:POT).
Even after reducing its dividend by 34% in January this year, the dividend still remains at risk. It represents 125% of the upper end of Potash Corporation’s forecast 2016 net income.
Then there are the issues related to Potash Corporation’s deteriorating financial position, which has been caused by the marked downturn in demand for its key products of potash, phosphate, and nitrogen.
As a result, first-quarter 2016 net income plunged by 80% compared with a year earlier, and cash flow was down by almost two-thirds. And there are no signs of this improving any time soon, such as China’s economic growth, which is now at its lowest level in decades.
Next up is midstream services provider Inter Pipeline Ltd. (TSX:IPL) with its juicy 5.6% yield. While many energy companies have had to slash or eliminate their dividends because of the harsh operating environment, Inter Pipeline has yet to find itself in that position.
Not only are a considerable amount of its cash flows contractually locked in, but cash flow continues to grow, even with oil prices at their lowest level in years. For the first quarter 2016, funds flow from operations grew by 5% compared with the same period in the previous year.
Meanwhile, Inter Pipeline is experiencing solid growth across its business; throughput volumes across its pipeline network and utilization rates increased, helping to boost cash flow and supporting its dividend.
Final place goes to Canadian Imperial Bank of Commerce (TSX:CM)(NYSE:CM) and its tasty 5% yield.
As far as dividend stocks go, it is hard to go past Canada’s Big Six banks. Not only do they operate in an oligopolistic industry with steep barriers to entry, but they have successfully navigated many of the headwinds impacting Canada’s economy.
In fact, Canadian Imperial recently announced its expansion into the U.S. with the $4.9 billion acquisition of Chicago-based PrivateBancorp Inc. This will enhance its growth prospects and reduce its dependency on Canada’s already challenging financial services market.
When Canadian Imperial’s growth prospects are considered in conjunction with its solid balance sheet and payout ratio of just over 50%, its dividend is clearly sustainable.
So what?
All three companies offer investors impressive dividend yields, yet despite being among Canada’s largest companies, there are signs that Potash Corporation is facing an assortment of headwinds, which are impacting its financial performance. These could certainly force it to cut its dividend, whereas Inter Pipeline and Canadian Imperial offer the investors the security of investing in a blue-chip company that pays an attractive but sustainable dividend.
