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Why It’s Time to Dump This Dividend-Growth Stock

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Thomson Reuters (TSX:TRI)(NYSE:TRI) has slowly but steadily increased its dividend payouts over the past 10 years. Dividend increases are something investors welcome, but only if the company in question can sustain the profits necessary to continue increasing its dividends. The dividend payout ratio is a good indicator of a firm’s ability to do so.

Thomson’s current payout ratio is 75%, with a five-year average of 134%. While the company’s woeful 263% payout ratio from 2014 skews this average, this much inconsistency is cause for concern as it may suggest that the company will be unable to sustain its dividend increases.

Unfortunately, investors cannot look to Thomson’s latest earnings report for reassurance. The company’s third-quarter earnings are very underwhelming. Thomson’s operating profit decreased by 44% year over year, while its earnings before interest, tax, depreciation and amortization (EBITDA) and earnings per share (EPS) decreased by 22% and 59% respectively.

Upon closer inspection, however, Thomson seems to have a reasonable explanation for its recent slump. The multinational mass media and information firm has been restructuring its divisions to shed most of its Financial & Risk (F&R) business unit.

Thomson’s Business Model

Thomson built a reputation as one of the world’s largest providers of information and data within the financial, legal, and tax and accounting industries. Its F&R business unit had been lagging, though, with an overall decrease in sales and revenue over the past few years.

Thomson’s F&R business segment offered a financial data terminal called Eikon and aimed at such professionals as money managers and investment bankers. Once Eikon started losing ground to its competitors – primarily the Bloomberg Terminal – things started going awry.

In October, Thomson completed a deal with private equity firm Blackstone Group to which it sold a 55% stake in its F&R segment. Thomson will retain the remaining 45% of the business, although it will now largely operate as a stand-alone company going by the name of Refinitiv.

At first glance, Thomson’s business model seems promising. Many of the company’s software packages have become an integral part of the day-to-day activities of the professionals it supports. These packages carry high switching costs, which include not just physically switching from one software to another, but also the time and resources necessary for users to properly get acquainted with the new platform.

More than 80% of Thomson’s revenue comes from recurring customers, and over 90% of the data and information it provides is delivered electronically. Thomson also has a strong presence abroad, with more than 30% of its revenues coming from outside the U.S and Canada. Of course, the market for the products and services Thomson’s provides – which will only continue to grow – is very competitive, and many of Thomson’s competitors offer similar products at cheaper prices.

While Thomson’s F&R business segment may have been inefficient, it still accounted for more than 50% of the firm’s revenue. The firm is not as recognized a brand in the sectors in which it still operates. Of course, generating profits efficiently is just as important as acquiring a large revenue base. However, until Thomson can demonstrate it made the right move, I believe investors would be wise to keep their distances.

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Prosper Bakiny does not have a position in any of the companies mentioned in this article.

 

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