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Dividend payments are back in vogue in Canada’s oil patch. The growing popularity of dividend investing among Canadian investors is further incentivizing companies with excess earnings to pay dividends — especially with higher oil prices and production boosting cash flows and bottom lines.
Of all the large-cap companies (market cap of $10 billion or greater) operating in the patch, Crescent Point Energy (TSX:CPG) has the highest dividend yield. With a market cap of around $16 billion and dividend yield of just under 7%, it is a particularly appealing investment for income-hungry investors. But there are growing signs this attractive dividend yield may now be unsustainable and under threat.
How is dividend sustainability measured?
A quick and dirty measure of dividend sustainability is a company’s dividend payout ratio. Typically, this is calculated by dividing a company’s dividend by its earnings. Any ratio over 100% is generally unsustainable.
For the third-quarter 2013, Crescent Point reported a dividend payout ratio of 49%; for the nine months ending Sept. 30, it was 54%. But interestingly, these payout ratios were calculated by dividing the dividend paid by operating cash flow per share for the respective periods.
What that indicates is that Crescent Point considers dividends to be an operational expense rather than a means of distributing excess earnings to shareholders.
If we look at Crescent Point’s “regular” dividend payout ratio — again, by dividing dividends paid by earnings — I arrive at a payout ratio of over 300%. Obviously, on first appearance, it would look like Crescent Point’s dividend is unsustainable and maybe under threat.
But there are other factors to consider
With Crescent Point paying its dividend from operational cash flows there are a range of other factors I want to consider before making a call as to whether its dividend is sustainable.
Key among these is Crescent Point’s debt burden. The company’s debt-to-equity ratio is a mere 0.2 — almost a quarter of the industry average — and so it’s essentially unleveraged. Another positive is its operational cash flow of almost 1 times debt, which indicates Crescent Point is capable of meeting debt repayments while paying its dividend from operational cash flows.
This is in stark contrast to smaller peer Lightstream Resources (TSX:PBN), which recently found itself in a bit of strife using the same system to manage its dividend. Despite reporting a third-quarter 2013 payout ratio of 27% and higher operational cash flow, it recently slashed its dividend payment by a whopping 50% to generate $40 million in cash savings.
The key motivator was its high debt load in comparison to its operational cash flow, which over the last 12 months has been less than a third of its debt. Insolvency was potentially on the agenda — unless it took the needed steps to strengthen its balance sheet.
Cash flows continue to grow
Crescent Point has also reported growing cash flows. For the third quarter, operational cash flow grew by a hefty 44% in comparison to the same period in the previous year. This was on the back of a healthy 8% increase in production during that period.
I expect Crescent Point’s operational cash flow to continue growing, with higher crude prices coupled with an accretive acquisition strategy driving higher production and ultimately higher revenue and margins. It is also able to reduce the amount of cash paid out by virtue of its dividend reinvestment plan. This in essence allows investors to choose to accept dividends as additional shares rather than cash — which allows Crescent Point to retain a greater portion of its cash flow.
Foolish final thoughts
By consistently paying a solid dividend yield — almost 7%! — Crescent Point is handsomely rewarding investors for their loyalty. But with the dividend treated as a cash flow expense, it requires closer monitoring to determine its true ongoing sustainability.
With higher oil prices and growing production boosting cash flows, coupled with a low level of debt, I believe it’s likely that Crescent Point’s dividend is sustainable.
