The two stocks in this article both have dividend yields over 6%. Stocks with such high yields tend to have higher-than-average risk.
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Focus on total return not high yield. Just because a stock has a high yield does not mean it will generate better total returns. In fact, if you put dividend paying stocks into 5 baskets (called quintiles), the highest yielding quintile actually has lower total returns than the 2nd highest yielding quintile.
– Tip 1 from ‘10 Critical Tips for Dividend Growth Investors’
The stocks examined in this article pay out much of their cash flows as dividends. This means there’s little cash left over for growth.
In addition, these businesses are highly leveraged and could face a liquidity crunch in the near future. In short, the two S&P500 stocks examined in this article have a high risk of cutting their dividend payments.
Risky High Yield Stock #1: ONEOK, Inc. (NYSE:OKE)
ONEOK, Inc. (NYSE:OKE) stock currently has a tremendously high dividend yield of 11.5%. The company has paid steady or increasing dividends every year since 1989.
Among the funds tracked by Insider Monkey, 20 reported stakes in the company as of the end of September, down by two over the quarter. Moreover, the aggregate value of their holdings slumped to $184.57 million (equal to around 2.70% of the company’s stock), from $357.12 million a quarter earlier.
The company’s most recent Value Line report says the following:
The dividend is not covered by earnings, and the high yield suggests some uncertainty regarding sustainability. On top of that, leverage is greater than we would prefer.
The quote from Value Line above describes the perilous situation ONEOK is in.
The company generated about $270 million in cash flows net of interest expense in its most recent quarter. ONEOK pays around $125 million a quarter in dividends. Dividends are taking up close to half of the company’s cash flows.
This leaves less than $150 million a quarter for both growth and maintenance capital expenditures. ONEOK is averaging over $300 million a quarter in capital expenditures this year. The company is forced to finance the other ~$150 million in cash it needs to continue funding its business, growth, and dividends.
To make matters worse, ONEOK, Inc. (NYSE:OKE) has around $8.7 billion in debt on its books, and under $40 million in cash. Of the $8.7 billion in debt, close to $1 billion is coming due in the next year.
With an absurdly high 11.5% dividend yield, issuing new shares is unattractive for ONEOK right now. With its high debt burden, the company will likely have difficulty tapping debt markets as well. This could create a liquidity crunch for the company in which management will have to choose between continuing to pay its dividends and continuing to fund growth.
Kinder Morgan Inc (NYSE:KMI) was recently in a similar situation – and they chose to cut the dividend by 75%. Here are 3 lessons to learn from Kinder Morgan’s dividend cut.
