Top 10 Financial Ratios for Successful Dividend Investing

4. Operating Profit Margin

A company’s operating profit margin divides its operating profits by its total sales. Operating profits generally represent the company’s earnings before interest and taxes.

By excluding these expenses, we can compare companies regardless of their financing choices (debt results in interest expenses) and tax treatments to focus on the profitability of their actual operations.

Across our database of nearly 5,000 dividend-paying stocks, the median operating profit margin is about 12%. Higher operating profit margins can be a sign that a company has an economic moat.

Just like with our analysis of a company’s return on invested capital, we pay close attention to the level and consistency of a company’s operating margin. High and stable margins are preferable because they help earnings compound faster.

5. Asset Turnover

Asset turnover is a less familiar financial ratio but an important one as it relates to efficiency. To calculate a company’s asset turnover, we divide its total sales by its total assets. The metric tells us how many dollars of sales each dollar of assets generated.

Companies that generate more sales from their assets can squeeze out more profits. Even if a company has low margins, it can still generate a good return on invested capital for shareholders if its asset turnover is high.

Wal-Mart Stores, Inc. (NYSE:WMT) is a good example. The company’s operating profit margin was only 5% last year, yet the business was still able to generate a double-digit return on invested capital because its asset turnover was so high (Wal-Mart sells a lot of products every day).

Companies that can more efficiently use their assets can improve their asset turnover and return on invested capital.

6. Sales Growth

Sales growth is a basic financial metric that simply divides one period’s revenue by another period’s revenue and expresses the difference as a percentage. For example, if sales increased from $100 last year to $120 this year, sales growth would be 20%.

Why is sales growth so important for investing? While profits still matter the most, trends in sales growth can inform us about the volatility of a company’s business model and its ability to continue expanding.

Let’s take a look at Nucor Corporation (NYSE:NUE) as an example. Nucor is a member of the dividend aristocrats list and manufactures a wide variety of steel products.

As seen below, the company’s sales plunged by 53% in 2009 and have been highly volatile most years. There is little in Nucor’s control when it comes to growing its business because it is very sensitive to the economy and the price of steel.

If an investor is considering buying a company with cyclical growth trends, they need to be sure they are not picking it up near peak demand – buying a cyclical at the top of a cycle is one of the easiest ways to lose a lot of money quickly.

On the other hand, Becton Dickinson and Co (NYSE:BDX) has consistently churned out relatively stable revenue growth – even throughout the last recession. The healthcare company sells a number of essential medical devices and systems that are needed in practically every economic environment.

All else equal, we prefer to hold businesses that sell products and services with more stable demand. These companies often have more within their control and produce steadier earnings growth.