CHWY - Dividend Stocks: Cuts You Could Have Avoided

2023-11-14 06:00:00 ET

Summary

• In response to macroeconomic challenges, numerous companies are reducing expenses to safeguard their earnings, which can sometimes involve reducing or eliminating dividends.
• This article highlights three dividend stocks whose weak Dividend Safety Grades were highlighted well before cuts that could have been avoided.
• Economic oscillation, declining earnings, inflation, and rising interest rates have pressured profits and companies’ ability to maintain dividends.
• Review the stocks in your portfolio. Check the Dividend Safety Grades. Are they at risk of dividend cuts?
• Seeking Alpha’s Dividend Scorecard and Grading System can identify stocks with the potential risk of slashing their dividends. It’s an excellent tool that forewarns investors of dividend hazards.

U.S. GDP grew at a 4.9% annual pace in the third quarter. Yet, many companies are in cost-cutting mode, having cut back on hiring because of inflation, wage growth, and declines in employee turnover ; companies are over budget while attempting to control expenses. Although we're seeing an increase in profit margins, revenues are overarchingly flat. As of Q3 of 2022, we've been in an "earnings recession," and for companies to distribute dividends, they must have earnings.

Dividend Investing

As of November 3rd, 81% of companies in the S&P 500 reported earnings for Q3, with 82% surprising above the mean estimate. These results prompted a modest 0.8% average price increase two days before earnings release through two days after, with slight variance for the 5-year average. Those companies like Tesla (TSLA) that reported negative EPS surprises experienced as much as a 5.2% decline over the same period.

Charles Schwab Senior Investment Strategist Kevin Gordon stated :

Whether or not forward earnings estimates are too optimistic remains to be seen. However, they might not seem realistic this time, given the expected coming impacts from tighter Fed policy and a slowing global economy. Companies will have to demonstrate durable recoveries in demand, as opposed to boosting earnings solely via cost cutting.

With interest rates from 0% to above 5%, a higher cost of debt is causing significant impacts on profitability, and companies are feeling the expense. Although there's been some improvement in top-line growth, analysts anticipate a year-over-year earnings growth of 3.9% for Q4 2023, well below the 8.1% estimated on September 30th. As estimates fall and economic uncertainty creates more market volatility, investors tend to flock to investments that can help insulate their portfolios or offer income to offset losses. Dividend-paying stocks tend to be less volatile in an environment that may experience a downturn. But not all dividend-paying stocks are created equal. With declining growth, earnings, and profits, companies experience a greater risk of suspending or cutting their dividend. Pay attention to warning signs.

Dividend Stocks: Cutting Dividends

Dividend stock can provide steady cash flows over the long term, but companies lacking fundamentals or vulnerable financials may fall shy of delivering shareholders the returns they seek. Especially in a high-rate environment amid cost-cutting measures, dividends become at risk for suspension and cuts. Focusing on payout ratios, dividend coverage ratios, interest coverage ratios, debt ratios, profitability metrics, and weak cash per share may paint a picture of a stock's ability to sustain income streams. For this reason, I developed Dividend Grades to provide an instant characterization of each stock's dividend strengths or weaknesses compared to its sector. Averting 99% of dividend cuts since 2010, Seeking Alpha's Dividend Safety Grades are an excellent, transparent tool .

Dividend Safety Grades Help Predict Dividend Cuts

Seeking Alpha's Strong Buy Dividend Growth Recommendations with an A+ grade for Dividend Growth have returned 509% in the past 12 years, vs. 341% for the Vanguard Dividend Appreciation ETF (VIG).

Over 12 Years, SA's Strong Buy Dividend Growth Grades Were Up 509% vs. VIG, Up 341%

Being prepared and knowledgeable about stocks with poor dividend grades, poor analyst ratings, and poor fundamentals is why dividend safety is crucial for a company's ability to reward shareholders from profits.

Portfolio and Performance Attribution Statistics (01/04/2010 to 11/07/23)

During an economic slowdown, companies may make minor cuts or suspend dividends. But as we see throughout industries, companies overleveraged with too much debt, experiencing slow growth, fall in revenue and earnings, or other factors are making cuts to control expenses or preparing for headwinds. The three dividend stocks I am highlighting today warned of potential cuts. A simple click on the warning or Dividend Safety grade would have unveiled the poor underlying metrics. Let's dive into three dividend stocks with cuts investors could have avoided.

3 Stocks That Cut Their Dividends

Top dividend stocks can help preserve capital and make investors money quarterly or annually. Stocks with poor dividend grades can be vulnerable. Heed the warning signs showcased in our dividend grades. Poor Dividend Safety indicates that a company's ability to continue paying dividends may be numbered, and as highlighted below, PETS, BGFV, and VFC's dividend cuts were anticipated for over a year, according to their grades.

Stocks with poor dividend safety grades that warned of dividend cuts: PETS, BGFV, and VFC

1. PetMed Express, Inc. (PETS)

• Market Capitalization: 149.89M

• Dividend Safety Grade When Cut: F

• Dividend Yield ((FWD)): 16.35%

• Quant Sector Ranking (as of 11/10/23): 466 out of 535

• Quant Rating: Sell

Possessing an 'F' Dividend Safety Grade since April 30, 2022, PetMed Express, Inc., the online pet pharmacy, has experienced significant declines. Despite being the pioneer of direct-to-consumer pet prescriptions, the stock is down nearly 65% over the last year amid increasing competition, management changes, cost increases, and dwindling margins; players like Walmart (WMT), Amazon (AMZN), and Chewy (CHWY) are taking over market share.

Trading near a 52-week low of $5.50/share, PetMed was crushed after announcing a suspension of its dividend, falling 28% pre-market. Although PETS offers an impressive 16.35% forward dividend yield and ten consecutive quarters of $0.30 dividend payments, its dividend safety and growth have been unattractive.

Displaying warning signs that have historically resulted in dividend cuts, PETS will focus on growth initiatives to drive higher returns to reinstate their dividend. PetMed Express missed top-and-bottom-line earnings for Q2, with an EPS missing by $0.09 and revenue of $71M missing by $5M. Despite a 25% Y/Y customer increase, the company's profitability has declined. Although the stock comes at an attractive valuation, it may be like catching a falling knife, given its forward P/E ratio of 183.50x, which is a 1,168% difference to the sector. In addition to its 'F' Growth Grade and abysmal momentum, heed the warnings, especially as its products have come under pressure, contributing to the softness in year-over-year numbers, and stiff competition is causing management to consider diversifying its product offerings.

2. Big 5 Sporting Goods Corporation (BGFV)

• Market Capitalization: 113.38M

• Dividend Safety Grade When Cut: F

• Dividend Yield ((FWD)): 9.62%

• Quant Sector Ranking (as of 11/10/23): 464 out of 535

• Quant Rating: Sell

Possessing an 'F' Dividend Safety Grade since September 29, 2022, Big 5 Sporting Goods Corporation is a U.S. sporting goods retailer on a significant downtrend since 2022. Over the last year, the stock is down nearly 60% and is trading at its 52-week low of $5.00. Big 5's Q3 EPS of $0.08 missed by $0.08 and revenue of $239.89M missed by $3.73M.

"Beginning in August and even more so in September, we believe our consumer began to feel increasingly impacted by the ongoing pressures from persistent inflation, including heightened gas prices, rising interest rates, and the resumption of student loan payments, " said Steve Miller , BGFV President and CEO.

Headwinds include sales challenges, clearing merchandise through promotions, wage inflation, and store labor as its largest operating costs. Despite an attractive dividend yield ((FWD)) of 9.62%, the stock's overall dividend scorecard is unattractive, as showcased below.

Showcasing signs that historically led to dividend cuts, declining revenue, and year-over-year EBITDA growth and EBIT Growth substantially underperform the sector, BGFV halved its dividend on November 1st. Additionally, the stock has a -66.10% difference to the sector in cash from operations ((TTM)) and -43% forward dividend per share growth. Similar to PETS, BGFV comes at an extreme discount. Its A+ valuation grade is supported by Price/Sales figures that are more than an 80% difference to the sector, Price/Book ((TTM)) more than a 76% difference. However, valuation is not enough. Big 5 has poor growth grades , bearish momentum, and analysts revising estimates down. Investors who held this stock may have avoided its dividend cut by reviewing its dividend scorecard .

3. V.F. Corporation (VFC)

• Market Capitalization: $5.89B

• Dividend Safety Grade When Cut: F

• Dividend Yield ((FWD)): 2.38%

• Quant Sector Ranking (as of 11/10/23): 378 out of 535

• Quant Rating: Hold

Last but not least is V.F. Corporation, which I wrote about in a March article titled, " Intel Cut Its Dividend: Yours May Be Next" . Possessing an 'F' Dividend Safety Grade since September 29, 2022, VFC did just that!

With nearly 50 years of consecutive dividend payments, the Dividend King announced another cut that began on the heels of the COVID-19 pandemic. A lifestyle brand offering accessories, footwear, and luxury goods under popular names like North Face, Timberland, Vans, and JanSport, VFC previously cut its longstanding dividend by 41.2%. This latest cut slashes the dividend another 70% from $0.30 to $0.09/share. A perfect example of the importance of dividend safety versus dividend history is the VFC's grade of 'F' for over a year, well before its first announced cut.

VFC Dividend Scorecard

Lackluster growth , bearish momentum, and dwindling profits have resulted in VFC's warning banner . Over the past 11 years, 64.4% of stocks with an 'F' Dividend Safety grade cut their dividend. Macro challenges, including inflation eating at cash flows, falling sales, and declining profits, prompted VFC to try and increase margins and profitability through cost savings and investments. However, during the Q2 2024 Earnings Call, VFC President & CEO Bracken Darrell said :

Our biggest business is declining. The U.S. isn't working well. The innovation engine has historically been strong but has drifted downward over the past few years. Employees still love the brands and business. But the morale has been hurt by the poor performance, and costs are too high.

Its largest brand, Vans, has experienced inconsistent earnings in an unfavorable environment where consumers watch their budgets. Excess inventories have led to product discounts, thus hindering sales growth, and as online shopping increases, retail stores are seeing fewer in-store customers.

Despite Q2 2024 revenues of $3.03B beating by $37.72M, EPS of $0.63 missed by $0.02. Issuing cautious guidance, its management reduced FCF projections by 50% for the full year and cut its dividend by 70%.

Although the company trades at a discount, supported by a forward P/E ratio of 10x, nearly a 30% difference to the sector, and a trailing dividend yield +275% higher than sector peers, its 88.85% cash flow payout ratio is unappealing, and the stock has fallen nearly 50%YTD, and over the last year. Consider reviewing dividend safety metrics before diving into dividend stocks, even if they're a dividend king. It is important to consider our scorecard as a tool to avoid companies whose dividends may be at risk.

Conclusion: Are Your Dividends Safe?

Slowing economies with high costs, high inflation, and market volatility prompt many investors to look for dividend stocks to help offset portfolio losses while offering a steady income stream. Although fear is moving the markets and the current economic outlook is uncertain, many companies can grow and remain profitable to pay dividends. Check out the Dividend Grades on your stocks to determine if the dividend income is strong, safe, and can stand to increase over time.

Where the Fed has indicated a potential pause in rate hikes, evaluating your stocks and assessing the dividend safety grade is still important. The three securities, PETS, BGFV, and VFC, had at-risk dividends, pinpointed by our Dividend Safety Grades. Although only two picks cut their dividends, and one was suspended, their overall metrics warn of more potential cuts. Stocks with poor dividend metrics, weaker payout ratios, weak dividend coverage ratios, poor interest coverage ratios, and weak cash per-share figures offer red flags. Instead, consider Top Dividend Stocks with tremendous grades and fundamentals for our portfolio.

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