In this newsletter, I share content I bumped into the past month that’ll help you become more financially savvy.
This is not financial advice. It's just education. Please think through your situation before applying anything you read here.
This month's recommendation:
Cirtek Suspends Preferred Shares Dividends
Commentary
Yesterday, Cirtek suspended dividend payments for their preferred shares ("prefs"), causing the prefs to drop by 30% daily for the past two days.
Note that 30% is the maximum daily drop allowed by the Philippine Stock Exchange.
A brief primer on prefs
Despite being called "preferred shares," prefs are closer in characteristic to bonds, not shares of stock.
Like bonds, prefs have known payouts and payout schedules and are thus categorized as a fixed income instrument. However, unlike bonds, prefs have two distinct disadvantages.
First, they are subordinate to debt. If a company goes bankrupt, bondholders will get paid first. If bondholders exhaust all assets, pref holders receive nothing.
Second, prefs' dividends don't need to be paid. The board of directors can vote not to pay dividends to conserve cash.
In Cirtek’s case, the board exercised this right and suspended dividend payments to pref holders.
In essence, prefs are like bonds with fewer rights. These unattractive characteristics usually cause them to be priced at higher yields in the open market than bonds.
Why interest and dividend payouts don't matter
I've been getting questions about the attractiveness of Filipino dividend stocks like SCC and OGP. Are they attractive given that they pay a dividend?
My response is always the same: Look at the business, not the dividend. Don't just look at the eggs – study the chicken as well.
A dividend payment alone shouldn’t be a deciding factor in investment decisions. Assets that generate a recurring payment are not inherently safer.
I would MUCH rather have a fantastic company reinvesting its cash in highly productive assets than a shoddy company that pays a dividend.
What is a dividend payment, anyway?
A dividend is a payout of a company's existing cash to its security holders. It's a transfer of cash from the company's bank account to your bank account.
This means a company cannot afford to give a dividend if it has no cash. It does not matter how high the promised dividend yield is – if the business is doing poorly, the company will not be able to pay you.
Note that all this applies to interest payments as well. Companies that cannot pay their debts go bankrupt.
In business, promises mean nothing. Cash is everything.
So if dividends are paid with a company's cash, that means a company's health matters. A lot.
Why? Because the health of a company determines its ability to continue paying dividends and interest. If a company is unprofitable, then it will lose the ability to generate cash to sustain these payouts.
If the source of a dividend or interest payment is a company's health, then it only makes sense to pay some attention to it. The chicken is at least as important as its eggs!
This matters because if a company gets into a financially lousy situation like Cirtek, it will have no option but to suspend dividend payments, and your investment will go to waste.
Don't be blinded by the quick allure of high yields and consistent dividends. When investing, trace the money back to its source. Because if that source isn't doing well, it'll only be a matter of time before that chicken becomes incapable of giving you eggs!
KEITH LIM