Course 407: High-Yield Stocks
Does the Company Generate Consistent Free Cash Flow?
In this course
1 Introduction
2 What Is the Company's Dividend Track Record?
3 Is the Payout Ratio Rising?
4 Are the Company's Sales and Earnings in Line and Stable?
5 Does the Company Generate Consistent Free Cash Flow?
6 Is the Balance Sheet Healthy?
7 How Has the Stock Performed?
8 Is This Stock Expensive Relative to Others in Its Industry?
9 Conclusion: Looking Both Ways

Noncash charges, such as depreciation and amortization, can sometimes cause a company's earnings to dip and its payout ratio to spike. A high payout ratio under such circumstances isn't necessarily a warning sign of an imminent dividend cut. That's why it's important to look at the company's free cash flow. Free cash flow represents the cash a company generates from its operations, net of what it spends on its plant and equipment. These are the funds a company can use to pay dividends, among other things. If free cash flow is strong, dividend payments probably won't be a problem for the company, even if earnings stumble in that year. Philip Morris' free cash flow more than covered dividend payments in 1999. In fact, its free cash flow of $9.6 billion was more than twice what it paid out in dividends, leaving a few billion dollars extra for such possible expenses as lawsuit settlements.

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