Linkage Software Co., LTD (SHSE:688588) is about to trade ex-dividend in the next 3 days. The ex-dividend date is one business day before the record date, which is the cut-off date for shareholders to be present on the company's books to be eligible for a dividend payment. The ex-dividend date is important as the process of settlement involves two full business days. So if you miss that date, you would not show up on the company's books on the record date. In other words, investors can purchase Linkage Software's shares before the 4th of July in order to be eligible for the dividend, which will be paid on the 4th of July.

The company's upcoming dividend is CN¥0.20 a share, following on from the last 12 months, when the company distributed a total of CN¥0.20 per share to shareholders. Last year's total dividend payments show that Linkage Software has a trailing yield of 2.9% on the current share price of CN¥6.85. Dividends are an important source of income to many shareholders, but the health of the business is crucial to maintaining those dividends. That's why we should always check whether the dividend payments appear sustainable, and if the company is growing.

Dividends are usually paid out of company profits, so if a company pays out more than it earned then its dividend is usually at greater risk of being cut. Last year, Linkage Software paid out 215% of its profit to shareholders in the form of dividends. This is not sustainable behaviour and requires a closer look on behalf of the purchaser. That said, even highly profitable companies sometimes might not generate enough cash to pay the dividend, which is why we should always check if the dividend is covered by cash flow. It paid out 81% of its free cash flow as dividends, which is within usual limits but will limit the company's ability to lift the dividend if there's no growth.

It's disappointing to see that the dividend was not covered by profits, but cash is more important from a dividend sustainability perspective, and Linkage Software fortunately did generate enough cash to fund its dividend. If executives were to continue paying more in dividends than the company reported in profits, we'd view this as a warning sign. Extraordinarily few companies are capable of persistently paying a dividend that is greater than their profits.

Click here to see how much of its profit Linkage Software paid out over the last 12 months.

Have Earnings And Dividends Been Growing?

Companies with falling earnings are riskier for dividend shareholders. Investors love dividends, so if earnings fall and the dividend is reduced, expect a stock to be sold off heavily at the same time. Readers will understand then, why we're concerned to see Linkage Software's earnings per share have dropped 18% a year over the past five years. Ultimately, when earnings per share decline, the size of the pie from which dividends can be paid, shrinks.

Another key way to measure a company's dividend prospects is by measuring its historical rate of dividend growth. Linkage Software's dividend payments are effectively flat on where they were four years ago. When earnings are declining yet the dividends are flat, typically the company is either paying out a higher portion of its earnings, or paying out of cash or debt on the balance sheet, neither of which is ideal.

The Bottom Line

From a dividend perspective, should investors buy or avoid Linkage Software? Earnings per share have been shrinking in recent times. Additionally, Linkage Software is paying out quite a high percentage of its earnings, and more than half its cash flow, so it's hard to evaluate whether the company is reinvesting enough in its business to improve its situation. It's not an attractive combination from a dividend perspective, and we're inclined to pass on this one for the time being.

Having said that, if you're looking at this stock without much concern for the dividend, you should still be familiar of the risks involved with Linkage Software. To help with this, we've discovered 4 warning signs for Linkage Software (1 can't be ignored!) that you ought to be aware of before buying the shares.

Generally, we wouldn't recommend just buying the first dividend stock you see. Here's a curated list of interesting stocks that are strong dividend payers.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com