Investors like Warren Buffet and Mark Cuban are usually the types who prefer stocks that pay dividends – the sum a company pays to its stockholders out of its profits, as a symbol of goodwill for holding stocks.

There are many investors who usually focus on dividends as the sole metric for investing in a stock but why? Because income from dividends is mostly steady and choosing the right stock will even help in the growth of the income.

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Sounds good? Well, there is a grey side to every bright story. Here are a few things you must look at while investing in dividend-paying stocks:

1. Check the Company and Sector Health

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This is particularly important for volatile sectors like healthcare and energy where a single piece of news becomes a tipping point for the fluctuation of the industry and may eventually affect the dividend payouts.

In this context, the company health is equally important. Although, a good dividend payout is seen as an indicator of financial health, look at the financial reports of the company to understand the performance.

Many companies pay out good dividends to keep the investors lured but are not actually delivering when it comes to operations or profits.

As dividend income is also a patient investor’s niche, the long-term prospects of the company become important.

In simple words, if a company can churn out good profits and is still offering good dividends, it does not make financial sense.

Tata Consultancy Services and Vedanta are known for their consistent performance and good dividend growth.

2. The Company Holds too Much Debt? Avoid.

Investing in company stocks which hold excessive debt is mostly a bad idea.

Many companies pay dividends using debt just to keep their stocks valuable. If a company has excessive debt which has not reduced for some time, the growth factor will surely suffer, affecting profits and in-turn dividend.

3. Check History of Dividend Payouts

A 7% dividend, yield is great. 10% even better.

But when that suddenly drops to 1% or even decimals, that it is a red flag. Inconsistent dividend payouts show the status of the company’s growth and it is better to stay away from such stocks.

Hindustan Unilever is known for its stable dividend payout and growth.

4. Look at the Bottomline

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Bottom-line or basically the net income of the company is one of the key investment factors for most investors.

It is good to figure out the company’s performance in previous quarters to understand how much profit the company is making.

This, in turn, will tell you whether the company is paying appropriate dividends or not and determine shareholder’s value.

5. Avoid the Shady!

Since dividend income means a long-term investment, it is a good practice to look at mid-cap or large-cap companies which have a history of good business growth and have remained consistent.

Risk appetite is different for everyone but investing in a small-cap company, which has churned consistent losses and is in debt, may initially sound attractive when the company announces a high dividend yield to keep the stock valued.

But it won’t be long before the stock takes a plunge down the cliff taking along with it the shareholder value.

Happy Investing!

Disclaimer: The views expressed in this post are that of the author and not those of Groww

Happy Investing!

Disclaimer: The views expressed in this post are that of the author and not those of Groww