A dividend yield can tell you a lot about a payout. Not only does it tell you how much you could be collecting in dividend income, but it can give you an indication of investor sentiment, and whether the stock struggles or is doing well. An excessively high yield, for example, can be a sign that investors are concerned about the stock, because a rising yield is often associated with a falling stock price.
Drug manufacturer Organon (NYSE: OGN) currently pays a yield of nearly 10%, which is a high payout by any standard; the S&P 500 index average is less than 1.6%. Are investors making a mistake in selling shares of this stock, and could the yield be safer than it looks, or is this a dividend that is too dangerous for investors to rely on?
Organon has been off to a rough start since its spinoff
Organon spun off from healthcare company Merck in June 2021. It offered Merck a way to focus more on growth and innovation. Organon is a slower-growing business with dozens of products, many of which are aimed at women's health.
Unfortunately, the interest in the stock hasn't been high. Since becoming publicly traded more than two years ago, the share prices of Organon have nosedived more than 65%. Merck, by comparison, has risen by 36% over the same timeframe.
What Organon's financials say
For dividend investors, it's important to look at the financial strength of Organon to see how safe the payout is. On Nov. 2, the company posted results from its third quarter, which ended on Sept. 30. In Q3, the company's revenue totaled $1.5 billion and was down a relatively modest 1% year over year. That's not great, but it's also not awful given the current macroeconomic conditions and inflation potentially deterring some demand.
The more concerning number was net income, however, as Organon's profits fell drastically from $227 million in the year-ago quarter to just $58 million this past quarter. In multiple areas, including sales and general admin, cost of revenue, and even interest expenses, Organon's expenses rose on a year-over-year basis. As a result, Organon's diluted earnings per share totaled $0.23, compared with $0.89 in the prior-year period. This is a problem given that Organon pays a quarterly dividend of $0.28; paying out more than profits is a recipe for disaster.
The positive is that Organon's cash flow isn't all that concerning -- yet. Through the first nine months of the year, the company has reported operating cash flow totaling $402 million, down from $591 million a year ago. But that is still well above the $221 million in dividend payments that Organon has made over that period. The risk, however, is that given its higher costs, cash flow could slow down as well.
Organon investors have good reason to be worried
No growth, rising expenses, and a potentially unsustainable dividend are all valid reasons for investors to feel hesitant about investing in this dividend stock today. Organon's financials aren't looking impressive, and the risk is that if things don't change soon, the company may need to end up cutting its dividend payments.
While it may be tempting, yielding at close to 10% right now, this is a dividend that does indeed appear to be too good to be true. The risk is that even if investors buy the stock and collect the yield for a while, it may only help to offset the losses from owning shares of this struggling company.
Investors are better off going with other dividend stocks, which may pay less but are safer investments to hang on to for the long haul.
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David Jagielski has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Merck. The Motley Fool has a disclosure policy.
