Today, FTSE 100 stock Evraz (LSE:EVR) offers a dividend with a 12.75% yield. In my experience, seeing a shareholder payout this large is a giant red flag of trouble ahead. Why? Because it’s often created by a rapidly falling share price rather than an increase in dividends themselves. But looking at the recent performance of Evraz shares shows the stock is actually up over 85% in the last 12 months. Is this dividend too good to be true? Let’s take a closer look.
The allure of a massive payout from a FTSE 100 stock
As a quick reminder, Evraz is a vertically integrated mining business and one of the top steel producers worldwide. With global supply chains being disrupted and massive monetary stimulus injected into public infrastructure across the US and China, the demand for steel has skyrocketed. And mixing high demand with limited supply results in rising prices.
This has been exceptionally beneficial to Evraz’s bottom line, so seeing its shares rise is hardly surprising. According to its latest interim report, the rise in steel, coal, and vanadium prices enabled the FTSE 100 stock’s underlying profits to surge to $2.1bn. That’s a 94% increase compared to a year ago and a 42% rise versus 2019. With debt levels seemingly under control, the management team has recommended a half-year dividend of $0.55 per share. Based on current exchange rates, that’s roughly equal to 40p or a 6.7% yield.
Taking this into consideration, a total yield of 12% suddenly seems affordable. But before diving into this enormous income opportunity, there are some risks I have to consider.
The driver behind Evraz shares
As encouraging as these latest performance figures are, the driver behind them is ultimately out of the company’s control. After all, commodity prices are set by the market, not the firm. And with a relatively fixed cost structure, any adverse shift in the price of steel or its other products can significantly impact Evraz’s profits and shares. In fact, that’s precisely what happened in 2019. Shares of Evraz were basically cut in half as steel demand across Europe and Russia fell considerably.
With other steel producers ramping up operations to take advantage of the elevated prices, the supply may soon meet or even exceed the demand. If, or rather when, this happens, these resource prices are undoubted going to fall. Needless to say, that’s not good news for Evraz shares. And in this eventual scenario, the firm’s profits are likely to take a significant hit, which could cause the FTSE 100 company to cut its dividends.
The bottom line
The long-term risk of an eventual dividend cut as steel prices stabilise seems likely, in my opinion. However, the business has been diversifying its product portfolio. Just last month, Evraz approved the construction of a new vanadium plant that is expected to start producing as of 2025. And if the business can continue reducing its dependence on steel, the diversification may be enough to help sustain its 12% dividend yield over the long term.
Personally, I think the concentration risks are too high for my tastes at this stage. So as alluring as the high yield might be, I won’t be adding any Evraz shares to my portfolio today.
