Often, a high dividend yield can be a red flag for investors about what might happen in future to the payout. In November, for example, I wrote about Ferrexpo (LSE: FXPO), saying “the dividend yield of 27% looks set to drop”. At that point, the interim dividend had already been cut by two-thirds. Today came news that the Ferrexpo dividend has been completely axed!
Here I consider why the payout has stopped, what lessons this might hold for me as an investor — and whether the prospect of a juicy future dividend could be a reason for me to start accumulating Ferrexpo shares now.
Difficult year
As a company with mining operations focused in Ukraine, Ferrexpo has had a difficult year. Tragically, 20 of its employees have died fighting in the war.
The company has continued production but the challenges of mining and especially transporting output to customers saw annual sales volumes last year fall 46%, while revenue halved.
Although diluted earnings per share and net operating cash flows both fell by roughly three-quarters, the company continued to generate sizeable cash flow at the operating level. Net operating cash flow was $301m.
Dividend cancelled
However, investing and financing cash flows were negative. Net cash outflows in the year therefore totalled $61m. Part of the reason for that was that the company spent $155m paying dividends. Today it announced that, “no further dividends are proposed for the financial year 2022”, effectively cancelling the payout until further notice.
I think it may be years before the dividend comes back, if it ever does. The company noted that a variety of factors including “war-related uncertainties” and legal risks “could have a negative impact on the potential for future dividend payments”. That was not tucked away in the risks section of the annual report. It was contained in the main text’s dividend discussion.
Future outlook
For the dividend to be restored at all, let alone at its former level, I think a number of things need to happen.
Production needs to reach a level where enough free cash flow is generated to support the payout. Certain political and legal risks will likely also need to be resolved. The company’s controlling shareholder is involved in an ongoing legal battle with the Ukrainian state. Ferrexpo has said that this is not affecting its operations. However, it could affect the company’s ability to distribute funds to shareholders.
Crucially, such key risks are wholly or largely out of the company’s control.
Some investment lessons
The dividend cancellation highlights the role of political risk when assessing a company’s prospects. I think that is especially so when its operations are highly concentrated in just one or two countries.
It is also a reminder of the risk of a buying a yield trap.
Not only has the juicy Ferrexpo dividend vanished, the share price has also fallen. It is 14% lower than a year ago and 59% down over five years.
My move
The risks here continue to be sizeable. They are hard if not impossible to assess fully and lie way beyond my risk tolerance.
Ferrexpo might yet do well in future. It has a proven operating capability even in wartime, sizeable customer base and attractive assets. But, given the risks, I will not be investing.
