Big dividend = Big statement!

A dividend payout ratio above 100% is a statement. It just depends what kind.

The same mid-cap services company I looked at recently paid $10.1 million in dividends and buybacks last year on $6.1 million in net income attributable to shareholders. That's a 165% payout ratio. More capital going out than was earned.

In isolation, that's not automatically a problem. Plenty of companies smooth dividends through cycles and cash reserves exist for a reason. This business had $34 million in cash with virtually no debt (net debt to EBITDA of essentially zero). The balance sheet can absorb it.

But context changes everything.

Three years ago, net income was $81 million and dividends were $38 million. A 47% payout. Conservative, sensible. Two years later, net income swung to a $37 million loss. Dividends dropped to $15 million but still went out the door. Now net income has recovered to $6 million and the dividend sits at $10 million.

Revenue has fallen 30% over three years. Earnings have gone from $81 million to $6 million. But dividends have only come down from $38 million to $10 million. The payout ratio has tripled.

There are really only three explanations. Management genuinely believes the earnings decline is temporary and they're smoothing through it. Or the shareholder register demands income and the board won't risk the backlash of a deeper cut. Or they don't have a better use for the capital.

That third one is worth sitting with. A company in structural revenue decline that can't find a reinvestment opportunity beating a cash return to shareholders is telling you something about its own growth prospects. The reinvestment rate here is 11.5%. A healthy growing services business would typically be reinvesting 20-30% of operating cash flow into capability, technology, and market expansion.

The Altman Z-score sits at 33.9. This company isn't going bankrupt. Not even close. But solvency and vitality are different questions entirely. You can be perfectly solvent while slowly winding down.

The capital allocation question is straightforward: is there enough being invested to reverse the revenue decline, or is the current approach optimising the run-off? Both are legitimate strategies. The numbers just need to match the narrative.