Why These 2 Big Dividends Are Still Dangerous, And 1 Is Becoming More Viable

At the end of 2012, I identified three companies with outsize dividends that I thought were dangerous for investors to be approaching. As you can see, these companies offer up eye-popping yields that would tempt any dividend investor.

Company

Industry

Dividend Yield

Windstream

Telecommunications

11.2%

Vector Group

Cigarettes

10.2%

United Online

Mini-conglomerate of businesses

6.3%

Source: Yahoo! Finance.

All three companies have released information about how they performed at the end of 2012, and after reviewing the information, I believe that two of them are still dangerous, while one is entering interesting territory.


Read below for details on why I feel this way, and at the end of the report, I'll offer up access to a special free report on three much more reliable dividend options.

Windstream 
This is the company that I think may be transforming into a viable dividend option. Windstream has been undergoing a change in business plans over the past several years. Whereas business clients made up about 40% of the company's revenue in 2010, that same segment now brings in the lion's share of cash -- at just short of 60%.  

The strategy to focus on business clients for voice and high-speed Internet needs is crucial. As rural landline customers -- who once provided much of the cash for the company's dividend -- slowly disappear, Windstream has been investing heavily to meet the Internet demands of small businesses. These investments explain why, even though revenue has grown by 66% over the past two years, net income has actually declined. 

I'm a big fan, though, of investing in smart ways in the present, in order to have a steady and growing stream of income in the future. From where I sit, there's a chance Windstream is on the right path.

Of greatest importance for dividend investors, the company used 97% of its free cash flow to pay out dividends last year. That was cutting it way too close to the 100% mark -- which signifies that a company is giving more away to shareholders than it is taking in.

With the recent earnings release, however, that number has come down significantly, to 87%. If this trend continues, the dividend could end up being a great catch right now.

Vector Group  
This lesser-known cigarette company, on the other hand, is still in my doghouse. In late January, Vector came out with preliminary results for 2012. In the report, Vector announced it would be taking on debt, and that its annual revenue was expected to shrink by 4.2%. 

At the same time, adjusted EBITDA was actually expected to increase, thanks to higher margins on the company's Pyramid brand cigarettes. While that's certainly not bad news, shrinking revenue is never a good sign, and I wonder how long those higher margins can sustain themselves. 

Vector has yet to announce when full-year results will be given, but based on the information available, it has paid out more in dividends in 2012 than it has taken in in the form of free cash flow. That's simply a recipe for disaster.

United Online 
Finally, we have United Online -- the company behind FTD floral network; Internet service brands Juno and NetZero; and social websites such as Memory Lane, Classmates, and StayFriends. Earnings were just released this week, and the market was not happy, sending shares down by as much as 17%.

Revenues in all segments except for FTD floral -- which the company plans to spin off -- were down in the fourth quarter when compared to last year. On a yearly basis, revenue shrank 3.1% and earnings per share plummeted 76%. 

Though the company is maintaining its dividend and only used 57% of its free cash flow to pay off its dividend in 2012, I don't think it's worth collecting the dividend if the underlying businesses and stock price are slowly deteriorating. With a current 6.3% yield, I guess you could hold the stock for 15 years and hope it still maintains its payout and you'd recoup your money, but I simply think there are better options out there.

If you're looking for those "better options,"check out the Fool's special report: "The 3 Dow Stocks Dividend Investors Need." It's absolutely free, so just click here and get your copy today.

The article Why These 2 Big Dividends Are Still Dangerous, And 1 Is Becoming More Viable originally appeared on Fool.com.

Fool contributor Brian Stoffel has no position in any stocks mentioned. The Motley Fool owns shares of United Online. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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