WAM Capital Ltd (ASX: WAM) is a Listed Investment Company (LIC) well known for its generous dividend payments.
Many individual shares on the ASX that offer juicy dividend yields – the big four banks, BHP Group Ltd (ASX: BHP) and Wesfarmers Ltd (ASX: WES) come to mind.
But WAM Capital's trailing 6.89% dividend (which grosses up to 9.84% with full franking) is truly a market leader.
So how can a LIC that specialises in small to mid-cap ASX stocks afford to pay such a lucrative dividend?
WAM Capital's modus operandi
Management at WAM Capital aims to generate returns from buying what it perceives to be undervalued growth companies that are ripe for share price gains – often through some kind of 'catalyst'. Once this catalyst has been filled, the shares are then sold for a tidy profit. If this is done consistently and well, the company's profit reserves are filled.
Once taxes have been paid on this reserve (which enables WAM to pass on full franking credits), WAM is then able to pass these profits on as dividends to shareholders.
Is WAM Capital's dividend sustainable?
Of course, for WAM Capital's dividend to be sustainable, it needs to be able to keep the show going, as it were, by keeping the profit reserve well topped up.
This WAM has historically been able to do, and well – as illustrated by the graph of WAM's recent dividend payments below.
Source: Wilson Asset Management
However, in the last few years, the company has struggled to keep its momentum going. WAM underperformed the broader S&P/ASX 200 Accumulation index by 4.5% over the past year. This, in turn, has led to a dwindling profit reserve, which might struggle to cover any dividends WAM hopes to pay in 2020.
For some context, this year WAM Capital shareholders received 15.5 cents per share in dividends. After these payments, WAM's reported profit reserves now stand at 5.25 cents per share (as of July 31, 2019). So unless WAM pulls a (rather large) rabbit out of its hat, things don't look too promising for WAM Capital's 2020 dividends.
Foolish Takeaway
Although I respect WAM Capital for its long history of what has generally been healthy outperformance and strong dividend payments, I'm not sure the party is going to continue next year without some serious winners for this LIC.
Thus, I would be more attracted to WAM Capital's sister companies WAM Research Ltd (ASX: WAX) or WAM Global Ltd (ASX: WGB) today…
