One of my favourite ways to earn a second income is by owning dividend shares. That’s because as a part-owner in these companies, I earn a slice of their profits.
This tends to come in cold, hard cash. Just the way I like.
With thousands of available options, picking a selection can seem like a minefield. But I’d narrow down a selection by focusing on specific criteria.
How to filter dividend shares
For instance, first I could stick to FTSE 100 shares. These are the largest listed companies in the UK. Many of which are giant, established household names.
Although this doesn’t guarantee their future fortunes, it can remove some of the potentially higher-risk, smaller businesses.
Now I’m already down to 100 shares. Next, I’d focus on a dividend yield that is between 2% and 9%. Less than 2% is too low for a dividend share, in my opinion. And above 9% might not be sustainable.
Dividends tend to be paid from earnings, so there needs to be sufficient profit in the business to be able to pay shareholders like myself. Dividend cover is a measure that looks at how many times a dividend can be paid from a company’s earnings. I focus on a cover greater than 1.5.
Companies that have paid out for many years could be seen as more reliable than those that started more recently. That’s why I look for a dividend history of at least five years.
By implementing these simple criteria, my selection whittles down to just 19 matches.
4% dividend yield
Today, I’m considering a best-in-class dividend share. It’s energy giant Shell (LSE:SHEL). With a market capitalisation of £175bn, it’s one of the largest companies in the FTSE 100.
It offers a dividend yield of 4%, cover of three times and decades of payout history. Its yield isn’t the largest on offer, nor is it the smallest. But there’s more to dividend stocks than just their yield.
As payouts tend to be made from earnings, I’d look for sustainable profits. So the question I’d ask myself is if Shell will be able to sustain enough earnings in the coming years.
the energy transition is a major shift for companies like Shell. There are risks involved in all major changes and disruption to business models, and how it manages the change will be closely watched.
It’s investing billions of pounds in low-carbon solutions, while also focusing on its liquefied natural gas (LNG) operations.
Profits are growing
Recent earnings were strong. Second-quarter profits rose 24% to $6.29bn, and it announced a new $3.5bn share buyback programme.
When a company buys back its own stock, it reduces the number of shares available in the market. The effect of which can raise share prices and earnings per share.
One of the reasons why I consider Shell to be one of the best dividend stocks around is its commitment to enhancing shareholder returns with buybacks and dividends.
Overall, Shell looks like an excellent dividend income share to me. It offers a decent yield, growing earnings and a commitment to returning cash to shareholders.
Once I have spare cash in my Stocks and Shares ISA, I will be buying some myself.
This post was originally published on Motley Fool
