In December 2021, I said FS KKR Capital Corp. (NYSE: FSK) was at moderate risk of a dividend cut due to its variable dividend policy. But there was nothing in FS KKR’s financials that immediately concerned me.
Since then, the company has raised its payout to shareholders from $0.62 per share to $0.63 per share in March, with $0.68 coming next month. Annualized, that comes out to a whopping 13.9% yield.
But should investors rely on that high of a dividend from FS KKR in the future?
Let’s dig into the numbers and find out…
FS KKR is a business development company (BDC). It lends money to other businesses and has 193 companies in its portfolio. Sixty percent of its loans are first lien senior secured loans, meaning the loans are backed by collateral and FS KKR is first in line to be paid.
The top three sectors that FS KKR’s loan portfolio is exposed to are software and services, capital goods, and, lastly, healthcare equipment and services.
Currently, 1.5% of FS KKR’s outstanding loans are late. That’s a significant improvement from the 3.7% nonaccrual rate in December, when I last wrote about the company.
We measure the affordability of a BDC’s dividend by looking at net investment income (NII). This year, FS KKR’s NII is forecast to come in at $584 million, a big jump from last year’s $331 million.
Last year, FS KKR’s payout ratio was 86% based on NII. I’m comfortable with anything below 100% for a BDC.
In 2022, analysts expect FS KKR’s dividends paid to rise sharply to $723 million. That’s way above the same analysts’ estimate of $584 million in NII for 2022. That’s not sustainable, and if dividends paid are higher than NII, expect a lower dividend in the near future.
Furthermore, as stated above, FS KKR has a variable dividend policy. Many companies do whatever they can to maintain a stable dividend. Companies with variable dividend policies are upfront that the dividend will fluctuate based on performance. It’s not unusual for BDCs to have a great deal of variance in their results from year to year.
In fact, FS KKR lowered the dividend in 2018 and again last year. While this year’s payout is on the rise (so far), the dividend for 2022 is projected to be quite high, and the company will have to sharply grow NII to keep pace with it.
While there’s no immediate crisis, the variable dividend policy means that you should never be surprised if FS KKR’s dividend is reduced.
Dividend Safety Rating: C
Good investing,
— Marc
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Source: Wealthy Retirement