Some investors rely on dividends for growing their wealth, and if you're one of those dividend sleuths, you might be intrigued to know that The Hershey Company (NYSE:HSY) is about to go ex-dividend in just three days. The ex-dividend date is one business day before the record date, which is the cut-off date for shareholders to be present on the company's books to be eligible for a dividend payment. The ex-dividend date is important as the process of settlement involves a full business day. So if you miss that date, you would not show up on the company's books on the record date. Meaning, you will need to purchase Hershey's shares before the 15th of May to receive the dividend, which will be paid on the 15th of June.

The company's upcoming dividend is US$1.452 a share, following on from the last 12 months, when the company distributed a total of US$5.81 per share to shareholders. Calculating the last year's worth of payments shows that Hershey has a trailing yield of 3.1% on the current share price of US$185.94. Dividends are a major contributor to investment returns for long term holders, but only if the dividend continues to be paid. So we need to investigate whether Hershey can afford its dividend, and if the dividend could grow.

Dividends are typically paid out of company income, so if a company pays out more than it earned, its dividend is usually at a higher risk of being cut. Last year, Hershey paid out 103% of its income as dividends, which is above a level that we're comfortable with, especially if the company needs to reinvest in its business. A useful secondary check can be to evaluate whether Hershey generated enough free cash flow to afford its dividend. Dividends consumed 59% of the company's free cash flow last year, which is within a normal range for most dividend-paying organisations.

It's disappointing to see that the dividend was not covered by profits, but cash is more important from a dividend sustainability perspective, and Hershey fortunately did generate enough cash to fund its dividend. Still, if the company repeatedly paid a dividend greater than its profits, we'd be concerned. Extraordinarily few companies are capable of persistently paying a dividend that is greater than their profits.

Click here to see the company's payout ratio, plus analyst estimates of its future dividends.

Have Earnings And Dividends Been Growing?

Businesses with shrinking earnings are tricky from a dividend perspective. If earnings decline and the company is forced to cut its dividend, investors could watch the value of their investment go up in smoke. That's why it's not ideal to see Hershey's earnings per share have been shrinking at 2.5% a year over the previous five years.

The main way most investors will assess a company's dividend prospects is by checking the historical rate of dividend growth. Hershey has delivered an average of 9.6% per year annual increase in its dividend, based on the past 10 years of dividend payments. The only way to pay higher dividends when earnings are shrinking is either to pay out a larger percentage of profits, spend cash from the balance sheet, or borrow the money. Hershey is already paying out a high percentage of its income, so without earnings growth, we're doubtful of whether this dividend will grow much in the future.

To Sum It Up

Is Hershey an attractive dividend stock, or better left on the shelf? It's never fun to see a company's earnings per share in retreat. What's more, Hershey is paying out a majority of its earnings and over half its free cash flow. It's hard to say if the business has the financial resources and time to turn things around without cutting the dividend. Bottom line: Hershey has some unfortunate characteristics that we think could lead to sub-optimal outcomes for dividend investors.

Having said that, if you're looking at this stock without much concern for the dividend, you should still be familiar of the risks involved with Hershey.

If you're in the market for strong dividend payers, we recommend checking our selection of top dividend stocks.

This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.