Can Abercrombie & Fitch Keep Paying Its 4% Yield?

By Markets Fool.com

Some retailers are getting mauled at the mall. Shares of Abercrombie & Fitch plunged 17.3% last week after posting disappointing financial results. This abridged trading week also isn't getting any easier with a couple of bearish analyst moves surfacing over the holiday weekend.

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The good news is that Abercrombie & Fitch pays out a pretty sweet dividend. Investors will be receiving a quarterly distribution of $0.20 for every share owned in a few days, and $0.80 over the course of a year translates into a chunky 3.96% yield after last week's drop. The yield is now just north of 4% with the stock trading below $20 earlier today.

Income investors tend to flock to fallen dividend payers, wooed by the fatter yields. However, that could be a dangerous strategy if the new shareholders ignore the reasons for a stock's decline.

It was a rough quarter. Net sales of $685.5 million are 3% below where they were a year earlier. Comps suffered a 4% decline, a combination of an 8% plunge at its namesake stores partly offset by flat store-level sales at Hollister. It sees "challenging" comparable-store sales for the current quarter before improving during the latter half of the fiscal year.

Abercrombie & Fitch did post a narrower loss than it did a year earlier, but it was a lot more red ink that Wall Street pros were expecting. Analysts thought that the struggling retailer would earn $1.20 a share this fiscal year before last week's report. Now the consensus profit target has been shaved to $0.94 a share, and that's not going to give it a lot of breathing room if it wants to keep shelling out $0.80 a share for its investors.

One size doesn't fit all

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A loss during a seasonally sleepy quarter for retailers isn't a big deal. Most chains more than make up for that as the back-to-school and holiday shopping seasons roll around. However, a couple of Wall Street pros aren't convinced.

Keybanc Capital Markets is sticking to its bullish rating on the stock, but it's lowering its price target from $33 to $30 this morning. More importantly for our dividend-sustainability purposes, it's slashing its earnings forecast for this fiscal year from $1.21 a share to $0.88 a share. That's dangerously close to its payout rate.

Zacks Investment Research downgraded Abercrombie & Fitch over the weekend, all the way down to a strong sell. Zacks is concerned about last week's quarterly miss, and the problematic implications of it potentially posting another loss for the current quarter.

Abercrombie doesn't have to earn at least $0.80 a share to keep paying its generous distributions, but weak sales and contracting earnings have a funny way of flipping the script in terms of cash flow and its ability to keep dividend rates so high. It's been more than three years since its last dividend increase, and obviously that's not going to happen with its business going the other way.

This makes today's 4% dividend a lot riskier than yield chasers think. Abercrombie & Fitch is confident that it can turn sales around the second half of this year, but it also predicts that it won't have to discount aggressively to keep in-store traffic buzzing. That's a dangerous assumption, and one that often falls by the wayside once neighboring apparel retailers in the same mall start to get desperate. Enjoy this month's fat quarterly dividend check, but don't buy the stock solely for that infusion.

The article Can Abercrombie & Fitch Keep Paying Its 4% Yield? originally appeared on Fool.com.

Rick Munarriz has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. 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.