We recently published a list of The 7 best debt-free dividend stocks to buyIn this article, we will look at how Epsilon Energy Ltd. (NASDAQ:EPSN) compares to the other debt-free dividend stocks.
Debt financing is not always a bad thing; its impact depends on how companies use it. When managed well, it can generate significant cash flow and increase shareholder returns. However, when misused, debt can damage a company’s overall financial health. Although investor sentiment this year is being boosted by expected Federal Reserve rate cuts, which are also contributing to this year’s stock market rally, companies in the U.S. still carry excessive amounts of debt on their balance sheets. According to a report by S&P Global Ratings, corporate defaults skyrocketed last year and could be a challenge again in 2024 as companies with limited cash struggle with high interest rates. In 2023, 153 companies defaulted on their payment obligations, a significant increase from 85 last year, representing an 80% increase. This was the highest default rate in seven years, excluding the COVID-19-related spike in 2020.
While many U.S. companies have strong balance sheets, a significant portion of defaults have occurred among companies with low credit ratings, negative cash flow, high debt loads, and little liquidity. Analysts refer to these highly indebted companies as “zombies” because they are struggling to survive, barely able to pay the interest on their loans, and often just one setback away from bankruptcy. An Associated Press analysis found that the number of such companies has grown to nearly 7,000 publicly traded firms worldwide, including 2,000 in the U.S. These companies have spent years piling up cheap debt and then experienced sustained inflation that has driven borrowing costs to their highest levels in a decade. Moreover, zombie debt has often been used not for expansion, hiring, or technology investments, but to buy back their own stock.
Also read: 10 stocks with the highest monthly dividend payment
Financial experts point out that US companies had the opportunity to reduce their debt burden after then-President Donald Trump’s 2017 tax reform, which cut corporate taxes and made it easier to repatriate foreign profits. However, most of this financial relief was used for share buybacks rather than debt reduction. As a result, the situation has worsened to such an extent that the government is expected to spend $870 billion this year on interest payments on its debt alone, a third more than last year and more than the defense budget.
Even with tax reform, the debt would not disappear on its own. According to the Federal Reserve, corporate America had a debt burden of $13.7 trillion in 2023. Corporate debt has increased 18.3% since 2020 as companies benefited from the Fed’s rate cuts in the early days of the COVID-19 pandemic. In addition, according to a Wall Street Journal report, U.S. companies will have to renegotiate about $1.87 trillion in corporate debt over the next few years, expecting higher interest rates. This will largely depend on their revenue forecasts for the coming months and years, as companies will negotiate to get the lowest interest rates possible.
Debt is generally not considered a cheap option to support dividends. This was particularly evident during the 2020 pandemic, when many private companies resorted to dividend recapitalization – taking on new debt to fund dividend payments. This practice has continued to be common among private equity-backed companies post-pandemic. In the first half of 2024, dividend recapitalizations have surged, with about $30.2 billion worth of leveraged loans issued to cover these payments, matching the 2021 amount, which was the highest in at least a decade, according to PitchBook LCD data.
However, companies’ balance sheets are currently strong and they are paying record dividends to their shareholders around the world. In this article, we discuss some of the best debt-free dividend stocks that pay dividends.
We also measured hedge fund sentiment on each stock, based on Insider Monkey’s database of 912 funds as of Q2 2024. Why do we care about the stocks hedge funds invest in? The reason is simple: Our research has shown that we can outperform the market by mimicking the top stock picks of the best hedge funds. Our quarterly newsletter’s strategy selects 14 small-cap and large-cap stocks each quarter and has returned 275% since May 2014, beating its benchmark by 150 percentage points. (Further details can be found here).
A natural gas pipeline cuts through a rural landscape.
(NASDAQ:EPS)
Dividend yield as of August 16: 4.65%
Market capitalization on August 16: $118.16 million
Enterprise value as of August 16: $110.1 million
Epsilon Energy Ltd. (NASDAQ:EPSN) is a Texas-based independent oil and natural gas company that specializes in the acquisition, development, gathering and production of natural gas and oil reserves. The company’s recent quarterly earnings were strong. Its Permian assets continued to perform strongly, posting significant quarter-over-quarter increases in both oil volumes and revenue. This performance was driven by a full quarter’s contribution from the acquisition made in the first quarter and a month of production from the sixth well at the Pradera Fuego project. Additional sequential oil growth is expected in the third quarter as the sixth well will contribute a full quarter and the seventh well is now in flowback mode producing over 700 barrels of oil per day while still being cleaned up.
Epsilon Energy Ltd. (NASDAQ:EPSN) is well positioned for continued growth in the Permian Basin and expects significant upside for its Marcellus assets in the coming year as the natural gas situation improves. With a recently expanded and undrawn credit facility, as well as strong cash flows and available cash, the company is in a strong position to maintain its dividend payments and explore promising new projects.
In the first six months of 2024, Epsilon Energy Ltd. (NASDAQ:EPSN) generated over $9 million in operating cash flow. The company began paying dividends in 2022 and has been paying dividends regularly since then. In the second quarter of 2024, it distributed $1.4 million in dividends to shareholders. It currently offers a quarterly dividend of $0.0625 per share, which equates to a dividend yield of 4.65% (as of August 16).
According to Insider Monkey’s database for Q2 2024, 7 hedge funds held shares in Epsilon Energy Ltd. (NASDAQ:EPSN), up from 6 in the previous quarter. These shares are worth a total of over $31.4 million. With over 3.6 million shares, Solas Capital Management was the company’s largest shareholder in Q2.
Total EPSN 1st place on our list of the best debt-free dividend stocks to buy. While we recognize EPSN’s potential as an investment, we believe some highly undervalued dividend stocks promise higher returns and do so in a shorter time frame. If you’re looking for a highly undervalued dividend stock that’s more promising than EPSN but trades at less than 7 times earnings and yields nearly 10%, read our report on the dirt cheap dividend stock.
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Disclosure: None. This article was originally published on Insider Monkey.
