8.6% dividend yield! Is this the greatest FTSE 100 bargain?

Dividend income from Metals and Mining Multinational Rio Tinto (LSE: RIO) is currently at 8.6%. That means an investment of £10,000 will make a profit of £860 per year just for the shareholders.

With compound interest, £10,000 will become £20,000 in less than nine years and £118,000 in 30 years. That assumes no deduction for dividends or share price (nothing is guaranteed).

Sounds like a good investment if you put something like that, but that doesn’t mean I’m going to jump in with both feet. First, I must answer an important question. What dividends will be paid in past years?

What is the future dividend yield?

Here is a table of total returns for Rio Tinto shares since 2015. This is the percentage return to shareholders including dividend payments and share buybacks.

I can see that the current 8.6% yield is not a flash in the pan. In fact, in some years the company returns even more than that. However, there are years when the payment is lower. Totally? I am encouraged by the consistently high payouts.

Another useful metric is the percentage of earnings paid out in dividends. For the mining sector – which has high dividends – a percentage of less than 75% is good to show that the company is not overextending itself by paying too much of the earnings to shareholders.

By 2021, Rio Tinto will generate $16.8bn in cash for shareholders from total revenue of $21.2bn. That’s a percentage of 79%, which is on the high side.

In fact, the latest trading update says the company “expect total cash returns to shareholders over the longer term to be in the range of 40 to 60% of underlying earnings”. So there is strong evidence that this dividend could drop significantly in the future, unfortunately.

I don’t buy stocks for a quick win, though. I want to make investments in quality companies over a long time horizon, and that means doing my homework on the company itself.

Earnings and revenue

A good starting point for analyzing a company is the price-to-earnings ratio. We take the stock price divided by the earnings per share and it tells us roughly how cheap or expensive the company is.

Rio Tinto has a P / E aspect of 6.9, which is quite cheap compared to FTSE 100 the average is around 14, and that’s not too far from the UK metals and mining industry average of 5.7. It’s a figure I like because it doesn’t show any big problems.

The company’s five-year growth rate may tell the story. The table below shows that Rio Tinto has enjoyed an increase in revenue in each of the last five years – more good news.

Is it a purchase?

As an income stock, Rio Tinto looks like a quality investment. The company’s financials show that the 8.6% yield may be a touch more than I can expect in the future, but I will still be looking to open a position the next time I make a change to the portfolio.