Are you tempted by the 8% yield on the Centrica share price? Here’s what you need to know

Roland Head — Tue, 18 Sep 2018 12:40:30 +0000

With its share price trading at levels not seen since 2003, Centrica (LSE: CNA) stock offers a forecast dividend yield of 8.2%. It’s a tempting prospect. But we need to know whether this payout can be sustained.

Put a cap on it

As a Centrica shareholder myself, I think there’s a good chance that the payout will be held. Today, I want to explain why.

One of the factors putting pressure on utility share prices over the last year has been the government’s planned price cap. Details of the cap were published earlier this month and, in short, about 11m households are expected to save an average of £75 each year. This implies a loss for utility sector revenue of about £825m.

Centrica’s share price rose after this news, suggesting it was no worse than expected. Management guidance has also remained unchanged, so far.

Still a cash machine

At the core of forecasts for Centrica’s dividend is the group’s cash flow guidance. Management expect to generate adjusted operating cash flow of between £2.1bn and £2.3bn this year. To help achieve this, cost savings of £200m are planned.

Capital expenditure for the year is expected to be limited to £1.1bn. The difference between operating cash flow and capex gives us an adjusted free cash flow figure of around £1bn, perhaps a little more.

Once interest costs of about £300m have been paid, this should leave just enough surplus cash to cover the cost of the dividend, which I estimate at about £675m.

In my view, this suggests the dividend will remain safe this year, and probably next year too. But earnings forecasts for 2019 are flat. In my view, a return to growth will be required to support the current payout beyond 2019.

This situation isn’t without risk, as my colleague Rupert Hargreaves explains. But I believe a turnaround is still likely and rate the shares as a buy.

Is this 8% yield safer than Centrica?

Another stock offering a forecast dividend yield of 8% is legal services and personal injury specialist NAHL Group (LSE: NAH), which runs the National Accident Helpline business, among others.

This £55m firm has been hit by regulatory changes in recent years and forced to change its business model. As a result, the group’s dividend has already been cut from a high of 19.1p per share in 2016 to a forecast level of 9.5p per share this year. This gives a forecast yield of 7.8%.

Today’s half-year results confirmed that the interim dividend will be cut from 5.3p to 3.2p. This seems to match up with the full-year forecasts, but the group’s share price is 4% lower at the time of writing.

I suspect investors are concerned that this business is still struggling to generate any growth. Today’s figures show revenue unchanged at £24.9m, and pre-tax profit unchanged at £5.3m.

However, net debt has risen by almost 50% to £17.4m over the last year. In my view, we need to see some growth as a result of this spending — otherwise this debt burden could become problematic.

What I’d buy

I believe the best company for investors in this sector is rival Redde, about which I wrote recently.

I’m not yet convinced by the turnaround at NAHL. In my view, there’s still a fair risk that growth will disappoint and another dividend cut will be necessary. I’m going to steer clear for now.

The post Are you tempted by the 8% yield on the Centrica share price? Here’s what you need to know appeared first on The Twelfth Magpie.

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Roland Head owns shares of Centrica. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

One bargain-basement dividend stock I’d buy and one I’d sell

Peter Stephens — Fri, 13 Oct 2017 10:20:32 +0000

With inflation moving higher in recent months, dividend shares are understandably becoming more popular among investors. This is to be expected, since inflation is eating away at the value of a range of assets and causing negative real returns in some cases.

However, not all dividend stocks may be worth buying at the present time. Some stocks may offer high yields, but have relatively uncertain growth outlooks. With that in mind, here is one dividend stock which appears to be worth selling, followed by another that could be a sound buy.

Falling profitability

UK consumer marketing business NAHL (LSE: NAH) released an update on Friday. The legal services-focused business announced that it has established its second Alternative Business Structure (ABS) in partnership with Lyons Davidson. The ABS will trade under the name National Law Partners and is expected to commence in November.

This forms part of the company’s strategy to advance its business model following the Personal Injury reforms announced by the government. In the long run, the ABS could help the company to grow its share of the Personal Injury market.

However, in the next couple of years the company is forecast to post a significant fall in its bottom line. For example, in the current year its earnings are due to fall by 11%, with a further decline of 20% expected next year. This means that dividends are expected to be cut from 19p per share last year to 13p per share in 2018.

While this still means that NAHL has a forward dividend yield of 8.9% and shareholder payouts should be covered 1.5 times by profit, the stock may struggle to make gains. Investor sentiment could decline in response to falling profitability, which means that its high income return may be more impressive than its total return.

Growth potential

In contrast, FTSE 100-listed Smurfit Kappa (LSE: SKG) is expected to post impressive earnings growth next year. The paper-based packaging specialist is forecast to grow its bottom line by 15% in the next financial year. When combined with a modest price-to-earnings (P/E) ratio of 12.5, this gives the stock a price-to-earnings growth (PEG) ratio of just 0.8. This suggests that its share price could move higher.

As well as growth potential, Smurfit Kappa also appears to have dividend appeal. The company has a dividend yield of 3.4% from a shareholder payout that is covered 2.4 times by profit. This suggests that dividends could grow at a much faster pace than profit without reducing the reinvestment potential available to the business.

With relatively solid profit growth over the last five years, Smurfit Kappa could prove to be a sound buy for the long term. Since the outlook for the UK economy is uncertain, it could provide a mix of defensive attributes, dividend growth potential and capital gains over the long run. As such, now could be the perfect time to buy it.

The post One bargain-basement dividend stock I’d buy and one I’d sell appeared first on The Twelfth Magpie.