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2 high-yield dividend stocks that are ridiculously cheap

Photo: Petrofac Ltd . Fair Use.

Leading oil and gas infrastructure provider Petrofac (LSE: PFC) recently announced that it had won a massive $1.3bn contract from the Kuwait Oil Company to design and build a gathering centre in the Burgan oil field, in the south east of the country. Work will begin shortly and is scheduled to be completed in mid 2020.

The centre will have the capacity to produce around 120,000 barrels of oil per day together with associated water, gas and condensate. So great news for Petrofac, but what does this mean for investors?

Not such a big deal

Sure, $1.3bn is an awful lot of money for you and I, but for infrastructure providers like Petrofac these types of contracts are simply bread and butter. If further proof were needed, the company’s share price has actually moved a little lower since the announcement. It’s like an already-rich billionaire winning the lottery and not bothering to celebrate. Put simply, the company needs to win these types of contracts regularly just to stay alive.

So perhaps a better measure of performance would be its latest set of results. These were largely positive, with Petrofac delivering record revenues, significant cost reduction and strong cash generation during the course of a very busy 2016.

Swing to profit

Group revenue increased by more than $1bn to $7.9bn during the year, with the company swinging to a $100m pre-tax profit from the $335m loss it suffered a year earlier. The outlook for 2017 looks pretty good too, with analysts forecasting an 18% rise in earnings for the year to December, bringing the P/E ratio down to a very enticing 9.8.

Furthermore, with a prospective full-year dividend payout of 53.47p per share, Petrofac also offers a tasty yield of 6% at current levels. That all sounds pretty good so far, so why am I ignoring it as an income play?

Volatile sector

I like my dividend income to be sustainable, reliable and progressive, and I don’t believe that Petrofac can provide these qualities over the longer term. The performance of companies in this sector is highly geared to the oil price and therefore unpredictable.

This makes it almost impossible to expect rising levels of income over the longer term, and indeed the company’s dividends have not been increased since 2013. Admittedly, Petrofac is a cheap high-yield dividend stock, but not one I could recommend as a long-term income play due to the volatile nature of the sector within which it operates.

A better alternative?

Perhaps a better alternative for income seekers looking for a long-term income play would be Pennon Group (LSE: PNN). The company owns South West Water, which provides water and wastewater services to Devon, Cornwall and parts of Dorset and Somerset, as well as leading waste treatment and disposal business Viridor.

I like the fact that Pennon operates as a virtual monopoly within its own geographical area, and is also a leader in delivering energy from waste though its Viridor subsidiary. Pennon has a sector-leading policy to grow the group dividend by 4% above inflation each year at least until 2020. With a 38.43p per share payout pencilled-in for FY 2018 this equates to a mouth-watering 4.3% yield.

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Bilaal Mohamed has no position in any shares mentioned. The Motley Fool UK owns shares of and has recommended Petrofac. 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.