3 Smart Picks For Income Investors: BT Group plc, Babcock International Group PLC & Thomas Cook Group plc

Are BT Group plc (LON:BT.A), Babcock International Group PLC (LON:BAB) & Thomas Cook Group plc (LON:TCG) the best dividend growth shares?

| More on:

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than you put in.

Read More

The content of this article is provided for information purposes only and is not intended to be, nor does it constitute, any form of personal advice. Investments in a currency other than sterling are exposed to currency exchange risk. Currency exchange rates are constantly changing, which may affect the value of the investment in sterling terms. You could lose money in sterling even if the stock price rises in the currency of origin. Stocks listed on overseas exchanges may be subject to additional dealing and exchange rate charges, and may have other tax implications, and may not provide the same, or any, regulatory protection as in the UK.

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More.

Income investing is about more than just picking stocks with high dividend yields. A high yield may simply be a symptom of a falling share price, and this could be seen as a warning sign that investors doubt the company’s dividend sustainability.

This puts high yielding stocks at greater risk of dividend cuts, and shareholders in BHP Billiton, Rio Tinto, Rolls-Royce and Barclays are sure to have learned this the hard way, with all four FTSE 100 companies announcing big dividend cuts this year.

Instead, investors should look out for companies with reliable cash flows and sound fundamentals. Companies with robust dividend cover and steady dividend growth may have less attractive yields, but they tend to deliver superior income growth and capital appreciation in the longer term.

With this in mind, here are 3 stocks that seem to fit the bill:

Synergies

BT‘s (LSE: BT-A) acquisition of EE brings together the market leaders in both the fixed-line and mobile telecom sectors. The combination of these two giants creates a formidable force in the telecoms market, enabling BT to compete more effectively against rivals Sky and Virgin Media.

BT expects to generate around £360m in annual cost and capex synergies from the deal, with revenue synergies from cross-selling expected to add a total net present value of approximately £1.6bn. With top-line and bottom-line improvements, this should massively benefit free cash flow generation and support further dividend growth.

Free cash flow can already cover its dividend by more than 2.8 times, with adjusted earnings cover of 2.5 times. This shows there is plenty of room for increased shareholder payouts, which city analysts seem to agree. The consensus forecast is for dividends to grow by 13% this year, giving the stock a prospective yield of 3.2%. For 2017 and 2018, its prospective yield is forecast to rise to 3.6% and 4.0%, respectively.

Impressive

Babcock International (LSE: BAB) has an excellent long-term track record for delivering dividend growth and capital appreciation. Despite recent share price weakness, Babcock has delivered a capital return of 64% over the past 5-years, with dividend per share growing by an average compound annual growth rate (CAGR) of 13%.

Babcock’s impressive track record gives us confidence about the company’s dividend growth prospects. This is especially true given that the dividend cover stands at 2.9x. Fundamentals are looking positive, too, with growing public sector contract numbers contributing to strong revenue growth and improving revenue predictability.

With the stock now trading at 12.8 times expected 2015/6 earnings, you can’t complain about Babcock’s valuation either. Its dividend yield may only be worth 2.5% now, but dividends are forecast to grow by at least 9% annually for each of the next three years.

Controversial

Thomas Cook Group (LSE: TCG) is controversial pick. Over-expansion and excess leverage brought the company to a near bankruptcy in 2011, and it has yet to restart dividend payments.

But being a well-recognised brand with a high degree of customer loyalty, Thomas Cook has been able to quickly turn things around. Profits are bouncing back strongly and its balance sheet is in much better shape. Net debt has fallen sharply – to just £139 million in 2015 – with the company likely to become debt free later this year.

Management expects to resume dividend payments in early 2017 in respect of 2016’s full-year earnings. City analysts expect it will initially pay around 20-25% of its adjusted earnings, which would equate to around 2.3p per share, based on expectations that underlying EPS will climb 20% this year, to 10.7p. On these estimates, its shares carry a prospective dividend yield of 2.5%.

With expectations of double-digit earnings growth over the next few years and a steady increase in its payout ratio, the outlook for the stock’s dividend growth is extremely exciting. Valuations are attractive too, with Thomas Cook trading at a forward P/E of just 8.6.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Jack Tang has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.

More on Investing Articles

Young mixed-race woman jumping for joy in a park with confetti falling around her
Investing Articles

2 explosive stocks I’d buy today for a life-changing passive income in 10 years

For many of us, passive income is the end goal. However, unless we have a big pot of cash, we're…

Read more »

Investing Articles

After rising 29%, is there still any value in the Lloyds share price for investors?

FTSE 100 bank Lloyds has been gaining momentum in recent times. But is there any value left in its share…

Read more »

Young Asian man drinking coffee at home and looking at his phone
Investing Articles

9%+ yields! Here are 2 of the best FTSE 100 dividend shares to consider buying

This Fool has been scouring the UK stock market in search of the best dividend shares. He are two he…

Read more »

Young woman holding up three fingers
Investing Articles

New to investing? I wish I’d known these 3 things Warren Buffett swears by

Ben McPoland considers three Warren Buffett lessons that have helped his investing returns improve a lot over the last few…

Read more »

Investing Articles

I remain bullish on Nvidia stock despite its overvaluation

Our author says Nvidia stock is overvalued right now. However, he still thinks it might be worth him buying because…

Read more »

Warren Buffett at a Berkshire Hathaway AGM
Investing Articles

I’d take the Warren Buffett approach to building a passive income empire

Christopher Ruane explains how he'd try to earn passive income streams from the stock market by learning from billionaire investor…

Read more »

Young Black man sat in front of laptop while wearing headphones
Investing Articles

2 of my most amazing buys from the FTSE 100 for passive income

The FTSE 100's home to a number of exceptional shares offering the prospect of handsome income. Here are two to…

Read more »

Investing Articles

1 AI stock to buy and hold for 10 years

AI spending's expected to soar in the next decade, according to most experts. Here's one stock to consider buying to…

Read more »