How safe are 7% yields at Aberdeen Asset Management plc & BP plc?

Roland Head takes a fresh look at the giant-sized payouts on offer for shareholders at Aberdeen Asset Management plc (LON:ADN) and BP plc (LON:BP).

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Shares of Aberdeen Asset Management (LSE: ADN) rose by 3% this morning, after the fund management firm left its dividend unchanged, and reported sales and profits slightly ahead of expectations.

Like BP (LSE: BP), Aberdeen is one of a handful of popular big cap stocks that currently offers a dividend yield of almost 7%. Both firms are generally seen as reliable dividend stocks, but weak earnings mean that dividend cover is seriously stretched.

Another tough year in 2017 could force Aberdeen and BP to consider a dividend cut. In this article I’ll take a closer look at each firm’s latest figures, and their outlooks for the year ahead.

Better than expected

Aberdeen Asset Management reported net revenue of £1,007.1m for the year ending 30 September, ahead of consensus forecasts of £998m. Underlying earnings per share of 20.7p were also ahead of forecasts, which showed earnings of 19.4p per share. The group’s dividend was left unchanged at 19.5p per share, as expected.

Aberdeen’s sales and investment performance both seem to have been stronger than expected. The group reported net outflows of £32.8bn from its funds last year, as investors shunned emerging markets. But Aberdeen managed to attract £39.0bn of new business during the year, and assets under management (AUM) rose by 10% to £312.1m.

Watch the cash

Thanks to a reduction in spending on acquisitions and new investments, Aberdeen ended last year with a net cash balance of £548m, down slightly from £567m one year earlier. But the group’s net cash from operating activities fell by a third in 2015/16, from £446m to £306m. A further decline during 2016/17 could make it harder to support the dividend.

Aberdeen seems to be trading well in a difficult market. The latest consensus forecasts suggest that earnings will rise by 10% this year. If they do, I believe the dividend should be safe. Some risk remains, but in my view the shares remain a solid hold.

A big week for oil

We should find out later this week whether the big oil-producing nations of OPEC will be able to agree a deal to reduce production. Most experts believe that cutting global production by one million barrels per day (around 3% of OPEC production) would be enough to bring the oil market back into balance.

I imagine that management at BP and other western oil firms are hoping for a deal. Although BP has coped well with the downturn, and cut costs dramatically, the group still needs an average oil price of $50-$55 per barrel to achieve cash flow breakeven.

Rising debt

Unfortunately, the average price of oil has been significantly lower than this over the last year. This has resulted in rising debt levels for BP, which is expected to report 2016 earnings of just $0.19 per share — less than half the expected dividend of $0.40 per share.

A dividend cut seems unlikely in 2016, but if oil prices don’t start to rally next year, I think the risks of a cut could increase. Personally, I believe the oil market is likely to strengthen in 2017. I expect BP’s 6.9% yield to remain safe, and continue to hold.

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.

Roland Head owns shares of BP. The Motley Fool UK has recommended Aberdeen Asset Management and BP. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.

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