Why I’d avoid Centrica plc for this dividend share you might regret not buying

Centrica plc (LON: CNA) looks like a bad bet compared to this income champion.

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2017 was supposed to be a year of progress for Centrica (LSE: CNA). Sadly, this growth has not happened, and the company has only lurched from one issue to another. 

Shares in the utility have slumped by over 40% year-to-date thanks to worries about struggling growth, and the sustainability of the dividend.

The latest knock to the share price came at the end of November when the firm announced that it lost about 823,000 customers in just four months (after a decision to raise rates by 12.5%). As well as domestic struggles, the group’s US industrial customer division is suffering from excessive competition in northeastern power markets, and pre-tax profit for 2017 from this segment is expected to slide to £80m, from £220m last year.

City analysts now expect the company to report earnings per share for the year of 12.5p, more than 50% below 2013’s high of 26.6p and down from last year’s 16.8p. At 12.5p, earnings barely cover the dividend payout, which analysts expect to be 12p for the full year.

Dividend reputation in jeopardy 

Shares in Centrica currently yield around 8%, showcasing investor sentiment towards the stock. A yield in the high single-digits usually indicates that the market believes the payout is unsustainable. As well as the company’s own woes, management also has to contend with the threat of possible government regulatory action.

While no action against the company my ever materialise, these threats have dented investor sentiment and it may be some time before the market has regained its confidence in Centrica’s outlook. 

Centrica is facing many headwinds and even though the shares yield more than double the market average, I would avoid this dividend stock. One stock I own as a replacement is Lancashire Holdings (LSE: LRE).

Lloyd’s insurer Lancashire is an income champion. Since becoming a public company, the group has returned almost all of its profits to investors via dividends. 

However, due to the nature of the insurance business, where income can be lumpy depending on claims, Lancashire’s regular dividend yield is hardly anything to get excited about, but management uses a flexible special dividend policy to return cash to investors. For the past five years, special payouts have pushed the annualised dividend yield above 10%.

Buy on weakness

Unfortunately this year, thanks to losses from hurricanes in the US, Lancashire is expected to report a loss for the full year and, as a result, is not giving investors a special payout. Nonetheless, barring any unforeseen developments, City analysts expect shares in the company to yield between 6% and 7% next year as profits return. In the meantime, there’s the group’s regular dividend for investors to look forward to, which currently works out at around 1.5%.

While one year without a special dividend is disappointing, investors should not abandon Lancashire just yet. Its impressive record of dividends shows that management is committed to returning as much cash to investors as possible.

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.

Rupert Hargreaves owns shares in Lancashire Holdings. 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.

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