A top UK share for passive income

What’s the top UK share for generating passive income through dividends? This under the radar share might be the answer thinks Andy Ross.

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Passive income is great. I dream of the day when I’m receiving big dividends from UK shares month in and month out. I’ve recently looked at how I’d go about investing at least £250 per month to create passive income.

Using a share screening tool I’ve identified a UK share that I think fits the bill. It’s defence contractor Ultra Electronics (LSE: ULE).

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Strong share for passive income

In my opinion, Ultra Electronics is a great share for passive income. Dividend growth has been steady for the past decade or so, with continual incremental increases. I prefer this in many ways to big jumps that can’t be maintained. Small increases in the dividend have helped dividend cover rise as earnings have improved.

A forward dividend yield of 2.76% is also not to be sniffed at, although it’s probably at the lower end of what I’d want to see in a passive income share.

Increasing my optimism is the fact the business displays signs of being both profitable and sustainable. these are good traits in my view for a passive income share. Margins and returns on capital are both quite adequate and rising rather than falling.

Also, cash flow appears to be very strong. For example, in 2020, operating cash flow per share rose to 183p from 133p. That shows the amount of cash a company generates from the revenues it brings in, excluding costs associated with long-term capital investment. It’s a positive metric.

There are risks, of course. As with any share, the share price could fall. There are a number of reasons specific to Ultra Electronics why this could happen. Fears around defence budgets being cut to pay for a post-Covid recovery could be a big one. Losing contracts could be another. The industry is also very competitive, putting pressure on margins. 

It’s also more expensive than a competitor like BAE Systems. On the other hand, Ultra seems to have more quality attributes, making it better for passive income, in my opinion.

Another option for income seekers

That may be top of my list, but there are others I like too. The investment trust Lowland Investment (LSE: LWI) was another of the few shares to meet the criteria.

It’s higher yielding than Ultra with a dividend yield of 4.4%. Its shares also trade at a discount to their net asset value. The discount is about 3.5%, although this is less than the 12-month average discount. So they have got a bit more expensive.

According to the Association of Investment Companies (AIC), Lowland investment trust has increased its dividend for 11 consecutive years. That’s not a bad record and is reassuring for me as I look for passive income from UK shares.

The trust invests in UK shares. Top holdings include well known higher yielding companies such as GlaxoSmithKline, Royal Dutch Shell and HSBC. It also mixes those with some smaller UK companies such as K3 Capital and Ilika.

The risk is the discount could widen or that the trust’s reserves are so badly hit by the pandemic that the dividend can’t be increased further. 

Overall though, I think both Ultra Electronics and Lowland are strong UK shares that I might well consider adding to my portfolio to create sustainable passive income.  

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Andy Ross owns no share mentioned. 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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