Out of all financial data that investors consider, a high dividend yield can be very attractive. With so much uncertainty in the market these days, receiving a guaranteed cash return can sound great. But is it really worth it? I’ll be taking a closer look at a dividend stock with a massive 9% yield to find out if I should be buying it this February.
What is it?
M&G (LSE: MNG) is a global asset manager based in London, providing active investment across a range of asset classes. It manages assets of over £308bn in equities, multi-asset, fixed income, real estate and cash across the UK, Europe and Asia.
The company de-merged from Prudential in 2019. It later acquired Sandringham Financial Partners, and subsequently digital wealth management platform Ascentric from its competitor Royal London.
Is it worth investing in?
When considering the company as an investment, the 9% yield is hard to ignore. It is currently one of the highest in the entire FTSE 100, well above the average yield of 4.1%.
However, when looking at an investment paying a dividend, the market performance and the fundamentals of the company must also be considered. In the last three years, the share price is down 13%, lagging significantly behind the financial services sector. Even when the return of dividends is included, an investment in the company would have returned 20%. That’s still behind the 27% return of the sector.
Looking at the fundamentals of the company, the first red flag is that revenue is currently negative, making losses at an increasing rate of 49.7% over the last five years.
Another potential issue is that debt is currently higher than operating cash flow. This effectively means that the company owes 15% more per year than is being generated.
Since one major attraction for investors is the high dividend, a negative dividend payout ratio is a real concern. With no profits, the company is forced to cover its dividend with debt. This means that with rising interest rates, this could quickly become unsustainable.
What is it worth?
When considering the fair value of M&G with a discounted cash flow model, it appears that the company is currently overvalued by about 10%, with a share price of 208p above the fair value of 189p.
Financial services can, however, be a difficult group of companies to value. Since the return of investments vary significantly, analysing the fundamentals of the company is perhaps less of a guide than in companies with more predictable operating models.
Analysts are expecting the share price to rise about 5% in 2023. This is attributed to a massive 84% growth forecast, but not too far from the sector average of 64%.
Overall
It is clear then that a high dividend yield is no guarantee of a company with quality fundamentals. For a good investment, the overall performance of the company’s share price and potential must also be well understood.
If M&G can turn profitable in the next three years, as many analysts expect, then it could turn out to be an interesting long-term investment. However, with such negative fundamentals, and in an economy that does not favour unprofitable companies with high growth expectations, I will not be taking the chance.
