Rolls-Royce (LSE:RR) shares remain in high demand right now. They’ve soared 202% since the start of the year, thanks to a steady improvement in operating performance. The FTSE 100 firm is benefitting from strong conditions in its end markets and an ambitious self-help programme.
There’s also a buzz around Rolls as City analysts suggest that dividends could be returning soon. The company hasn’t provided any income to its shareholders since before the Covid-19 crisis grounded the world’s airline fleet.
But how realistic are current dividend forecasts?
No payout in 2023?
It’s important to note that brokers don’t expect dividends to return in 2023. This reflects the company’s desire to continue undoing the balance sheet damage that was endured during the pandemic.
Last month, Rolls said: “We intend to re-establish shareholder distributions” only once it has “strengthened the balance sheet“.
It also stressed its desire to “significantly improve our net debt to EBITDA ratio” and to return to an investment-grade rating.
There may also be some restrictions on when Rolls can revive its dividend policy. On its website the firm says that “we are still restricted by some of the conditions attached to our loan facilities from making payments to shareholders at this time”. The exact nature of these limitations has not been made public.
Hot dividend growth from 2024?
But City forecasters think the engineer will be in a position to start paying dividends from next year. A full-year reward of 2.37p per share is predicted for 2023, and a 3.6p payout is forecast for 2024.
Rolls-Royce’s soaring share price means that the yields on these estimates aren’t the biggest, though. For 2023 and 2024 the reading clocks in at 0.8% and 1.3%, respectively. Both figures are well below the FTSE 100’s forward average of 3.9%.
However, the company looks in great shape to meet these estimates, based on current earnings forecasts. The same can’t be said for all other UK blue-chip dividend shares.
Rolls’ predicted dividends are covered between 4 and 5 times by expected earnings over the period. These readings are easily above the widely regarded safety level of 2 times.
The verdict
Recent trading at Rolls suggests the City’s dividend forecasts are pretty realistic. Underlying operating profit of £673m in the first half was up significantly from £125m a year earlier. And it recorded free cash flow of £356m. It had previously recorded a £68m outflow.
Last month the company unveiled fresh steps to boost profits and its balance sheet too. It plans to cut £400m-£500m worth of costs over the medium term. It is also seeking asset sales worth of up to £1.5bn during the next five years.
But remember that dividends can never be certain. And in the case of Rolls, it still has a lot of debt on its balance sheet (net debt was £2.8bn as of June). And a large chunk of its borrowings needs to be paid back by 2025.
There’s also ongoing uncertainty as the global economy slows heading into 2024. A sharp slowdown at its Civil Aerospace and Power Systems division could cause current forecasts to disappoint.
On balance, I expect Rolls shares to begin providing dividends sooner rather than later. But I’d still rather buy other larger-yielding FTSE 100 shares right now.
