When choosing a passive income stock, I’m looking for two things.
Firstly, a generous dividend. This might sound obvious but not all shares are created equal. There’s a wide variation in the level of payouts on offer. For example, in the FTSE 250, there are eight stocks that are yielding (based on amounts paid during the 12 months to 31 May) in excess of 10%. In contrast, 39 haven’t made any payouts over the past year. The index average is 3.6%.
The second requirement is a good track record of increasing – or at least maintaining – its return. In my opinion, a stock paying a reasonable but reliable dividend is better than one that offers an occasionally higher — but usually lower — yield.
Tasty returns?
On Friday (30 May), Greggs (LSE:GRG) paid its final dividend in respect of its year ended 31 December 2024 (FY24). Qualifying shareholders received 50p a share. When added to the baker’s interim payout of 19p, it means the stock’s currently yielding 3.3%.
This puts it in the top 40% of FTSE 250 divided payers. It’s a solid – but unspectacular – performance. However, if this level of return could be relied upon then it could be attractive to income investors. Of course, dividends are never guaranteed but some stocks have a better history than others when it comes to shareholder returns.
Understandably, Greggs suspended its dividend during the pandemic. Since then, it’s increased it. In cash terms, the baker’s FY24 final payout was 19% higher than in FY22. Its interim amount was 26.7% more.
In addition, there have been two post-Covid special payments of 40p each (FY23 and FY21). However, although additional payments are always welcome, it means Greggs has a very ‘lumpy’ recent dividend history.
Different priorities
That’s because its capital allocation policy prioritises expansion and a strong balance sheet over shareholder returns.
The group seeks to maintain “circa 3% of revenue” as cash at the end of each financial year.
Recently, although Greggs’ dividend has been hard to predict, it has always surprised in the right direction. It’s been steadily increasing its interim and final payouts with an occasional top-up when there’s some spare cash. This seems like a sensible approach to me.
However, looking further ahead, analysts are sounding a note of caution. They are forecasting a payout over the next three years of 68.32p (FY25), 70.78p (FY26), and 75.19 (FY27). If they are right, Greggs will be cutting its dividend in 2025.
Possible issues
Personally, I have concerns that the group’s rate of growth could start to slow soon. And like all companies, its dividend could come under pressure if this happens.
In 1984, when the company floated, it had 261 stores. It now has 2,638 with a medium-term ambition of reaching 3,000 shops.
Logically, each new store will be operating in a slightly less suitable location than the previous one. The group probably already has a presence in the best areas, reducing the marginal benefit from each new shop.
Also, the move towards healthier eating might harm the sale of some of its more popular products.
In my view, Greggs isn’t a bad choice to consider for passive income. However, due to concerns over its growth prospects, I think there are better opportunities elsewhere.
