For many investors, income shares are a steady way to generate passive returns. Typically, these companies prioritise dividends over reinvestment, meaning share prices can drift sideways while yields remain appealing.
But every now and then, an income stock also shows signs of growth potential, either because it’s undervalued or backed by strong earnings momentum.
I’ve been looking at two examples on the London market that stand out as potential candidates for those wanting both income and the possibility of capital appreciation.
The up-and-coming asset manager
Ninety One (LSE: N91) might not be the most talked about stock, but it’s been making quiet progress. The firm started life as Investec’s asset management arm before demerging in 2020. Today, it oversees £126bn in assets under management (AUM) and has carved out a niche by integrating environmental considerations into its investment approach.
Notably, it provides a framework for assessing biodiversity and natural capital risks at a national level.
This year has been particularly strong. The share price is up around 45%, supported by solid fundamentals. Return on equity (ROE) stands at 40.5%, which is very impressive, and its forward price-to-earnings (P/E) ratio of 11.87 suggests there’s still room for growth without veering into expensive territory.
Dividends are also reasonably covered, at 71% of earnings, while its debt-to-equity ratio is just 0.23 – leaving the balance sheet in good shape.
That said, no investment’s without risk. Asset managers are heavily exposed to market conditions, and a downturn in equities or bonds could cause AUM to shrink, cutting into revenues. But the asset management industry is crowded and margins can be squeezed if flows slow. Investors should think about these risks before adding Ninety One to a portfolio.
A small-cap with big dividends
Mears Group‘s (LSE: MER) a very different business. This £265.5m company focuses on providing housing repairs and maintenance services, an area of steady demand. While it may not sound particularly glamorous, its numbers speak for themselves.
The dividend yield is a substantial 8.57%, supported by a payout ratio of 48.7% – comfortably below the levels that would raise alarm bells. The company has raised its dividend for four consecutive years, with growth of 109% year on year most recently.
Earnings growth has been equally impressive at 36.3%, and return on equity (ROE) stands at 25.6%. Analysts estimate earnings per share (EPS) will reach 50p in FY 2025. With a forward P/E ratio of 6.42 and a price-to-sales (P/S) ratio of just 0.23, the stock looks undervalued compared to peers.
Still, risks shouldn’t be overlooked. Mears operates in a sector heavily influenced by government contracts and housing policy. Any cutbacks in public spending could impact revenues, while cost inflation may erode margins despite recent improvements.
Final thoughts
Both these companies strike me as income shares worth considering for a diversified portfolio. Mears is growing quickly but is less resilient to shocks than its larger peers. Meanwhile, Ninety One looks very profitable but operates in a highly competitive sector.
Together, they combine generous dividends with growth potential, which isn’t easy to find. However, as always, investors must weigh the risks against the rewards.
