Does J Sainsbury plc Pass My Triple Yield Test?


Like most private investors, I drip-feed money from my earnings into my investment account each month. To stay fully invested, I need to make regular purchases, regardless of the market’s latest gyrations.

However, the FTSE’s gains mean that the wider market is no longer cheap, and it’s getting harder to find shares that meet my criteria for affordability.

In this article, I’m going to run my investing eye over J Sainsbury (LSE: SBRY) (NASDAQOTH: JSAIY.US).

The triple yield test

Today’s low cash saving and government bond rates mean that shares have become some of the most attractive income-bearing investments available.

To gauge the affordability of a share for my income portfolio, I like to look at three key trailing yield figures –the dividend, earnings and free cash flow yields. I call this my triple yield test:

J Sainsbury Value
Current share price 348p
Dividend yield 4.9%
Earnings yield 9.2%
Free cash flow yield 4.7%
FTSE 100 average dividend yield 3.0%
FTSE 100 earnings yield 6.0%
Instant access cash savings rate 1.5%
UK 10yr govt bond yield 2.8%

A share’s earnings yield is simply the inverse of its P/E ratio, and makes it easier to compare a company’s earnings with its dividend yield. Sainsbury’s earnings yield has been boosted by recent falls in the firm’s share price, which is down by 5% so far this year, leaving the firm on a P/E rating of 11 — broadly in-line with Wm. Morrison Supermarkets and Tesco.

Slowing dividend growth

Sainsbury’s 4.9% dividend yield is also attractive, but it’s worth noting that the firm’s dividend growth has slowed in recent years. Whereas shareholders enjoyed a 10% pay rise in 2009, this year’s full-year payout is only expected to be 4% higher than last year’s.

I believe this trend will continue, as Sainsbury’s free cash flow has been consistently tight in recent years. Sainsbury’s free cash flow yield of 4.7% is less than its 4.9% dividend yield, showing that the supermarket’s most recent dividend payments have not quite been covered by surplus cash.

Is Sainsbury a buy?

I suspect that the recently announced departure of Sainsbury’s chief executive, Justin King, may coincide with an end to the firm’s 36-quarter record of sales growth: successful bosses quite often manage to leave at the top.

If Sainsbury’s sales growth comes to an end, then the firm’s lower profit margins could put pressure on profits, although cost cutting and a planned reduction in capital expenditure should mitigate this to some extent.

Overall, I rate Sainsbury as a cautious buy for income investors, for whom the firm’s 5% prospective yield should outweigh any short-term dips in its share price.

The best supermarket dividend?

Sainsbury, Tesco and Morrisons all offer prospective yields of around 5%, and all are popular choices with income investors -- but which dividend is safest and has the best growth prospects?

Ultimately, it's your decision, but one I'd suggest taking a look at "How To Create Dividends For Life", an exclusive new report from the Motley Fool's dividend investing team.

The report contains 'five golden rules' for dividend investing to help you separate the turkeys from the cash cows! For instant access to your free copy of this report, just click here now.

> Roland owns shares in Tesco but does not own shares in any of the other companies mentioned in this article. The Motley Fool owns shares in Tesco and has recommended shares in Morrisons.