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What Dividend Hunters Need To Know About Rio Tinto plc

Today I am looking at whether Rio Tinto (LSE: RIO) (NYSE: RIO.US) is an appealing pick for those seeking chunky dividend income.

Further solid dividend growth expected

Since Rio Tinto was forced to slash its dividend in the wake of the 2008/2009 financial crisis, when a backdrop of collapsing commodity prices crushed earnings, the mining company has kept dividends strolling higher. Indeed, the company has raised the full-year payout at a stunning compound annual growth rate of 43.7% since 2009, despite ongoing earnings fluctuations.

City analysts expect the mining giant to continue doling out meaty dividend increases, with an inflation-smashing 8.7% rise in rio tinto2014, to 208.6 US cents per share. And they anticipate that to be followed by a further 10% rise next year, to 229.4 US cents.

These projections mean sizable yields of 3.8% and 4.1%, for 2014 and 2015 respectively, comfortably outstripping the 3.2%forward average for both the FTSE 100 as well as the complete mining sector.

Difficult commodity markets cast a cloud

On the face of it, Rio Tinto’s prospective payments during the medium term could be considered an extremely safe bet, with dividend coverage comfortably above the security benchmark of 2 times forward earnings. Indeed, the miner sports a figure of 2.6 times for 2014 and 2.7 times for 2015.

But a 2% earnings decline expected this year illustrates the ongoing fragility in commodity market prices, where an environment of worsening oversupply continues to push raw materials prices to the downside. And expectations of further price pressure could put Rio Tinto’s expected 14% earnings rebound in 2015 to the sword.

Like the rest of the mining sector, Rio Tinto is embarking on a huge restructuring drive, from scaling back capital expenditure and slashing operating expenses, through to divesting non-core assets, in order to safeguard future earnings growth and boost its capital pile.

Although the company is struggling to attract fair value for many of its projects, Rio Tinto’s cost-cutting scheme is delivering in spades — the business achieved $2bn of operating cash cost improvements last year versus 2012 — while exploration and evaluation expenditure fell by more than $1bn on-year and surpassed Rio Tinto’s $750m target.

But with prices across many of Rio Tinto’s key commodity markets expected to continue tumbling through the next few years, doubts abound that the company will be able to keep dividends striding higher over the long-term. And with divestments also threatening to derail earnings growth in coming years, the miner’s positive long-term dividend outlook is far from secure.

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Royston does not own shares in Rio Tinto.