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Should Income Investors Buy Severn Trent Plc, Anglo Pacific Group plc Or WH Smith Plc?

Should you add Severn Trent (LSE: SVT), Anglo Pacific (LSE: APF) and WH Smith (LSE: SMWH) to your income portfolio?

In this article, I’ll explain the current outlook and provide my view on each stock’s dividend appeal.

Severn Trent

Utility stocks like Severn Trent are favourites with income investors. They offer safe yields that tend to be higher than average and keep pace with inflation.

Such dividends can be cut, however. Severn Trent intends to pay a total dividend of 80.66p per share this year. That’s 5% less than the 84.9p payout shareholders received last year.

The good news is that having made this adjustment, Severn Trent intends to increase its dividend in-line with the retail price index (RPI) inflation until at least 2020, when the current regulatory pricing period ends. As I write, the firm’s share price is 2,189p, giving a prospective yield for this year of 3.7%.

Severn’s business appears to be doing well. Underlying pre-tax profits rose by 12% to £174.7m for the first half of the year, while underlying earnings per share rose by 11% to 58.6p. This gives ample earnings cover for the interim dividend of 32.26p per share.

I don’t think Severn Trent is a screaming buy, however. The firm’s shares have performed strongly in recent years and now looking quite fully valued, in my view.

Anglo Pacific Group

Mining royalty group Anglo Pacific said on Thursday that it received royalty payments of £1.9m during the third quarter, up from just £0.5m during the same period last year. The improvement is expected to continue and Julian Treger, Anglo’s chief executive, said today that the firm expects “a strong finish to 2015”.

The shares’ most obvious attraction is that they offer a 12% prospective dividend yield. This is the result of Anglo’s decision to maintain a payout of 8p per share using new debt, rather than cutting the dividend to reflect the group’s losses. As a result, Anglo has moved from having net cash of £8.8m at the end of last year to net debt of £5m today.

Personally I think this is a reckless use of money. Unlike a utility, Anglo’s royalty income is not entirely predictable or reliable. For this reason, I won’t be investing in Anglo Pacific, despite the temptations of its 12% yield.

WH Smith

In stark contrast to Anglo Pacific, WH Smith’s dividend is covered comfortably by free cash flow.

Although this prudent approach means the shares are expected to yield 2.6% this year, it’s worth remembering that WH Smith shares have tripled in value over the last five years, during which time the dividend has doubled. This has been a good investment.

The only potential problem is that a lot of the firm’s profit growth has been driven by cost cutting rather than sales growth. The group’s high street stores, in particular, have suffered falling sales and aggressive cost cutting.

My local WH Smith certainly looks dated and cluttered inside. I rarely visit and never spend much when I do. This makes me wonder whether the group’s high street business could soon become a millstone that drags on the high profit margins achieved by WH Smith’s travel business.

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Roland Head has no position in any shares mentioned. The Motley Fool UK owns shares of Anglo Pacific. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.