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Are GlaxoSmithKline plc And Legal & General Group Plc Great Dividend Picks For 2016 And Beyond?

There are some cracking dividends on offer at the moment among the elite companies of the FTSE 100.

The index itself currently yields 3.9%, but a number of individual stocks are flaunting considerably higher yields.

Today, I’m looking at whether GlaxoSmithKline (LSE: GSK) at 5.8% and Legal & General (LSE: LGEN) at 5.2% are great dividend picks for 2016 and beyond.

GlaxoSmithKline

GlaxoSmithKline has faced a number of headwinds in recent years, as have its big pharma peers. Constrained public health budgets, expiring patents and competition from generics have hit top- and bottom-line growth. For Glaxo, a bribery scandal in China hasn’t helped, either.

The table below show some key earnings and dividend data for the company.

  2012 2013 2014 2015 forecast 2016 forecast
Earnings per share growth (%) -2 -4 -12 -20 +11
Dividend per share growth (%) +6 +5 +3 0 0
Dividend cover 1.5x 1.4x 1.2x 0.9x 1.1x

As you can see, earnings began to decline at an accelerating rate from 2012, yet management continued to increase the dividend each year, with the result that dividend cover began to drop.

Obviously, a trajectory of falling earnings and rising dividends can’t continue indefinitely, and earlier this year — with earnings forecast to plunge 20% — Glaxo’s management took the decision to hold the 2015 dividend at the same 80p level as 2014. And also intends to hold it at 80p for 2016 and 2017.

As the table shows, earnings won’t quite cover the 2015 dividend. However, the good news is that analyst are expecting Glaxo to return to earnings growth in 2016, with an 11% rise, which reflects guidance from the company itself. Earnings would then be back to covering the dividend, albeit by a slim 1.1x.

Additionally, though, Glaxo has taken steps to help it get through the dip in dividend cover. As well as the ordinary dividend, management had originally intended to pay a special dividend of a further 80p for 2015, out of cash realised from a deal with Novartis. However, the Board has decided to reduce the special to 20p; thus retaining most of the cash from Novartis, effectively making the ordinary dividend more secure through the next couple of years of lean cover.

Obviously, investors can’t expect to see an increase in Glaxo’s dividend until after 2017 — and rises for a few years thereafter are likely to lag earnings growth, until the company has rebuilt dividend cover, probably to around the 1.5x level. However, the current high starting yield of 5.8% (excluding the 20p one-off special dividend) appears good compensation, and now could be a good time to buy a slice of this world-class business.

Legal & General

In contrast to Glaxo, Legal & General has been on a roll in recent years. The insurer and asset manager has been increasing earnings at a good clip, and shareholders have seen tasty annual rises in their dividends.

The table below show some key earnings and dividend data for the company.

  2012 2013 2014 2015 forecast 2016 forecast
Earnings per share growth (%) +11 +10 +10 +14 +7
Dividend per share growth (%) +20 +22 +21 +19 +7
Dividend cover 1.8x 1.6x 1.5x 1.4x 1.4x

As you can see, while Glaxo has been suffering falling earnings, L&G has been knocking out regular double-digit annual growth — and increasing the dividend at twice the rate of earnings.

Management has been keen that shareholders benefit from the recovery since the financial crisis, but we should note that the generous dividend payouts have brought cover down from 1.8x to an expected 1.4x this year. The boom period for dividend growth is over, and L&G is expected to increase payouts in line with earnings growth going forward, maintaining dividend cover at around 1.4x.

L&G is a strong business, and mid-to-high single digit earnings and dividend growth looks sustainable for the foreseeable future. The forecast 2016 dividend gives a yield of 5.2%, which appears highly attractive when combined with the company’s decent growth prospects for the years ahead.

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G A Chester has no position in any shares mentioned. The Motley Fool UK has recommended GlaxoSmithKline. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.