Lloyds Banking Group plc beats expectations but warns on Brexit: should you buy or sell?

Shares of Lloyds Banking Group (LSE: LLOY) fell 3% when markets opened this morning, after the bank cut its guidance for the year ahead as a result of the EU referendum.

Lloyds reported an underlying profit of £4.2bn for the first half. That’s down 5% on the same period last year, but ahead of analysts’ forecasts of £4bn.

There was also good news for income investors. The interim dividend will rise by 13% to 0.85p per share. If last year’s final dividend is increased by the same amount this year, the total payout will be 2.545p per share, equivalent to a yield of 4.7% at current prices.

To help protect profits, Lloyds plans to accelerate its cost-cutting plans. In addition to the 200 branch closures and 9,000 job cuts previously announced, Lloyds will close another 200 branches and cut a further 3,000 jobs by the end of 2017. This is expected to result in savings of £400m.

Brexit warning could threaten dividend

In my view, today’s interim dividend increase implies a payout of about 2.5p per share this year. But analysts are currently forecasting a much higher payout of 3.47p per share in 2016.

The gap between the two figures could be filled by a big hike to the final dividend, or a repeat of last year’s special dividend. However, there’s no certainty this will happen.

Lloyds expects Brexit to result in slower UK economic growth. As a result, the bank has cut some elements of its guidance for the year ahead. Lloyds now believes capital growth will be slower than expected. The bank expects CET1 capital — a key regulatory measure of strength — to rise by around 1.6% this year, compared to 2% previously.

As dividends are paid out of surplus capital, I suspect this could result in slower dividend growth. In my opinion, the bank’s ordinary dividend is likely to remain safe, but last year’s generous special dividend may not be repeated.

Cheap enough to buy?

Today’s results may not have investors cheering the stocks to new highs, but they aren’t really that bad either. Lloyds remains well capitalised and profitable. The bank’s CET1 ratio of 13% and its cost-to-income ratio of 49% are among the best in the UK banking sector.

No further provisions for PPI claims were made during the first half. If the expected time-bar for PPI complaints of mid-2018 is confirmed, this costly episode in the bank’s history could be drawing to a close.

For investors looking for value, Lloyds could have a lot to offer. The stock now trades in line with its tangible net asset value of 55p per share. My estimates suggest the bank’s 2016 dividend payments could result in a yield of 4.5% to 5% at the current share price. That’s far better than most other UK-listed banks.

Lloyds also looks cheap on a P/E basis. Today’s results show underlying earnings of 3.9p per share for the first half of 2016. This suggests the bank is on track to hit full-year forecasts of 7.3p, which put the stock on a forecast P/E of just 7.4.

For investors looking for long-term income, Lloyds shares may be worth a closer look.

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