Today, I’m looking at two Neil Woodford-owned dividend stocks that currently yield over 6%. Are these dividends safe, or could these companies cut their dividends in the same way that Provident Financial did recently?
Utility giant SSE (LSE: SSE) is a popular stock among UK dividend investors. The company paid out dividends of 91.3p for FY2017, which at the current share price, equates to a fabulous yield of 6.4%. But is the company a dividend ‘lock’ going forward? I see arguments for both the bull case and the bear case.
Starting with the bull case, SSE undeniably has a fantastic dividend growth track record. Indeed, the company has increased its dividend every year over the last decade, from 55p to 91.3p, a compound annual growth rate (CAGR) of an inflation-beating 5.2%.
SSE clearly values rewarding its shareholders with dividends, and states on its website: “we believe that our first responsibility to shareholders is to give them a return on their investment through the payment of dividends.”
In July, the company commented that it is “continuing to target an increase in the full-year dividend for 2017/18 of at least RPI inflation, with annual increases thereafter of at least RPI inflation also being targeted.”
That all sounds very positive for income investors.
However, on the bear side, it’s worth noting that dividend growth has slowed in recent years, with the company increasing its payout by just 2%, 1.1% and 2.1% over the last three years. Furthermore, SSE’s dividend coverage ratio is forecast to be just 1.23 times this year, which adds an element of risk to the investment case from a dividend investing perspective.
Dividend coverage measures how comfortably a company can cover its dividend payout with its earnings, and the general rule of thumb is that a level of two is considered safe, while a level under 1.5 is considered more risky. If profitability falls (as it did recently with Provident Financial), the company may no longer be able to afford to pay its dividend.
SSE stated in July that it is “continuing to work to keep dividend cover for 2017/18 within the expected range of around 1.2-1.4 times, although as previously indicated, it remains likely to be towards the bottom of that range.” This is clearly something to monitor.
So while SSE’s yield looks attractive in this low interest rate environment, the investment case from a dividend perspective certainly isn’t risk-free.
Another Woodford holding with a sizeable dividend yield is Redde Group (LSE: REDD), which operates a group of companies that provide accident management support, legal services, fleet management and insurance policy fulfilment services.
Redde Group reported full year FY2017 results this morning, and the numbers look good, with turnover increasing 25% to £472.3m and adjusted basic earnings per share rising 16% to 11.26p. The company proposed a dividend of 10.6p, up 10% on last year, equating to a yield of 6.2% at the current share price.
However, I believe income investors should approach this yield with an element of caution. Redde’s dividend coverage ratio of 1.06 suggests that the company is paying out nearly all its earnings as dividends, and that means that if earnings were to fall in the future, the current payout would most likely be unsustainable.
For that reason, Redde isn’t a stock I’d buy for its dividend, as I prefer companies with higher levels of coverage.
The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.