British Gas owner Centrica has always been a popular pick for income investors, thanks to the traditionally-defensive nature of its operations. And right now, it carries a monster forward yield of 8.1%, making it one of the best payers on the Footsie.
The rate at which Micro Focus has been raising shareholder payouts over the past five years — 120%, to be exact — has also made it one to watch for dividend chasers. What’s more, as of today, it also carries a large prospective yield of 6.4%.
But are they great buys, or simply investment traps?
Running out of gas
Centrica’s share price remains down 13% from early November 2017, although a resurgent crude price has enabled it to recover some ground and bounce from February’s 20-year lows.
I can’t see the business continuing its more-recent recovery, however. As Morgan Stanley just commented, the relentless rise in US oil production, allied with what it describes as “strong” output increases from major producers Saudi Arabia, Russia, Kuwait, Iraq and the United Arab Emirates, means that black gold values are likely to remain stuck at current levels over the next six months, at least.
Even more worryingly, the steady deterioration in British Gas’s customer base looks set to continue. Latest trading numbers in August showed another shocking decline in account numbers during the first half of 2018. And the number is only likely to keep growing as increasingly-pressured household budgets prompt energy customers to continue switching to cheaper suppliers.
Centrica has cut the dividend three times in the past five years in a sign of the growing stress on its bottom line, and its mountainous debt pile. The City is expecting another reduction this year, to 11.9p per share, from 12p in 2017. I’m expecting a much bigger cut, though, and particularly given that the current projection is barely covered by anticipated earnings.
So is Micro Focus a better choice? Its own share price is also down 52% since a year ago, the damage being done in March after it released yet another profit warning due to integration problems concerning its recently-acquired Hewlett Packard Enterprises’ (HPE) division.
Now trading has been better of late, the tech titan advising this week that it has seen “improved revenue trajectory in the second half of the year” and, as a consequence, commenting that it would hit the upper end of its guided 6-9% sales rise (at constant currencies) for the year to October.
There’s no guarantee that HPE won’t throw up additional problems further down the line. But arguably, these risks are baked into Micro Focus’s low, low forward P/E ratio of 8.1 times for the new period. What’s more, the projected 106 US cent per share dividend for fiscal 2019 is covered 2 times by anticipated earnings, bang on the widely-regarded safety benchmark.
Centrica’s prospective P/E ratio of 11.7 times also makes it cheap on paper. That said, given that it appears a dead cert to endure significant profits pressure well beyond the near term, I don’t think investors should touch it with a bargepole today.
Royston Wild has no position in any of the shares mentioned. The Motley Fool UK has recommended Micro Focus. 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.