The FTSE 100 index is chock full of big dividend-paying stocks at the current time. According to my research, just over a quarter of the firms that make up the market’s top tier yield over 5%. This is not to say that all are worth investing in.
Despite having once held the shares within my ISA portfolio, I’ve been bearish on Vodafone for a long time and it seems I’m not alone.
The share price has been steadily falling in value since the beginning of 2018 from 238p to just above 142p when markets closed yesterday. I think things could get even worse before they get better.
Already weighed down by huge borrowings, further investment is likely as we approach the adoption of the 5G mobile network. In the meantime, Vodafone is offering an 8.9% yield that isn’t covered by earnings.
Something’s got to give eventually and the possibility of a dividend cut greater than many are expecting remains a distinct possibility, in my view.
Management may be loath to take a knife to the payout but, ironically, I think this is the one thing that may cause investors to re-evaluate the company in a positive light.
But at 15 times earnings for the new financial year (which commenced at the beginning of April), the risk/reward trade-off is still pretty unattractive, in my opinion.
Vodafone isn’t alone in walking the dividend tightrope. Analyst projections of a 97.5p per share cash return from the 2018/19 financial year leave £12bn cap SSE yielding 8.6% at the time of writing with dividend cover of just 0.7 times profits.
Even a rumoured 18% reduction in cash returns in 2019/20 still has the shares offering a 7% yield, covered just 1.2 times. The cover is simply too low as far as I’m concerned, especially given the capital intensive nature of its business.
Thanks to the huge investment required, SSE’s returns on capital employed are poor relative to other companies in the market. Net debt has also more than doubled since 2015, going some way to explaining why the shares have dropped around 25% in value over that period.
Sector peer Centrica — Britain’s biggest energy provider — is another company that just can’t seem to get its mojo back.
Its stock has now fallen almost 70% in five years, partly as a result of concerns over the ongoing loss of customers to more nimble players.
Factor in the perpetual threat of regulatory interference and you have an investment proposition I’d continue to dodge if I were concerned with generating income from my portfolio.
Centrica’s total payout in 2019 is expected to drop 15% to 10.2p per share. Considering that this reduction will leave it yielding 9.3% with dividends still not covered by profits, I think this could prove too optimistic.
It may not be a magic bullet, but one way Centrica could save cash would be to stop paying its senior management so much for so little. CEO Iain Conn received a 44% pay rise in 2018 to £2.4m.
While I have no issue with leaders being appropriately rewarded for strong performance, the fact that Centrica’s shares are languishing at a 20-year low (but still trading on 12 times earnings), makes such remuneration feel utterly disconnected from reality.
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Paul Summers has no position in any of the shares mentioned. 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.