It hasn’t been a great year for dividend shares. Stacks of FTSE 100 companies have cancelled, cut or suspended their payouts. Not so British American Tobacco (LSE: BATS) and Legal & General (LSE: LGEN). Both have recently announced their latest dividends.
They currently trade at low earnings multiples and high yields. I see significant potential for strong share-price rises, as well as a generous income stream. As such, I’d be happy to buy both stocks for the long term in an ISA, shielded from tax on capital gains and dividends.
In its recent half-year results on 31 July, British American Tobacco said: “The business is performing well in difficult circumstances.” Management expects 1%-3% revenue growth for the full year, and a mid-single-digit increase in earnings per share (EPS).
The company maintained its medium-term guidance of 3%-5% annual revenue growth and high-single-digit EPS growth. This suggests management is confident about the future. And I don’t think its confidence is misplaced.
Volume headwinds continue in the traditional combustibles market, but non-combustible categories are growing strongly. Currently, 10% of group revenue comes from the latter, and the number of consumers is 11.6m. Management said it’s making “good progress” towards its target of 50m by 2030.
One of the best dividend shares
British American Tobacco’s debt is currently at an elevated level, largely due its acquisition of Reynolds American in 2017. However, the company said its plans to deleverage the balance sheet “remain on track”. The board also said: “We are committed to our 65% dividend payout ratio.”
It looks workable to me. As such, in my book, the 2,526p share price — giving a prospective yield of 8.5% and forward earnings multiple of 7.6 — is far too low.
Financial services group Legal & General is the UK’s largest provider of individual life insurance products and the biggest manager of corporate pension schemes.
In its half-year results on 5 August, it said it delivered “resilient operating profits”. It’s looking for a similar performance in the second half of the year. The directors commented: “We remain confident in our strategy and our ability to deliver resilient, organic growth through periods of macro-volatility.”
Another dividend hero whose shares look cheap
L&G has a progressive dividend policy, but maintained its interim payout at the same level as last year. Management said this provides “flexibility as the economic effect of Covid-19 becomes clearer”.
This seems sensible to me. Looking at the group’s dividend-paying capacity, which is underpinned by its strong balance, the decision appears to be one of caution rather than necessity.
City analysts are forecasting a modest uplift in the full-year dividend. However, if we follow L&G’s caution and assume a flat dividend, the yield would still be an impressive 7.8% for buyers at the current share price of 226p.
Meanwhile, the EPS forecast puts the stock on a multiple of 7.8. As with British American Tobacco, I think L&G’s share price is far too low. I can see both stocks re-rating higher and providing investors with a generous income stream in the long run.
G A Chester 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.