Many FTSE 100 companies are currently undervalued. The drop in the Footsie index, due to the coronavirus shutdown, means now is an excellent time to invest in the stock market. In addition, low bond yields could make returns from share ownership extremely attractive by comparison. This is especially true of dividend stocks where total returns can be even higher.
However, sometimes high dividend stocks are risky investments. There are a few firms on the Footsie right now with large dividend yields. Some of these firms face an uncertain future, unless the economic winds change direction. These stocks do not make a good investment case, despite the high yields. But, what if there is an exception?
I think there is. And it’s Royal Dutch Shell (LSE: RDSB).
A top FTSE 100 dividend stock
At the current share price of 952p, Shell’s dividend for this financial year works out at just over 10%. However, going forward into the next financial year, if the 12p dividend per share remains the same, Shell investors can expect a dividend yield of around 5%. In this economic climate, that is pretty juicy.
However, a good yield is irrelevant if a company can’t pay it, and Shell’s 95% payout ratio is a concern. This means the oil major currently pays out most of its profits in dividends. But, the dividend per share has already been cut, share buybacks suspended, and cost-cutting measures imposed. Shell aims to deliver $2.5bn of savings by the end of 2022.
These actions mean Shell should be able to cover its future dividend commitments, even if earnings drop further. The oil major has a history of enticing capital by appealing to shareholders, and I expect this to continue.
Shell’s undervalued share price
Shell is currently selling on the Footsie on a price-to-earnings valuation of approximately 6. By comparison, peer BP‘s P/E is around 14. Apparently, the FTSE expects more from BP in the future. The lower ratio for Shell may reflect its recent earnings decline due to low oil prices, in addition to the share price drop. However, I think there are reasons for optimism.
Shell’s future focus is electric power generation via solar and other technologies, such as charging stations for electric vehicles. It sees a future for itself in renewables and is investing accordingly. Natural gas is also a priority and its integrated gas business is now the biggest sector in its portfolio, replacing downstream. It is also the largest supermajor liquid natural gas (LNG) producer. So, whatever happens with the oil price, Shell is well diversified for the future and is restructuring accordingly.
In addition, Shell is trading on a price-to-net-tangible-asset value of 0.28, meaning its stock is selling for less than the value of its physical assets. Notably, its assets have already been written down this year due to lower oil prices and smaller profit margins. Many pundits expect the oil price to improve. If this happens, Shell’s asset base will rise in value once again. For me, the current share price represents significant undervaluation.
I think Royal Dutch Shell is probably one of the top FTSE 100 dividend-paying stocks to buy in 2020. It has a juicy yield and there’s a future for its products. And, even better, it’s currently going cheap. But, for how long?
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Rachael FitzGerald-Finch owns shares of Royal Dutch Shell B. 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.