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UK dividend cover drops to its lowest since recession

05 July 2016

Dividend cover among FTSE 350 companies has fallen to its lowest level since 2009 so FE Trustnet takes a closer look at which sectors this is most affecting.

By Gary Jackson,

Editor, FE Trustnet

The FTSE 350’s dividend cover ratio has fallen to its lowest level since the end of the last recession as the profitability of sectors such as basic materials, oil & gas and banks remain under pressure, new analysis shows.

A study from The Share Centre, which using data from its Profit Watch UK report and the Capita Asset Services UK Dividend Monitor, shows that dividend cover (which indicates how affordable and sustainable company dividends are) now stands at just below 1.0x.

Over the past year the FTSE 350’s dividend cover has fallen 38 per cent from 1.63x to just 0.98x. Dividend cover has fallen for four consecutive quarters and is now at its lowest since the third quarter of 2009, when it dropped to 0.73x.

Every UK sector aside from healthcare has been hit by falling dividend cover levels. The metric is defined by profit after tax divided by dividends paid; the higher the ratio, the greater the comfort that a company can afford its dividend pay-out while a lower ratio means a cut in the dividend is more likely if profits fall.

UK dividend cover over rolling 12-month periods

 

Source: The Share Centre

Helal Miah, research investment analyst from The Share Centre, said: “Plummeting profits in the FTSE 350 have undermined dividend cover across the board, even before the impact of a Brexit vote is fully felt among listed companies.”

“Global headwinds took their toll on the UK’s largest, most internationally exposed sectors, with commodity firms and banks especially seeing their profit margins and dividends under increasing pressure. However, more worryingly for investors, the stress on dividend cover has been rather more widespread and not limited to a small cluster of sectors.”

“With the outcome of the referendum likely to hit profits of companies dependent on the UK economy, investors should expect cover to fall further or brace themselves for dividends to be cut; they should be cautious of companies that have a combination of a high yield, and a low cover.”


The Share Centre’s analysis found that banks, basic materials and oil & gas companies had the largest impact on dwindling dividend cover in the top 350.

Within the basic materials industry, dividend cover in the mining sector has turned negative (at -1.06x) after businesses in this area reported collective losses of £7.7bn. The industry accounts for 4.83 per cent of the FTSE All Share index.

Meanwhile, losses of £8bn among oil & gas producers led to dividend cover going negative. Some 10.44 per cent of the FTSE All Share is in oil & gas stocks.

In the banking sector, dividend cover remains in positive territory but fell from 1.61x a year ago to 0.52x after profits proved insufficient to cover dividends. Financials – which includes banks, insurers and asset managers and has dividend cover of 1.4x – is the largest sector in the index at 24.55 per cent.

Dividend cover in financials, basic materials and oil & gas sectors over rolling 12-month periods

 

Source: The Share Centre

All in all, the research is fairly discouraging. One-third of the 38 sectors in the FTSE 350 now have negative dividend cover.

There has been much discussion of late over the outlook for the UK equity income space, given the slew of dividend cuts that have already been seen.

Noted UK equity income managers such as Woodford Investment Management’s Neil Woodford and Standard Life Investments’ Thomas Moore have warned this year that a growing number of stocks look to be at risk of cutting their payouts, especially in the sectors highlighted above.

However, Miah added: “There had been bright spots amidst a gloomy outlook for many income investors, with some sector specific success stories. Healthcare dividends were more heavily supported, while mid cap companies once again outperformed their large-cap peers, with rising dividends being supported by climbing net profits.”

“The recent referendum vote could favour companies with large overseas operations or big export margins, while those dependent on the UK economy can be expected to suffer. With this in mind, well-researched stock picking is all the more important to investors.”


The Share Centre’s research shows that dividend cover in the FTSE 250 stands at 1.56x, compared with 0.89x time the FTSE 100. The FTSE 100 has suffered from a 34 per cent fall in net profits although the Leave outcome in the referendum is now expected to harm mid-caps.

When it comes to healthcare stocks, the research shows the industry’s dividend cover ratio rose from 1.69x from 0.99x. This was driven by the pharmaceuticals sector; although dividends here “barely increased”, net profits doubled to £11.5bn down in large part to GlaxoSmithKline’s profit on the sale of its oncology business to Novartis.

Dividend cover in healthcare sectors over rolling 12-month periods

 

Source: The Share Centre

FE Analytics shows that CF Woodford Equity Income is the UK equity income fund with the highest weighting to healthcare stocks at 35.47 per cent of assets. Other funds that have a significant overweight to the sector include Liontrust Macro Equity Income, FP Miton Income, Invesco Perpetual Income and Investec UK Equity Income.

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