Should You Buy Centrica PLC and GlaxoSmithKline plc For Their 5.5% yield?

Centrica (LSE: CNA) (NASDAQOTH: CPYYY.US) and GlaxoSmithKline (LSE: GSK) (NYSE: GSK.US) now support some of the best dividend yields in the FTSE 100.

Indeed, while the UK’s leading index supports an average dividend yield of around 3.5%, Centrica and Glaxo support dividend yields of 5.5% and 5.7% respectively. So, should you buy in and take advantage of this weakness? 

The future is bright

As one of the world’s largest biotechnology companies, Glaxo makes a great investment for any portfolio. However, a toxic mix of corruption investigations, falling sales, uncertainty and a profit warning have all sent the company’s share price surging downwards over the past few months. 

For short term traders this is bad news, but for long term investors the future is bright. For example, even though Glaxo is currently struggling with falling sales, the company’s pipeline of treatments remains robust, with more than 40 products in various stages of the development process.

Then there is Glaxo’s recently signed joint venture with Novartis, which will see the two biotech giants create a world-leading consumer healthcare business. According to management, the deal will be accretive to earnings almost immediately and Glaxo is set to receive net proceeds of £4bn from the deal. The majority of this cash will be returned to investors. 

So Glaxo has plenty of irons in the fire, and with a dividend yield of 5.7% investors will be paid to wait. This payout is covered one-and-a-half times by earnings per share and City analysts expect the payout to rise  around 9% by 2015, indicating that Glaxo will yield 6.1% next year. 

Political pressures 

While Glaxo is struggling with its own mistakes, Centrica has fallen foul of government policy. 

The parent company of British Gas has had a disastrous past twelve months. The company’s shares have fallen nearly 22% over the past year as the government threatens to cap energy prices and break up so called, “evil” energy companies. 

However, these declines have left Centrica’s shares offering a rather attractive 5.5% dividend yield. The payout is covered one-and-a-half times by earnings per share, so for the time being it appears safe. What’s more, an inflation busting 3.3% dividend increase is pencilled in for the next two years. These gradual increases will leave the company supporting a yield of 5.9% during 2015.

Nevertheless, with both customers and regulators turning against the group, Centrica’s payout could be due for the chop in the near future. In addition, Centrica’s new CEO, Iain Conn, could decide that it’s finally time to start putting customers first, rather than investors, by slashing prices, which would impact profits. 

That being said, with the UK heading towards an energy crisis due to years of government uncertainty and underinvestment, regulators could see sense, allowing Centrica to keep prices high in return for increased infrastructure investment. 

After taking all of these factors into account, it would seem as if Centrica’s future is uncertain and for this reason, I would not bank on the company’s dividend payout.