Transport operator FirstGroup (LSE: FGP) has released a strong set of results for the first half of the year. They show that the company is making good progress and has the potential to raise dividends at a rapid rate.
FirstGroup’s revenue increased by 5.1% on a reported basis. However, this was helped significantly by the weaker pound. When the impact of weaker sterling is removed, the firm’s revenue fell by 1%. However, currency fluctuations also had a negative impact on its performance, with higher dollar-based UK fuel costs negatively impacting its profitability. Despite this, FirstGroup was able to record a rise in adjusted earnings of 16.7%, while the second-half weighted profile of its First Student franchise means that if sterling stays weak, FirstGroup should be a net beneficiary.
In terms of its regional performance, FirstGroup recorded encouraging performance in North America. However, the UK bus and rail division continues to experience tough trading conditions. They look set to continue over the medium term due to the potential headwinds from Brexit and the prospect of negative real-terms wage growth.
Despite this, FirstGroup has the potential to rapidly increase dividends over the coming years. For example, in the next financial year FirstGroup is expected to increase shareholder payouts by almost eight times, which puts it on a forward yield of 3.5%. Beyond next year there’s scope for additional dividend rises, since FirstGroup’s dividend is forecast to be covered 3.5 times by profit. As such, a dividend yield of over 5% is very realistic in the medium term, as it would be highly affordable and still allow FirstGroup to reinvest for future growth.
Here and now
Of course, FirstGroup’s current yield of 0.5% lacks appeal right now. While some investors may be willing to wait for its rapid dividend rises, others may prefer a stock that has a high yield at the present time. One such company is Aviva (LSE: AV). The life insurer currently yields 5% from a dividend that’s covered 1.8 times by profit. This shows that there’s scope for dividends to rise at a brisk pace, with dividend growth of 12.3% forecast for the next financial year.
Furthermore, Aviva has dividend growth potential over the medium term. The integration of the Friends Life business is progressing to plan and this is likely to lead to synergies as well as a more dominant company within the life insurance space. Not only could this mean faster dividend growth, it may also create a more resilient and robust earnings profile that will make Aviva’s dividend more reliable.
Clearly, FirstGroup lacks Aviva’s present day yield. However, with its dividend due to surge next year and having the scope to continue to increase rapidly in 2018 and beyond, FirstGroup’s appeal as an income play is set to soar.