One of the biggest worries for a dividend investor is their favourite companies are going to run short of cash and have to rein in annual payments.
That’s been weighing on my mind ever since I bought Aviva (LSE: AV) shares in late 2015. I’ve pocketed some nice dividend cash payments providing a return of 20%, but over the same period I’ve seen the value of my shares fall by 10% and so halve my total return.
But since the start of 2019, the Aviva share price has been picking up again, with a gain so far of 15% — a little ahead of the FTSE 100‘s 11.5%. Are fears for Aviva’s dividend receding?
Full-year
Within its full-year results for 2018, Aviva stressed the importance of those dividends, saying: “The security and sustainability of our dividend remains paramount. We are moving to a progressive dividend policy, which will see the dividend maintained or grown over time depending on business performance and growth prospects.”
That same update spoke of “a record year for cash remittances” and an increase in “our solvency cover ratio to 204%,” while reporting a 7% rise in operating earnings per share, of which just under half was “due to higher profits from our major businesses.”
The company had also engaged in share buybacks, seeing the price as too cheap, and reduced its debts — with further debt reduction a key balance-sheet priority in the coming years.
Crisis?
That all sounds good. But if we look back to the days before the financial crisis, Aviva sounded as though it was on top of its dividend payments and the annual cash was secure. But the crash came, Aviva’s balance sheet was overstretched, and the dividend was slashed.
Since then, we’ve seen changes in management and a significantly more conservative approach to the firm’s balance sheet and cash management, which I think has been illustrated by the 2018 results. I don’t see how we could have anything remotely in the same ball park as a repeat of that recent calamity around the corner.
So why the poor sentiment? My colleague Kevin Godbold recently probed Aviva’s dividend prospects. A key part of his thinking is based on the cyclical nature of the business — and that’s something every investor needs to bear in mind if they buy insurance shares. He also highlighted the lumpy nature of Aviva’s normalised earnings per share over the past six years.
Debt
Though the company plans to further reduce its debt by at least £1.5bn by the end of 2022, Kevin also noted that borrowings were still 36% higher in 2018 than they were in 2013. I really do want to see those debts coming down faster (and I’d have preferred cash to be spent on that rather than on share buybacks). While it remains high, there’s also a risk a new cyclical downturn could put more pressure on debt servicing and subsequently on the dividend.
But I see that as a worst-case scenario. I think Aviva shares would still be attractively priced even with forecast dividend yields down to 5-6% (from actual forecasts of around 8%). With what I see as a good enough safety margin, I’m holding and taking the cash.