Housebuilder Persimmon (LSE: PSN) boasts a 13% dividend yield. It’s based on a 235p per share payout that’s been paid regularly since 2018 (except in 2020).
Persimmon has one of the highest profit margins in the housebuilding sector. Its generous dividend has always been backed by surplus cash in recent years. But with storm clouds gathering over the UK economy, is this high dividend yield sustainable?
Why this dividend could be safe
Persimmon’s payout costs about £750m per year. Last year, it reported a net profit of £787m. This tells me that the company is paying out virtually all of its profits as dividends.
I generally prefer to buy shares where the dividend is covered at least 1.5x by earnings. That reduces the risk of a dividend cut, if profits fall slightly below expectations. However, Persimmon reported a cash balance of £780m at the end of June. That’s enough to cover one year’s dividend, even without any contribution from profits.
In addition to this, the company had £1.9bn of forward sales on its books at the end of June. That’s around six months’ revenue and profit. This strong financial position means that I don’t see any immediate risk of a dividend cut.
What if profits fall?
If Persimmon’s profits remain stable, or rise, then I think the dividend could remain safe for the foreseeable future. However, the UK housing market has always been cyclical, and I don’t see this changing. If house prices flatten out, or fall, I think Persimmon’s profits could come under pressure.
In this scenario, I think the dividend could be at risk. Although the group’s cash pile could be used to top up the payout, I think CEO Dean Finch would want to preserve these funds in order to support a recovery.
Is the housing market slowing?
The latest Nationwide house price index reported slower house price growth in June, but said prices were still rising.
Rightmove struck a similar tone. In its July house price report, the property website said that “there are simply not enough homes coming to market to correct the balance between supply and demand”.
All of this may be true. But Rightmove also admitted that average mortgage payments for first-time buyers have risen by 20% since the start of 2022. This increase has been driven by rising house prices and higher interest rates.
In my view, rising mortgage rates are likely to put pressure on house prices, especially at the lower end of the market.
Persimmon dividend: what I’d do
Profit margins at Persimmon (and other housebuilders) have been boosted by 10 years of government support and ultra-cheap mortgages.
So far, the company says it has been able to offset rising labour and raw material costs by increasing house prices. That’s protected profits, but I’m not convinced it will be sustainable.
I don’t know whether the economy will bounce back quickly, or slip into a longer recession. But Persimmon’s 13% yield looks increasingly risky to me.
I think that there are safer dividends available elsewhere in the housebuilding sector. That’s where I’m focusing my attention at the moment.