Our Dividend Danger Zone screen seeks to flag up companies with unsustainably high yields.
Since our Dividend Danger Zone screen was set up at the start of 2018, our screen has correctly identified several companies that have gone on to cut their dividend, including Inmarsat (LSE:ISAT), Stobart Group (LSE:STOB), Vodafone (LSE:VOD) and Superdry (LSE:SDRY).
But the warning signs were there for all to see, including a high dividend yield, low dividend cover and a slowdown in dividend growth, three of the metrics our screen uses to try to spot a dividend cut in advance. A full explanation of the methodology is provided below.
The latest company to appear on our Dividend Danger Zone screen is Glencore (LSE:GLEN). The commodity trading and mining company, says Simon McGarry, senior equity analyst at Canaccord Genuity Wealth Management, has had several challenges over the past couple of years, making it a contender for a dividend cut.
The company currently has a relatively generous dividend yield of 5.3% - partly reflective of recent price declines.
One of the company’s key problems is an investigation by US authorities, which is looking into the company’s dealings in Venezuela, Nigeria and the Democratic Republic of Congo. McGarry says: “The investigation has put downward pressure on Glencore’s share price, which lags behind all its major competitors.”
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Added to this, there are lower near-term expectations for its African copper assets, while falls in thermal coal and cobalt prices are weighing on the company’s margins.
The company currently has a dividend cover of 1.4x.
Another company flagged up recently by the screen has been Hammerson (LSE:HMSO). The company kept its dividend flat in 2019. However, says McGarry, the company may be forced to cut its payments in 2020, owing to the continued weakness of UK retailers.
McGarry notes: “If more retailers fail then vacancy rates are likely to increase for mall owners like Hammerson. This will in turn make the dividend harder to maintain.”
How does the screen work?
The screen, compiled by wealth manager Canaccord Genuity in partnership with Money Observer, aims to identify in advance the high-yielding shares that may not keep their income promises, by applying certain criteria.
To be picked up by the screen a company must have a market capitalisation of over £200 million, a dividend yield of 4.5% (higher than the FTSE 100 average) and a dividend cover score of below 1.4 times.
Two other filters have also been applied: the first filters out companies that appear in a financially sound position to pay off their debts, while the second excludes firms where earnings have been upgraded by analysts.
We also recently applied a bit of a shake-up in order to capture companies where there has been a notable slowdown in dividend growth that may prove unsustainable and lead to a dividend cut in the future. A slowdown could also serve as a forewarning for investors that strong levels of dividend growth in the past may not continue in future years. The filter we use is to capture shares that have a current dividend per share growth that’s below the firm’s five-year historical average.
The final filter we use is to exclude firms where earnings have been upgraded by analysts.
All in all, once all these metrics and filters have been applied 11 shares (at the start of January 2020) remain and as a result their dividends look potentially at risk.
We do not factor in dividend cover, as we want the screen to be as forward-looking as possible, but as a rule of thumb those businesses that score above two times should be in a comfortable position to maintain or increase dividends in the short term.
|Share||Sector||Dividend Yield||Dividend Cover|
|Vodafone (LSE:VOD)||Wireless Telecoms||5.1||1.1|
|Glencore (LSE:GLEN)||Metal and Mining||5.3||1.4|
|Imperial Brands (LSE:IMB)||Tobacco||10.8||1.3|
|SSE (LSE:SSE)||Electric Utilities||5.8||1.2|
|Airtel Africa (LSE:AAF)||Wireless Telecoms||8||1.3|
|Signature Aviation (LSE:SIG)||Transportation Infrastructure||4.5||1.1|
|Hammerson (LSE:HMSO)||Equity Real Estate||8.9||0.9|
|Diversified Gas & Oil (LSE:DGOC)||Oil & Gas||10.4||1.2|
|Stobart Group (LSE:STOB)||Airlines||4.2||0.6|
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