SSE's 8.5% dividend yield proves irresistible

SSE has issued a profits warning but promised to grow the dividend, triggering bargain hunting by some investors. Graeme Evans dissects the numbers and compares sector peers.

The eye-catching dividend yields on show in the utilities sector became even more tempting for investors today in the wake of another poor update from SSE.

While the headlines will focus on the impact of warm, calm weather and rising gas prices, the intriguing aspect from an income investor viewpoint is that SSE has committed to its previously-announced 3% dividend rise for next year.

Shares still fell 8% on today's warning that profits for the first six months of the year will be half the amount seen a year earlier. That's left the blue-chip stock trading at levels last seen in early 2011, all while offering a forward dividend yield of 8.5% for the current financial year.

Source: interactive investor (*) Past performance is not a guide to future performance

As our chart below shows, it's a similar story across the utilities sector amid headwinds caused by increased regulation and highly competitive trading conditions.

SSE’s big rival Centrica now offers a chunky 8% forward yield on the basis that under-pressure chief executive Iain Conn will be able to stick to his pledge to maintain the British Gas owner’s dividend at 12p.

Given the way the industry is struggling at the moment, many investors will dismiss the Centrica and SSE yields as classic value traps. But forward price earnings multiples of 11.7x and 10.9x will be hard to ignore for others.

Source: Sharepad

SSE has been clear about its dividend prospects ever since agreeing to merge its household energy and energy services business with npower in a deal that will give the company’s shareholders a 65.6% stake in a new business.

For the financial year to March 31, SSE is planning a dividend of 97.5p per share, an increase of 3% on 2017/18 that is likely to be in line with RPI inflation.

It said in May that this pledge would provide clarity "in a year of transition" and would not be subject to the timing of Ofgem's price cap initiative.

The dividend for the following year - once the npower merger has been completed - will be 80p a share, which SSE believes will provide a "sustainable basis for future dividend growth". 

In the 2020/21, 2021/22 and 2022/23 financial years, SSE has said it is targeting annual increases in the dividend that at least keeps pace with RPI inflation. It said this also reflected its confidence in the quality and value of its assets and the earnings and cash flows they deliver.

Any diversion from this five-year plan as a result of today's largely weather-driven profit warning would have done serious harm to investor confidence.

CEO Alistair Phillips-Davies said that "reshaping and renewing" SSE was an essential part of supporting the delivery of the dividend plan. He added:

"The underlying quality of SSE's businesses remains strong, with regulated networks and renewables providing the core of what will be an infrastructure-focused SSE group in the years ahead."

Today's profits warning was driven by a range of factors, including lower than expected output from renewables and a drop in energy consumption.

The net impact of persistently high gas prices and other commodity price changes accounted for around half the £190 million profits hit in the five months to August 31.

The statement was also bleak in terms of the prospects for the stake that SSE shareholders will soon hold in newly enlarged npower business. In the current half year, SSE Energy Services is expected to incur a loss, with results across the 2018/19 period likely to be significantly lower than expected following the implementation of Ofgem’s proposed price cap in January.

The regulator said last week its initiative should mean 11 million households will save about £75 on average. However, SSE pointed out that it had implemented only one increase in standard household energy prices in 2018.

*Red line is next possible level of technical support. Pink line demonstrates downtrend. Orange line is current share price.