Legal & General’s bumper dividend has long been a siren to investors, but they’ve often been scared that it will lead them into the rocks. At its peak in March last year, the dividend yield rose to an alarm bell-ringing 12.7 per cent, but even before the pandemic it frequently breached the 6 per cent mark.
Consensus-beating operating profit growth of 14 per cent over the first six months of the year and an identical uplift in cash generation should reassure investors. The interim dividend was raised by 5 per cent.
After a halt to the progressive dividend last year spooked the market, the life insurer is coming good on a pledge to raise the annual dividend by between 3 per cent and 6 per cent to 2024. Analysts reckon that this year’s payment will be at the lower end of that range this year, forecasting a payment of 18.29p a share. At the present share price, that equates to a potential dividend yield of 6.8 per cent, which still looks unnecessarily panic-stricken.
There are multiple business divisions that look promising for churning out more cash. The FTSE 100 constituent pension risk transfer market is a big one. Defined-benefit pension schemes pay insurers to take on some or all of the obligation to pay retirement income to their members.
There’s been some pandemic pain here, although it continued to be the largest profit generator for the group during the first half, even amid a quieter market. The core UK market over this year should be in line with 2020, Nigel Wilson, the chief executive, reckons, although that would still be below the 2019 level. Activity in the less mature American market is expected to be above last year.
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Over the longer term, L&G estimates there’s potential to grab more market share, as only 12 per cent of UK defined-benefit pension liabilities have been transferred to insurance companies. It hopes to write £40 billion to £50 billion of new UK business over the next five years, which, to judge by the rate of new business it was writing before the pandemic, looks a credible target. It already gets a lot of business from clients of its asset management business.
The capital drain of pension risk transfer business might lessen, too. Bosses have set a target of all the retirement business’s UK annuity portfolio, which includes individual annuities, being self-financing in three to five years. That would ease any lingering concerns about its ability to finance the dividend and grow this side of the business.
A rebound in the housebuilding market meant operating profits doubled during the first half, back to pre-Covid norms.
Thinking about potential pitfalls, risks include a downturn in the markets in which its real assets unit is invested, which could lead to a writedown in the value of assets and a lack of recovery in the pension risk transfer market. These seem slight.
Raised expectations of a rise in interest rates and the subsequent widening in credit spreads provided a kicker to the solvency II ratio, which stood at a sturdy 183 per cent at the end of June. Given the buzz around inflationary pressures, there could be more of that to come.
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Trepidation has been common in the life insurance sector in recent years. Since November, Aviva might have taken Legal & General’s crown as the best performer, but over the longer term share price returns generated by the latter have left its peers in the dust. The shares are at eight times forward earnings, just below a post-referendum average multiple. An undemanding valuation, with an earnings forecast that would cover the projected dividend by a multiple of about 1.7 this year, leaves room for the shares to climb higher.
ADVICE Buy
WHY The dividend looks more secure as cash generation improves
Ibstock
Last year’s cost-saving programme, an exercise in crisis management, might help Ibstock to get through more than one battle. Improving production processes at some factories and closing older sites will help to flatter profit margins this year and next as the brick business fends off rising costs for raw materials and freight.
Those self-help measures mean that cost inflation hasn’t yet taken the shine off a rebound in demand. The board expects adjusted earnings before interest, taxes, depreciation and amortisation — the all-important ebitda — for the year to be ahead of market consensus, which previously sat at £93 million. Materials prices, including building aggregates and cement, are rising, as are freight costs, but a supply shortage in bricks means that Ibstock has managed to pass on higher costs to customers.
The FTSE 250 group should be able to at least maintain margins this year and to grow them over the next eighteen months to two years. The more profitable clay division delivered a recovered ebitda margin of 34.1 per cent over the first six months of the year, a percentage that could rise to the high-thirties. Revenue over the first half was only 1 per cent behind the 2019 level, after stronger demand prompted the building materials group to bring production capacity back to 90 per cent of 2019 levels.
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A resurgence in the homebuilding, repairs, maintenance and improvements markets have been a boon for demand. That could ease, particularly as the impact of the stamp duty break unwinds, but stronger demand in other markets looks set to remain more constant.
Rising capacity from existing plants could be supplemented by acquisitions, since net debt stood at only 0.6 times ebitda at the end of June, a multiple at the lower end of the 0.5-to-1.5 target range. Higher-margin concrete, offsite manufacturing and façade specialists are appealing.
The nature of Ibstock’s resource-heavy business means that supply chain inflation is a threat that can’t be ignored. Yet the shares’ valuation, equivalent to 13 times 2022 forecast earnings, means it has already been accounted for by the market.
ADVICE Buy
WHY Potential to benefit from improving margins
