In this analysis we look at Diageo, the largest drinks company in the London Stock Exchange and if they are good for an income-generating dividend-based portfolio.
Finding a “dividend aristocrat” – a company that not only pays a steady dividend but progressively increases it – is the dream of many investors. Dividends, as seasoned investors know, are paid out of company earnings.
To be able to hike this payout over time requires a few critical factors, including a brilliant management, profitable business and sensible capital management policies. Finding these factors in any business is tough, let alone one that can withstand the test of time.
Is Diageo (DGE) a good dividend stock to buy?
Formed from the merger of Guinness Brewery, the Irish stout drink company, and Grand Metropolitan PLC in 1997, Diageo has made its presence felt in the industry through a series M&A. The combined entity swiftly offloaded Burger King in 2001 to focus on alcoholic sectors; Diageo bought Seagram’s wine business and over time, bought Don Julio Tequila, Mey Icki, and Ypióca. Capital investment in distillery also increased.
The end result of these changes made the company stronger and leaner. The portfolio of brands operating within the company is large, diversified and global. As such, Diageo is now one of the largest company in the world worth a staggering £69 billion.
Since drinking is a habit, Diageo benefits from this recurring buying activity across the world.
Unsurprisingly, dividend payments have been extremely steady since 2001. Both interim and final payments were progressively increased over time, with the latest totalling 80p (interim – 30.83p, final – 49.17p, see below).
At the current price of 3,000p, the dividend yield is about 2.5 percent.
Operating profits amply cover this payout most of the years.
Source: Diageo plc
However, is Diageo’s dividend yield high enough to attract investors at this point? This is debatable – for two reasons.
One, DGE’s yield is far below the current inflation rate. Yes, its dividend is an excellent payout but it loses real purchasing power over time.
Two, Diageo’s stock price has been falling persistently this year. Prices are now 25 percent below its 4,000p peak (see below).
Optimists will argue that this correction is a great opportunity to ‘load up’ since Diageo seldom declined this much. Pessimists, however, point to DGE’s 13-year bull run and say that the rally is likely over for the time being. You may be able to get higher yield in the near future.
Whatever the case, Diageo is a ‘dividend aristocrat’ and as a long-term investor this feature should be valued. You should watch to buy its shares on major weakness.
How important is a dividend in equity investing?
Reinvesting dividends over time can yield significantly better results – especially if you buy the right stocks. Some researchers have examined past US stock return data and found that dividends comprised a significant chunk of the total equity returns during 1960-2022 (see below).
Most successful investors utilised the power of dividend reinvesting to increase their shares of successful businesses. Warren Buffett’s equity portfolio, for example, is set to receive $6 billion in dividends in the next year.
If you’re a long-term oriented investor, you should definitely keep an eye on dividends when choosing stocks for your portfolio.
Source: Hartford Funds (working paper)