Image source: National Grid plc
Most investors do not prioritize the possibility of long-term price gains, but are mainly interested in what kind of income they can get. They may invest National Grid (LSE: NG), for example. The 58% rise in National Grid’s shares over the past five years has no doubt been welcomed by many shareholders (although only in line with FTSE 100 working at that time). But the biggest appeal for many has been the dividend.
That’s because National Grid specifically aims to attract investors for whom regular and predictable returns are important.
How? Aiming to make sure that annual dividend growth per share is at least equal to the leading rate of inflation.
That way, the dividend should not lose value in real terms over the years.
Resource sharing can be a strength – but also a weakness
But while I see the appeal of such a goal, it is only a goal. No dividend is ever guaranteed – and that includes the National Grid payout.
People tend to think of utilities as the safe choice when it comes to benefits. Demand is generally predictable and constant, although it is unlikely to increase dramatically. Inflation is often controlled.
Indeed, that describes the National Grid business well.
But the problem with such a view of resources as a safe choice for investors is that it misses several important points.
No business is ever a sure thing – and that includes utilities.
In particular, utility companies often have to incur significant costs to maintain and improve their infrastructure.
Spend, spend, spend!
That is true of the National Grid. It plans to spend £11bn in its current financial year alone.
An annual turnover of £11bn for a company with a market capitalization of £61bn is huge.
To help finance such costs, National Grid has gone deeper into debt, with total debt rising to around £42bn in its latest interim results.
It has also raised cash in the past few years by issuing new equity. That diluted the existing shareholders. The ongoing cost requirements combined with the debt burden mean I see the risk of it happening again in the future.
No dividend is guaranteed – including this one!
But – and here’s a twist for those cash-strapped shareholders – National Grid also cut its dividend per share last year by a fifth.
So that’s the objective of growing in line with inflation – which it is still the goal – really became just a goal, not a guarantee.
The current yield of 3.8% is attractive and surpasses the 2.9% offered by the FTSE 100. The business strength I mentioned above means that National Grid can continue to be profitable and profitable for decades.
But given its continued high cost requirements, debt-heavy balance sheet, and changing landscape when it comes to where energy is produced and consumed, a few things about National Grid’s stock worry me.
From an income perspective, I think there are other stocks in the deregulated industry that offer better opportunities for future earnings growth and higher dividend yields today, regardless of National Grid’s debt or capex levels.
Therefore, I do not see it as a share that cash-oriented investors should consider.
