Rudi's View | Sep 20 2019
This story features INSIGNIA FINANCIAL LIMITED, and other companies. For more info SHARE ANALYSIS: IFL
A closer examination of analysts' forecasts post the disappointing August reporting season in Australia suggests dividend cuts are on the increase, with plenty more to come.
Rudi's View: Dividend Cuts, They Are Coming
By Rudi Filapek-Vandyck, Editor FNArena
At face value, the August reporting season in Australia was disappointing, but not quite negative enough to spook investors into a general flight out of Australian equities. Enough evidence came from the likes of JB Hi-Fi and Super Retail that consumer spending might be on a little up-swing, and the general expectation remains the downturn in property markets should prove relatively short-lived.
In the background, central bankers are still re-stimulating economies and financial markets are sharing the view the recessions many see coming will be avoided on the back of low bond yields and ever lower cash rates.
Against this backdrop, corporate earnings in Australia managed to squeeze out a tiny gain from twelve months ago, on average, albeit heavily supported by higher-for-longer iron ore prices and a resurgent gold sector. Expectations are the year ahead is likely to simply offer much of the same; low growth for most companies, in particular from the old economy stalwarts, with mining and energy the potential swing factor.
So far not too bad, or so it appears, but maybe the true story is hiding in the dividends?
FY19 Dividends Look Like 'The Peak'
Again, at face value, aggregate dividends in August were up 4.9% from last year, even though we needed special dividends from the likes of Rio Tinto and Fortescue Metals as well as additional payouts on the back of asset sales (Brambles, etc) to get there. Even including these "extras", the contrast with the context one year ago is rather stark. Last year, aggregate dividends were growing by 14%.
Underlying, total dividends corrected for such one-offs actually went backwards. Because most of the attention during reporting season goes out to profits and company outlooks, and the subsequent response in the share price, most investors would have missed the fact that, at the individual level, no less than 23 members of the ASX200 index either cut or completely scrapped dividends in August.
Among the companies whose shareholders received less than they were probably expecting are the likes of IOOF Holdings ((IFL)), Perpetual ((PPT)), Suncorp ((SUN)) and AGL Energy ((AGL)); in each case the running yield this year and in years past is high enough to assume many a yield-seeking investor was affected.
On the flipside is the observation that while August 2019 in many regards represents the worst reporting season for Australian companies post-GFC, a noticeable number of surprises came in the form of a larger-than-expected dividend payout. On UBS analysts' assessment, a net 21% of large cap surprises came in via a higher dividend (or a share buyback).
The implicit suggestion from UBS's observation that company boards have sought to placate shareholders by paying out more than otherwise might have been the case falls in line with CommSec's observation that 88.4% of full-year reporting companies elected to pay out a dividend in August. This percentage is above the 86.3% average over the 19 reporting seasons covered by CommSec.
Note that total dividends increased by 4.9% from a year ago in August but growth in costs outpaced sales increases over the period, and many large caps reported profits going backwards.
This realisation triggered my investigation into what might lay ahead for the income hungry investor in the next twelve months. Judging from analysts' forecasts, it would appear investors better not casually dismiss the beneath-the-surface dividend message from August; there are more cuts coming, and relatively soon too.
Knock. Knock. Who's There? Your Next Dividend Cut!
Somewhat surprising, maybe, there appears to be a higher proportion of anticipated dividend cuts among the out-of-season reporters; companies that release financial results between September and year-end. And yes, this also includes CYBG ((CYB)), Bank of Queensland ((BOQ)) and Westpac ((WBC)) among the banks.
Investors should note National Australia Bank ((NAB)) already cut its dividend earlier in the year while CYBG issued a profit warning in early September.
Other companies that are slated to reduce dividends from last year's payout, according to analysts' expectations, are Pendal Group ((PDL)), EclipX Group ((ECX)), Nufarm ((NUF)), Incitec Pivot ((IPL)) and Graincorp ((GNC)). I suspect this list hasn't raised many eyebrows given most of these companies have either issued a profit warning or already indicated their intention to pay out less to shareholders this year given corporate hardship. Not many shareholders would be on these registers looking for steady income.
But this is how quickly the 23 dividend cuts from August can accumulate to 33. And analysts are expecting at least ten more from companies that close off their financial books in December, meaning they should announce lower dividends before or in February next year.
Here the list includes G8 Education ((GEM)), AMP ((AMP)), Alumina ltd ((AMP)), Iluka Resources ((ILU)), Caltex Australia ((CTX)), oOh!media ((OML)), Spark Infrastructure ((SKI)), OZ Minerals ((OZL)), Costa Group ((CGC)) and Adelaide Brighton ((ABC)). Note that if all these forecasts prove correct, a total of 43 companies will have reduced shareholder dividends from a year earlier by the time financial year 2019 has been put to rest for all companies that make up the ASX200.
Still, this story is not over yet. If current expectations are accurate, there will be more cuts forthcoming in 2020. Companies that are expected to join the negative trend in dividend payouts by August next year include South32 ((S32)), Fortescue Metals ((FMG)), Boral ((BLD)), Inghams Group ((ING)), Challenger ((CGF)), Harvey Norman ((HVN)), Metcash ((MTS)), Link Administration ((LNK)), Insurance Australia Group ((IAG)), Brambles ((BXB)), and others.
Investors Should Heed The Dividend Message
To be fair, there is probably little to be gained from selling out of stocks simply because of these projections. In particular for those companies that are scheduled to report their financial results relatively imminently (Pendal Group, the banks). Remember, these are all forecasts by stockbroking analysts. The professionals in the market are aware of it.
Nevertheless, I think investors should heed the message of the underlying trend, which shows a clear and resounding: more bad news is coming, the risks remain to the downside. Don't forget: while analysts forecasts can be too negative, they also can underestimate the extent of a company's weakness and vulnerability. Most companies that end up scrapping their dividend were initially expected to only temporarily reduce their payout.
Next comes the great unknown: with so many companies projected to reduce or suspend their dividend, who could possibly make such a move out of left field? Arguably, this can potentially have a significantly larger impact on the share price, as the announcement will be unexpected.
Equally possible is that investors are solely concentrating on where bond yields are with the ongoing prospect of further RBA rate cuts, which might imply some of the share prices mentioned could be artificially supported and only face consequences later on. After all, these are mostly forecasts at this stage (not necessarily supported by all analysts).
Equities Move In Correlation With Cash Dividends
From a macro-perspective, I think the scene is set for a contraction in aggregate dividend harvest for Australian investors in the year ahead. This is not something that happens regularly. Post GFC, it only happened in 2015 and I am sure most investors remember that was not a buoyant time for the share market. Coincidentally, the RBA was equally cutting the cash rate back then and plenty of worries about the international outlook dominated investor sentiment.
Of equal importance is that research published by analysts at Citi earlier this year (see "All About Dividends", Rudi's View, May 16, 2019) suggests quite a close correlation exists between cash dividends paid out to shareholders and the performance of equity markets in general.
Irrespective of whether further RBA cuts will manage to stave off economic recession in 2020/21 (and most importantly: ditto for the Fed and the US economy), if the identified close correlation remains in place, then maybe investors should temper their expectations for the local market, unless the economic picture improves considerably.
A recent update by quant analysts at Credit Suisse suggests updated forecasts post August imply total dividends in the year ahead could drop by as much as -12.8%, with mining companies continuing to contribute positively (as they have over the past two years).
As for whether the outlook for Australian dividends will improve by this time next year, we all simply have to wait and see. For a large number of companies, dividend cuts are usually a one-off, followed by stabilisation or a resumption of growth. Look at the local banks, for instance. But in some cases one cut marks the start of a more prolonged period of downward pressure.
The latter seems to be the case currently for companies including IOOF Holdings, Inghams Group, Suncorp, Bank of Queensland, Platinum Asset Management ((PTM)), Sims Metal Management ((SGM)), New Hope Corp ((NHC)), CSR ((CSR)), Blackmores ((BKL)), Aveo Group ((AOG)), Sigma Pharmaceuticals ((SIG)), G8 Education, Iluka Resources, Caltex Australia, oOh!media, and AGL Energy.
On a related, but slightly off-topic subject, Bell Potter's Richard Coppleson reports next week sees the by far largest payout in dividends from the August reporting season in Australia. At an estimated payout of $12.7bn next week dwarfs all other weeks, representing circa 45% of the $28.28bn in estimated total payouts this month and next.
For those who like statistics: circa 180 companies in the ASX200 pay out a dividend each year to shareholders, excluding a few NZ based companies for which we have no data.
(Do note that, in line with all my analyses, appearances and presentations, all of the above names and calculations are provided for educational purposes only. Investors should always consult with their licensed investment advisor first, before making any decisions.)
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