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Three income share ideas for growth

Income can be an important driver of growth over the long term. We take a look at three companies that we think fit the bill.

Important notes

This article isn’t personal advice. If you’re not sure whether an investment is right for you please seek advice. If you choose to invest the value of your investment will rise and fall, so you could get back less than you put in.

As Brexit draws closer, uncertainty remains about what it could mean for the economy. That’s caused market volatility recently.

But for portfolios aiming for a steady income, a bumpy stock market isn’t always bad news.

Dividends aren’t as sensitive as share prices. That’s because dividends are controlled by individual companies, and not influenced by market sentiment. In today’s climate, companies with good returns potential deserve a closer look. Remember though, all dividends are variable and can’t be guaranteed.

This article is not personal advice, if you are unsure of an investment for your circumstances, please seek advice. All investments and income can fall as well as rise in value so you could get back less than you invest. All yield figures mentioned are variable and are not a reliable indicator of future income.

BAE Systems

BAE is one of the world’s biggest defence contractors, and that size is a key strength. The group has established relationships with the UK, Australian, US and Saudi governments, and contracts are long-term. Add in a £39.7bn order book, equivalent to over two years of revenue, and BAE has some of the most reliable revenues around.

BAE Systems revenue by Geography

Source: Thomson Reuters Eikon 15 February 2019. Figures may not add up to 100% due to rounding.

That’s helped the group build an impressive record on the dividend, and we think it can keep the payment ticking up. The dividend is well covered by earnings and free cash flow, and with year-end net debt at just £684m, compared to last year’s cash profits of £2.8bn, the balance sheet looks strong.

That makes the prospective yield of 4.4% look attractive, especially with the shares currently trading on 11.6 times expected earnings, below their recent average.

Of course, there’s no such thing as a free lunch, and no dividend is guaranteed. The group’s relationship with Saudi Arabia is under strain after the murder of Jamal Khashoggi, while Donald Trump seems willing to reduce defence budgets. Both issues represent risks for the company.

However, the nature of defence spending means neither will become an immediate problem overnight. It takes years for the committed spending to feed from public purse to private coffers and existing contracts mean BAE’s US revenues are set to rise into the mid-2020s.

While the loss of future Saudi contracts would be clearly problematic, it’s worth remembering BAE only makes 17% of its revenues from The Kingdom. And the majority of that comes from supporting existing equipment, which is likely to be in service for years to come.

So, while defence companies aren’t for everyone, we think BAE Systems could be considered for income.

Find out more about BAE

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Primary Health Properties

Primary Health Properties (PHP), owns and develops purpose-built primary healthcare buildings, like GP practices, which it then rents out. It’s the leading investor in the UK and Ireland – and we think that’s an attractive place to be.

GPs in England get over 300m visits a year. And with just two visits to A&E costing more than a whole year's worth of GP care, investing in community services is both vital, and cost-effective.

In England, the government's aiming to have 5,000 more GPs by 2020. And the number of facilities needed is growing – think extra mental health and community nursing services.

All that means PHP's properties are in demand, and asset values have been climbing steadily. Almost all of the buildings are rented, and long lease agreements mean future rental income is very visible.

More importantly, 91% of its rent comes from the NHS or its Irish equivalent. And governments make for very reliable tenants.

As a Real Estate Investment Trust, or REIT, PHP has to return 90% of its rental profits to investors as dividends, making for a potentially attractive income. At present it offers a prospective yield of 5%, which is ahead of the wider market.

Dividend per share (GBp)

Past performance isn't a guide to future returns. Source: PHP

An impending merger with fellow healthcare property group, MedicX, helps the group add scale, and cost savings are expected to be around £4m per annum by the end of the first full year.

We'd expect PHP to make more acquisitions going forwards. But a comparatively high loan-to-value ratio means it’ll probably need shareholders to fund that growth. Rights issues will probably remain a feature in the future.

All-in-all, we think PHP has attractive qualities for the long-term. As long as communities need health services, they’ll need buildings to house them.

Find out more about PHP

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Royal Dutch Shell

What a difference a few years can make.

In 2016, Shell was a bit of a mess, and oil prices were plumbing multi-year lows. Fast-forward two years and the picture has changed completely.

2016 2018
Underlying profit $7.2bn $21.9bn
Free cashflow -$10.3bn $39.4bn
Net debt $73.3n $51.4bn

That recovery has been driven largely by the recovery in the oil price, and debt has received a helping hand from asset sales too. But throughout one of the most dramatic oil price falls in recent times, Shell stuck to its guns on the dividend.

In fact, the oil giant hasn’t cut the dividend since the Second World War.

Maintaining that record has been painful at times. The group issued $5.3bn of shares in-lieu of dividends in 2016, seriously diluting shareholders who chose to take the cash.

The group’s taking steps to repair the damage with a $25bn share buyback. All things being equal that should be good news for the share price, even if dividend growth is likely to be thin on the ground. Still a prospective yield of 6.2% means income investors shouldn’t be put off too much.

It’s worth bearing in mind though, that when it comes to oil majors, ‘the oil price giveth, and the oil price taketh away’.

The shale revolution has up-ended the global oil market, flooding it with comparatively cheap oil & gas, and allowing the US to overtake Saudi Arabia as the world’s largest oil producer. That could mean the period of relatively high prices comes to an end.

Shell’s substantial downstream division should provide some insulation from lower oil prices - because downstream tends to do better when oil prices are lower. But as we saw in 2016, a crash is still painful.

Increased environmental awareness and improvements in renewable alternatives are also long term headwinds. However, Shell’s taken the bull by the horns and increased interest in renewables. It expects to invest $1-$2bn a year in ‘new energies’ between 2018 and 2020.

We don’t think global oil demand is going to disappear quickly though. Given the quality of Shell’s assets, the group should be able to deliver years of cash flows, enabling it to fund longer-term projects and fund returns to shareholders, but of course there are no guarantees.

Find out more about Shell

Register for Shell updates

Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Thomson Reuters. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Past performance is not a guide to the future. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research disclosure for more information.

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    Important notes

    This article isn’t personal advice. If you’re not sure whether an investment is right for you please seek advice. If you choose to invest the value of your investment will rise and fall, so you could get back less than you put in.

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