Persimmon yields 13.8%, but can you trust it to deliver?
With a dividend yield of 13.8%, Persimmon looks like a highly attractive prospect for income investors. But that sort of yield can also indicate a company in distress. Rupert Hargreaves looks at the numbers to find out if it's sustainable.
Persimmon shares currently offer the second-highest yield in the FTSE 100. With a dividend yield of 13.8% for 2023, (according to Refinitiv analyst estimates) the homebuilder looks highly attractive from an income perspective.
However, a high dividend yield (especially one in the double-digits) can indicate a company in distress. It can be a sign that investors are avoiding the stock, pushing the value of the shares down and the yield up.
So, is that the case with Persimmon? Can you trust the dividend – or is the market sending a warning signal?
Persimmon shares slump on recent trading update
Anyone who’s been reading the news recently will know that the UK housing market is creaking.
After years of breakneck growth, powered in part by ultra-low interest rates, house prices are starting to decline as borrowing costs soar.
Persimmon is one of the largest homebuilders in the UK. Its average private selling price of £267,325 (20% below the UK average) puts it firmly in the affordable and first-time buyer bracket. That’s important because these two markets have different fundamentals to the rest of the real estate market.
The builder also claims that its properties are 30% more energy efficient than existing housing stock, a major selling point in the current environment.
Still, there’s no getting away from the fact that the outlook for the housing market is deteriorating.
In a trading update published on 8 November, the homebuilder told its investors there are clear signs the property market is slowing and sales across its development sites had slumped 20% in the past six weeks. More worrying, the number of buyers cancelling purchases has jumped by a third (to 28%).
Unsurprisingly after this update Persimmon shares dived.
Dean Finch, group chief executive, said, "Rising interest rates and broader economic uncertainty are clearly impacting mortgage lending and customer behaviour and this is reflected in our recent weekly sales rates and forward sales position.”
Persimmon’s selling prices have taken a hit as a result. Since July, the average price of its homes has fallen 2%.This time last year the group had agreed sales worth £1.15bn for the year ahead. Today, the value of sales agreed for next year is just £770m.
Most of the company’s issues can be traced back to interest rates. Interest rates are on the up, meaning buyers are facing higher mortgage costs and the pain is likely to be felt more by buyers on low-deposit mortgages, such as first-time buyers.
Indeed, historically around 20% of Persimmon’s sales were to buyers using the Help to Buy scheme, a scheme aimed at first time buyers. This scheme has now ended.
Challenging market conditions will hit Persimmon shares
The company’s poor forward guidance has hit investor sentiment towards Persimmon shares.
The uncertain outlook for the housing market means the group cannot provide guidance for 2023 at this stage, although it does expect construction volumes, selling prices and demand to fall.
“Our current expectation is for fewer legal completions than in 2022 and this together with a deterioration in average selling prices will have an impact on 2023 margins,” the group’s latest trading update notes.
And with that being the case, management is revisiting Persimmon’s cash return and dividend plans.
Back in 2012, the group laid out a shareholder capital return programme, which has remained in place ever since.
Under the plan the company has returned 1,530p per share to investors via dividends since April 2023.
That means investors who were savvy enough to buy the stock when the capital return programme was announced have received a return of 430% from dividends alone. Not bad!
However, management has now decided to “conclude” this programme. It will be replaced with a new capital allocation policy that reflects “the increased uncertainty in the political and macro-economic environment, alongside increased corporation tax and the residential property developer tax.”
Management is aiming to prioritise a strong balance sheet and is investing in the future of the business. Ordinary dividends will be “set at a level that is well covered by post-tax profits” leaving plenty of headroom to both invest in growth and return cash to investors.
Can Persimmon’s dividend be trusted?
The new plan suggests the dividend on Persimmon shares is going to fall in the near term.
Analysts have a payout of 183p per share pencilled in for 2023, giving a forward dividend yield of 13.8%. But that greatly depends on how the housing market performs over the next 12 months. If property prices continue to decline, the group’s profits will fall and management will have to reduce distributions.
Despite the company’s uncertain near-term outlook, management remains optimistic that over the long-term, demand for property in the UK will remain robust.
“In the medium to longer term, the demand for new homes will remain strong,” its recent trading update declares.
“Persimmon is well positioned to serve the continuing need of customers across the UK who seek high quality and energy efficient new homes at a price they can afford,” it goes on to say.
So, long-term, the outlook for the business seems pretty secure, after all the UK isn’t building enough houses and the population is only growing.
However, as the business invests for growth, and the economic outlook clouds over, it’s clear investor cash returns are no longer a priority for the enterprise. On that basis, I don’t think the dividend on Persimmon shares can be trusted at its current level. A cut seems likely next year.
Investors seeking income might have to look elsewhere - see our article on 4 investment trusts to buy now yielding over 12%.
The author of this article does not own any share mentioned in this article