Woodside move may yet pay dividends for BHP and Rio
They will now be wondering whether to do the same, whether to get in line with the new mantra of returning value to long-abused shareholders and do something about it, rather than hint at it.
Apart from the special dividend, the more important announcement from Woodside was that it was going to target an 80 per cent payout ratio for "several years".
One broker had research out this week folding in this new expectation and forecasting dividends through to 2015 that put Woodside on a yield of 5.6 per cent this year, 7 per cent in 2014 and 6 per cent in 2015, implying a gross yield (including franking) of 7.9 per cent this year, 10 per cent next and 8.5 per cent in 2015. If true, it is an income stock.
All three big resources companies have recently installed new management who are emphasising cost cutting, reduced capex and the return of value to shareholders. This new culture of making decisions based on value rather than growth expenditure is the new mantra in resources, with Woodside's cutbacks on projects being mirrored by BHP, Rio and several other resources companies.
Clearly, from the reaction of the Woodside price - up 9.7 per cent in a day - this transition from low-yielding growth stocks that aren't growing to paying higher dividends with franking, is exactly what the market wants from the resources stocks that have so far squandered much of the resources boom dividend on projects or proposed projects that in some cases have been or would have been a disaster, including Magma Copper, Rio's purchase of Alcan, the BHP bid for Rio at the top of the market and tits bid for Potash.
Paying higher dividends are perhaps a temporary phenomenon that is pandering to the market's desire for income, and it shouldn't be ignored that Woodside has hedged its bets by leaving the door open to pulling back from an 80 per cent payout if suitable projects require capital, such as the development of floating LNG technology.
But the move will clearly have prompted a few meetings at BHP and RIO and a debate about whether they should follow suit. Imagine that, BHP and RIO in an income fund next to Telstra, the banks and some hybrids. If you follow this week's research, the expectation is that BHP and RIO are unlikely to commit to an 80 per cent payout ratio (if they make changes at all) with 60 per cent touted by one broker as being possible.
That would suggest a dividend on BHP that would put the stock on a 4.78 per cent fully franked yield which brings the gross yield up to 6.82 per cent. On Rio it would suggest a dividend putting stock on a 7.15 per cent yield, or 10.21 per cent including franking. There are hybrids that yield less than that.
Of course, before we get over-excited, you might note that BHP and Rio are in a downtrend - both fell when Woodside was up 9.7 per cent - so clearly no one is anticipating a similar move yet, and there is no suggestion from either company (yet) that they are prepared to move their payout ratios up from 45 per cent and 30 per cent to 60 per cent. It is pure conjecture. On top of that, their charts looked terrible.
But it does make BHP and Rio far more interesting to a much wider audience of investors, and given any technical signs of the stocks bottoming, it is a significant new motive for buying into any new rally rather than ignoring it. One thing's for sure, you're not buying at the top.
■Footnote: Dividends, like sentiment, don't matter past the short term. In the end it's earnings per share and return on equity that is important. So no matter what BHP, Rio and Woodside do with their dividends, their share prices will go lower unless they lift their earnings outlooks.
BHP has a ROE of 37 per cent and Rio a ROE of 27 per cent. To underwrite the dividend story, they need to maintain that, and that is the bigger question in the long-term.
In the short term, as we all know, if they flash the words "big full-franked sustainable dividend" in front of Australians in the current environment, and they could, the share prices are going to go up.
Frequently Asked Questions about this Article…
Woodside announced a special dividend that effectively doubled its final dividend and then said it would target an 80% payout ratio for "several years." The share price jumped around 9.7% on the day of the announcement, reflecting strong market appetite for higher, franked dividends from resource stocks.
An 80% payout ratio means Woodside plans to return about 80% of earnings as dividends for several years, which analysts folded into forecasts that put Woodside on a yield of about 5.6% this year, 7% in 2014 and 6% in 2015; including franking credits those gross yields were estimated at 7.9%, 10% and 8.5% respectively — making Woodside look like an income stock if the forecasts hold.
The article says Woodside's move likely prompted internal debates at BHP and Rio, but neither company had signalled a change yet. Brokers think an 80% commitment is unlikely for BHP and Rio, though one broker suggested a more modest 60% payout might be possible — but that is speculation rather than company confirmation.
Using the broker scenarios mentioned, a 60% payout could place BHP on a fully franked yield of about 4.78% (around a 6.82% gross yield including franking) and Rio on about a 7.15% yield (around 10.21% including franking). Those figures show how higher payout ratios could lift income for shareholders if sustained.
The article cautions that higher dividends may be temporary and companies have hedged their options — for example Woodside said it could pull back from an 80% payout if suitable projects need capital. Ultimately, long‑term sustainability depends on earnings per share and return on equity (ROE); the piece notes BHP's ROE at about 37% and Rio's at about 27% as the bigger long‑term question.
Franking credits increase the effective or "gross" yield investors receive because they reflect tax credits attached to Australian company dividends. The article gives both net yields and gross yields including franking — for example Woodside's 5.6% net yield was estimated as a 7.9% gross yield after franking.
According to the article, new management teams at big resource companies are emphasising cost cutting, reduced capital expenditure and returning value after many projects and acquisitions during the boom squandered shareholder returns. The new mantra is making decisions based on value rather than growth‑for‑growth's‑sake, which has made dividends a priority.
The article suggests caution: higher, fully franked dividends can boost share prices in the short term, but long‑term value still comes from earnings per share and ROE. Woodside's move made it look like an income stock if forecasts hold, but BHP and Rio were in downtrends when the news broke and any decision to buy should consider earnings prospects and chart/technical signals as well as dividend promises.
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