Top British dividend payers

Each week, a professional investor tells MoneyWeek where he’d put his money now. This week: Simon Gergel, fund manager, The Merchants Trust.

The Merchants Trust recently celebrated its 126th anniversary. Over its history, the trust has focused on delivering a high and rising income, plus capital growth. Today it invests in a diversified portfolio of large, established UK companies.

When investing, I look for a dividend yield that is at least in line with the market, or expected to be within 18 months. But yield is not the reason why I buy or sell a stock – I focus on total return, looking for companies trading at reasonable prices, with strong cash flows, good fundamentals and sound management.

Investing in dividend payers is good discipline. Research has shown that, on average, higher-yielding shares have beaten others over the long run. This is partly because looking for higher yields encourages “contrarian” thinking – buying shares when they are cheap and out of fashion.

Although I am primarily looking for good firms with reliable cash flows to back their dividends, I also consider various investment themes and economic factors. The UK stockmarket is a good environment in which to invest. Many London-listed firms operate worldwide, giving the trust’s shareholders exposure to global industries while benefiting from the UK’s corporate governance standards. Here are three companies I currently favour.

Pharmaceutical giant GlaxoSmithKline (LSE: GSK) has been radically transformed by its recent Novartis deal – 40% of sales now come from consumer health and vaccines, where GSK is a world leader, with solid growth prospects and cost-cutting opportunities. These high-quality businesses have substantial barriers to entry and should command high consumer staple valuations.

Around 60% of sales are in the pharmaceuticals unit, which has been disappointing. However, this division is now more broadly spread, has limited exposure to drugs losing patent protection in the next few years, and has a fast-growing HIV franchise, as well as an underappreciated pipeline of new products. The dividend yield is 5.6%.

Greene King (LSE: GNK) is one of the UK’s top pub and brewery groups. Its recent acquisition of Spirit means it now has 3,100 restaurants or pubs, with brands such as Hungry Horse, Loch Fyne, and Taylor & Walker. It also makes beers, including the UK’s leading premium ale – Old Speckled Hen.

Greene King has a long record of solid growth in sales, profits and dividends, based on owning, operating and investing in a valuable, mainly freehold estate. The Spirit deal offers significant potential from investing in this asset base, improving the brand portfolio, selling more beer and driving efficiencies. The shares have strong property asset backing.

United Business Media (LSE: UBM) is mainly an events business, running exhibitions and trade shows globally. The business has high barriers to competition: key industry players have to attend the top exhibitions and have little incentive to go to a rival start-up.

Cash generation is excellent, as exhibitors typically pay in advance, and return on capital is high because the exhibitions firm employs limited capital when arranging an event. UBM has a high exposure to the faster-growing Hong Kong and China region, but also has a broad spread of geographic and industry exposures.

Under new management, UBM has the potential to improve its operating efficiency, having had a large number of fairly autonomous businesses. Its valuation is low, despite its attractive positioning and strong cash flow.

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