This is what I’d do about the Aviva share price and that 7% dividend yield

Here’s why the news on dividends may not be as good going forward with Aviva plc (LON: AV).

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The FTSE 100’s life insurance giant Aviva (LSE: AV) looks tempting against traditional valuation measures. The current share price of around 419p throws up a price-to-earnings rating of just over seven, a price-to-book ratio of around one, and a dividend yield of more than 7% — cheap, cheap, cheap!

But if you look at the six-year financial record, you’ll see that revenue, earnings and operating cash flow have all been patchy over the period, rising up and down from year to year. Meanwhile, the dividend has been on a steady upwards trajectory. In fairness, City analysts expect advances in revenue and earnings during 2019.

Some ongoing risks

The quality indicators don’t look so appealing with the operating margin running close to six and the return-on-capital and equity figures in low single-digit percentages. And the share price has moved essentially sideways for five years with some big swings up and down along the way. During that period, the valuation seems to have been compressing. Welcome to the world of cyclical shares and their sometimes-odd-looking behaviour.

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Today’s full-year results reveal that Aviva earned around 78% of its operating profit from its life insurance business in 2018, 18% from general and health insurance, and 4% from fund management. My guess is that life insurance could be easier for people to forego in tough economic times than other types of insurance such as for cars and homes, which is why I reckon the firm’s trading outcome is vulnerable to general economic cycles.

Around 81% of that operating profit came from the home UK market, which lends the firm a lot of single-country risks. It could be that the ongoing Brexit process with all its uncertainty is holding the shares back, but I’m not so sure about that. Maybe the market thinks the valuation deserves to be low anyway, just because there’s no telling when the next cyclical plunge will arrive.

A change in dividend policy

Today’s figures are positive with operating profit 2% higher than the year before and earnings per share 9% higher. The directors seem confident in the outlook and pushed up the total dividend for the year by more than 9%.

However, the news on dividends may not be as good going forward. Chief financial officer Thomas D Stoddard said in the report the firm has decided to ditch the previous policy of tying the dividend to operating earnings per share. The idea is that the new chief executive, Maurice Tulloch, will have “greater flexibility to implement his strategic agenda.”

Remember that patchy financial record I mentioned earlier? The implications could be even more volatility ahead in total returns for investors. Although it’s unclear how much difference the change will make, the potential is there for it to be a big difference.

That said, the new man at the top said in the report that Aviva is only “scratching the surface” of its potential, and the firm seems determined to at least maintain the level of dividend payments. But I’d rather mitigate the risks with Aviva by avoiding the shares.

Pound coins for sale — 31 pence?

This seems ridiculous, but we almost never see shares looking this cheap. Yet this Share Advisor pick has a price/book ratio of 0.31. In plain English, this means that investors effectively get in on a business that holds £1 of assets for every 31p they invest!

Of course, this is the stock market where money is always at risk — these valuations can change and there are no guarantees. But some risks are a LOT more interesting than others, and at The Motley Fool we believe this company is amongst them.

What’s more, it currently boasts a stellar dividend yield of around 10%, and right now it’s possible for investors to jump aboard at near-historic lows. Want to get the name for yourself?

See the full investment case

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Kevin Godbold has no position in any share mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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