Persimmon (LSE:PSN) is the largest housebuilder in the FTSE 100. Based on its current share price, and last year’s dividend, the stock is yielding a massive 18%! If maintained, this means shareholders would receive £180 in dividends in 2023, for every £1,000 invested.
Too good to be true?
Last year was tough for shareholders in the company — I should know, I am one.
During 2022, Persimmon’s share price fell by 56%. Only one other stock in the FTSE 100 performed worse.
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A £10,000 investment made at the start of 2022 would have been worth £4,400 by the end of the year. However, shareholders like me were able to take some comfort from the 235p dividend per share that was paid in two instalments. If taken into account, this reduces the paper loss by £848.
The healthy yield on Persimmon stock has been caused by the sharp decline in the company’s share price. If the price had remained unchanged from the beginning of the year, the stock would now be yielding 8.5%. This is still impressive, but not the highest in the FTSE 100.
As safe as houses?
So why did the price fall? The UK housing market is facing a triple threat of rising interest rates, a squeeze on household incomes and a reduction in the availability of mortgages.
This resulted in the Persimmon board issuing an unscheduled trading update in November. An increase in cancellation rates and a decline in weekly sales were announced. This deterioration in the forward sales position, along with planned increases in corporation tax and residential property tax, has forced the board to revise its capital allocation policy (the amount paid to shareholders).
The fundamental principle of the new policy is to ensure that dividends are “well covered” by post-tax profits, leaving sufficient funds available to acquire land.
Over the past five years, the company’s full-year profit has averaged £790m. Based on the current number of shares in circulation, a dividend of 235p would cost £750m. This demonstrates how generous the dividend has been in recent years. The company has been returning nearly all of its profit to shareholders.
Prediction for 2023
With many headwinds affecting the housing industry, it seems likely that Persimmon will be cutting its dividend in 2023.
Let’s assume that the company’s profit this year will be 20% lower than its five-year average, and that the board will return a more modest 75% of this amount to shareholders. This means there’s cash available of £475m to pay a dividend of approximately 150p per share.
Based on the current share price, this would give a yield of 11.5% — still the highest in the FTSE 100.
Even with 50% less profit, the yield would be above 9%.
Reasons to be cheerful
I’m optimistic about the long-term prospects for the housing market. Rents are becoming increasingly unaffordable and fewer people are able to get on the housing ladder. The solution to both problems is to build more houses.
That’s why I’m comfortable with my investment in Persimmon. I don’t think the current share price accurately reflects the underlying cash generation potential of the business. A lower forecast dividend for 2023, still makes for an attractive yield.
