The appeal of dividend stocks for me is the prospect of a stream of passive income without having to lift a finger. Some of the largest and best-known FTSE 100 companies are generous dividend payers. Here are two FTSE dividend stocks to buy now for my portfolio.
British American Tobacco
The economics of tobacco are quite simple. As it is an addictive product, manufacturers are able to increase prices. Declines in smoking in some countries are reducing demand, but the total market remains huge. Input costs are low and there are limited growth opportunities in which a manufacturer can reinvest profits.
That means that a company like British American Tobacco (LSE: BATS) is able to generate significant free cash flows. It can use them to fund large dividend payments. Last year, the company generated £2.6n of free cash flow even after paying dividends of £4.7bn. At the current share price, the BAT yield is 7.6%. With a yield like that, it is on my list of FTSE dividend stocks to buy now.
Is the BAT dividend safe?
Not only does BAT have one of the highest yields among FTSE shares, it also has a strong record of increasing its payout each year for more than two decades. This year the dividend grew by 2.5%. That isn’t a huge increase, but it’s not negligible either. Over time, such increases can compound substantially.
But will BAT continue growing its dividend in future? Indeed, will it even pay a dividend at all? Risks such as regulatory compliance costs and falling demand for cigarettes could eat into free cash flow. The company also has to service substantial debt – last year’s £4.7bn of dividend costs was actually much less than BAT spent on debt. Not only did the company pay interest of £1.7bn, it also spent £10.6bn reducing and repaying borrowings.
The company targets a dividend equivalent to 65% of adjusted diluted earnings per share. If adjusted diluted earnings fall, the dividend could thus fall. The company’s progressive dividend history provides no assurance of future dividend increases. Bearing these risks in mind, however, I still consider BAT as one of the best FTSE dividend stocks to buy now for my portfolio.
Best FTSE dividend stocks to buy now: Legal & General
On my list of FTSE dividend stocks to buy now for my portfolio, I would also include Legal & General. Its commitment to dividends was tested last year, when competitors such as Aviva suspended dividends. By contrast, Legal & General kept paying. While Aviva went on to cut its dividend, Legal & General has set out its plans for coming years, including a progressive dividend policy.
Yielding 6.6%, the shares offer my portfolio more exposure to the financial services sector. That has risks. Any downturn in the economy could affect demand for financial services products, leading to falling revenue. Insurance pricing tends to be cyclical, which is a risk to Legal & General’s profits when the next downward phase in the cycle starts.
But I like its well-known brand, its wide customer base, and a yield in excess of most FTSE 100 companies. That’s why Legal & General is on my list of FTSE dividend stocks to consider for my portfolio right now.
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Christopher Ruane owns shares in British American Tobacco. The Motley Fool UK has recommended British American Tobacco. 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.
Motley Fool UK 2021