When analysing dividend shares, I focus on more than just the yield. A healthy payout ratio, consistent dividend growth and strong fundamentals are all part of the equation. I want to see companies that can not only maintain their dividends but also grow them steadily over time without compromising their financial position.
While hunting for income stocks to top up in June, I noticed two of my long-term holdings – Aviva (LSE:AV.) and Phoenix Group (LSE:PHNX) – have climbed nearly 30% this year. That kind of performance often reflects improving investor confidence and, in this case, I think it’s partly down to renewed optimism in the UK insurance sector.
Falling inflation, stabilising interest rates and improved finances have helped the sector look more attractive in 2024. But before I consider buying more, I decided to assess whether the recent rally’s sustainable.
Aviva
On the surface, Aviva still looks like a decent income play. It offers a solid dividend yield of 5.73% and has grown its payout for five consecutive years at an average rate of 6.9%.
However, that growth may not be entirely sustainable. The current dividend payout ratio sits at a hefty 152%, which means the company is distributing more than it earns – never a long-term solution.
There are deeper concerns under the bonnet. Earnings dropped by 38% year on year, and return on capital employed (ROCE) is just 3%, suggesting a lack of efficiency in turning capital into profit. More alarmingly, revenue missed expectations by a significant 36% in 2024 – a clear sign the business is struggling to meet growth targets.
Also, it seems like Aviva has a habit of slashing its dividend every six to seven years, typically following a period of poor performance or strategic reshuffling. So while I still believe Aviva’s a reliable income stock, I don’t plan to increase my holding until I see more consistent earnings and revenue delivery.
Phoenix Group
Phoenix Group boasts one of the highest yields on the FTSE 100, currently paying 8.2%. The insurer has increased its dividend for 10 consecutive years and has become a mainstay for income-focused investors. In its latest results, it managed to increase its cash position by over 20% while shaving around 6% off its debt.
But the recent rally could be masking deeper financial vulnerabilities. Despite improving results, the company still posted a £1bn loss for the FY2024, and while its cash generation is generally strong, the balance sheet gives me pause. Phoenix holds £4.18bn in debt against just £1.75bn in equity — a worrying large discrepancy that could limit financial flexibility, especially if interest rates remain elevated.
For now, I’ll hold my position as I remain enthusiastic about the generous dividend but I’m not inclined to add more shares at this stage. The yield’s tempting, but the underlying profitability needs to improve before I consider topping up.
At the moment, I think there may be better opportunities to consider elsewhere. In particular, UK housebuilders and real estate investment trusts (REITs), where valuations look compelling and income potential remains strong.
