Legal & General remains a solid choice for long-term income

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UK-based insurer and financial services group Legal & General (OTCPK: LGGNF) remains a solid income pick in my view. The nature of the business has been covered in previous articles here on Seeking Alpha. In this piece I just want to see why, now as before, I continue to see the company as a good long-term choice from a revenue standpoint.

My last article on the company (Legal & General: 6.3% Yield And Continued Dividend Growth In Sight) was from a year ago and had a “buy” rating. The business continues to perform well with a long track of strong potential ahead of it. As a result, I maintain my “buy” rating.

Legal & General continues to develop its activity

There has been a history of long term growth within the company and I expect that to continue. Its business mix exposes Legal & General to long-term growth opportunities which it is well positioned to exploit due to its well-known brand and strong market position.

The most recent evidence of this can be found in the company’s interim results, released last month.

Legal and General 1H2022 Financial Summary

company announcement

Source: company interim results (footnotes omitted)

The company itself noted its strong track record, with a first-half 11-year CAGR of 11% in EPS, 11% in DPS, and 8% in book value per share. This is an excellent performance and the company continues to show positive signs of growth as seen above.

The company recorded an optimistic note in the results, saying, “Our strategy has generated strong returns for our shareholders over time. It has shown resilience throughout the pandemic and positions us well to navigate – and even benefit from – the current market environment. We are confident that we can continue to generate profitable growth while executing our strategy. I agree with this assessment. The company is on track to meet or exceed the cumulative cash and capital ambitions it set out in a five-year plan at the end of 2020. This includes a graduated dividend policy.

Ongoing income potential

Legal & General’s main draw for many investors is its dividend, which has had an attractive history for most over the past two decades, with some stutters when the economy took a turn for the worse.

Legal and general history of dividends

author

Chart compiled by author from company website data

The company has defined its dividend policy until 2024 here, which forecasts annual dividend growth in the lower to mid-range numbers. I see no particular reason to expect a significant change in 2024. If the company continues to do well and generate enough cash, I expect it to continue its largely progressive dividend policy which characterized the last quarter century.

The dividend remains well covered, with coverage last year exceeding 1.8 times earnings, as it has for three of the past five years.

The reason why I think Legal & General should be able to continue to increase its dividend is that I expect it to be able to continue to increase its earnings thanks to its well-established position in the market and to its strong mark. This can be illustrated by looking at the company’s performance over the past decade. While some metrics vary depending on the exact time period used (notably revenue), double-digit earnings growth is the norm and even when the dividend has grown rapidly, earnings per share growth hasn’t lagged far behind. .

5-year CAGR

CAGR over 10 years

Revenue

0.1%

6.1%

Profit

10.1%

11.0%

Basic earnings per share

10.1%

10.6%

Divide by share

5.2%

11.2%

Table compiled and calculated by the author using data from companies’ annual reports

Given that the current dividend policy calls for more modest dividend increases even than in the past five years, I expect earnings per share growth to once again outpace dividend growth, increasing the cover. This should help increase the safety of the dividend, in the absence of a major business shock such as an economic crash.

The valuation is attractive

Currently, the company is trading on a P/E ratio below 8, which I consider attractive.

The market cap is around £15 billion. Over the past five years, it has made around £8.5billion in after-tax profits. Legal & General’s earnings tend to be uneven, but the long-term trajectory is both positive and solid. So I expect the next five years to be at least as good, even if the economy does poorly, thanks to the resilience of certain business areas of the company. This means that the whole business can be bought for less than a decade of revenue. Seems to me like good value for money for a well-established, very cash-generating and up-and-coming business.

Is there an opportunity for capital growth?

Income may be great, but what about capital growth? In the past few years, after all, Legal & General hasn’t seen strong share price growth. It is less than 3% of what it was five years ago.

It was true before. Between May 1998 and March 2007, for example, stocks rose only 4%. They then crashed and bottomed around March 2009 before reaching roughly their current range in 2015, where they remain, although this seven-year period contained some big drops, especially in 2020.

Ignoring the fact that if I had bought these stocks at their nadir in March 2009, I would now be earning around 75% annual return (!), I think the 2007-09 price history is instructive. Legal & General was a great company at the time and barely new (it’s been around since 1836) but its price has crashed, in part due to falling company dividends (as I detailed in Legal & General: An attractive dividend choice with a yield above 6%) . But it is clear that a financial crisis has significantly pushed the stock out of its trading range. If it happens again, I would reload (like I did in 2020).

So in the short to medium term, I wouldn’t buy the shares for the purpose of capital growth. Longer term, however, the stock price could rise as it did between the end of the good run in 2007 and the start of the current price range in 2015. When the next economic dislocation brings down the equities (as I expect, just like 2020), I would see a particularly attractive buying opportunity, because not only would there be an opportunity for long-term capital growth, but also very likely high yield (the investors who entered the March 2020 low now receive an 11.7% return).

Editor’s Note: This article discusses one or more securities that do not trade on a major US exchange. Please be aware of the risks associated with these actions.

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