Why companies have suspended their dividends

Events have unfolded with incredible speed and the first action taken by companies, for the most part, was to quickly address their operational issues as a priority.

Now that company management teams have had a chance to assess the damage, we are starting to see concerted efforts to manage the situation.

A huge number of companies have either cancelled, reduced or delayed dividends

At the operational level this has meant, for example, shuttering plants in Europe and the US, shoring up supply chains where needed and reducing staffing where unavoidable.

Attention, however, has now turned to shoring up cash flow positions.

Key Points

• Many companies have suspended their dividends.
• Some of this is voluntary.
• Investors should not look exclusively at dividends.

At the financial level, businesses have taken the more obvious near-term steps to reduce discretionary cash outflow: stopping capital expenditure, withdrawing share buybacks, reducing working capital, and so on. Dividends fall into this category.

From our perspective, as income investors, these are difficult waters to navigate.

A huge number of companies have either cancelled, reduced or delayed dividends, even if already declared.

In most cases they have managed to hold annual general meetings, by reducing the physical presence required to the absolute minimum and moving to proxy voting, but in some cases we have seen delays because they cannot manage the process.

It is also worth bearing in mind that most European companies pay an annual dividend in one instalment, most often in April or May, so this necessary act of cash preservation is high on the agenda for them.

Inevitably, the situation remains highly fluid.

After the initial flurry of proactive announcements, we are likely to see further announcements in the weeks ahead, once companies have a bit more visibility on demand and as they start to report their first quarter results.

From our perspective, where companies are cutting or withdrawing dividends, it seems to be down to one of three reasons: those that cannot pay; those taking a ‘wait and see’ approach; and those that can but for social/political reasons cannot, such as the many companies taking advantage of government assistance schemes.

Banks fall into the last category, given that the European Central Bank has told banks in the Eurozone to freeze dividend payments and share buybacks until at least October.

Insurance companies are coming under pressure to follow suit, and there have been some quite surprising moves to take advantage of state financial assistance in other sectors – Adidas (not owned) would be a case in point, taking a €3bn (£2.6bn) loan from a German state bank. 

What does this dividend drought mean?

Regarding the Jupiter European Income Fund, we have thus far seen a moderate impact from this wave of dividend cuts. The bulk of the income we are expecting should be paid.

For a start, quite a few are already ex-dividend for the year.

Our largest holdings, however, where the bulk of the overall income is expected, are in what we would consider robust sectors.

Here, although there has been some impact on company operations, the dividend is safe. This would include sectors such as healthcare, telecoms, technology, utilities and consumer staples.

Where companies have delayed or cancelled payments, they fall into the last two of the categories above, so we may well see a full or reduced dividend later in the year, but it depends a lot on how the current situation evolves and, in one or two cases, when they can hold their annual general meeting.

Some companies we hold, even though they have been direct beneficiaries of the crisis, have opted to delay out of caution, but we would readily expect a dividend later in the year.

Essity, a maker of consumer tissue and hygiene products, would be a case in point, as sales have surged following consumer stockpiling.

Avoiding the yield mirage 

Ultimately, looking more broadly, what we do not want to do is to let the ‘tail wag the dog’, that is, let dividend yield dictate what we own. We have never done that.

For us, dividends are about reaping the benefits of well-run businesses, so we have always focused on solid cash generation, strong balance sheets and long-term growth prospects. This matters now more than ever.

Chasing yield for its own sake has never been a sensible strategy in our view.

At the margin, the huge sell-off in the market has created valuation opportunities and we have made a few moves to capitalise on this – if it improves the likelihood of actually receiving a dividend, so much the better, but we are mindful of chasing a yield ‘mirage’.

This is a rapidly unfolding situation and things may change so we reserve the right to change our minds, but broadly speaking, we do not envisage having to make significant changes to our portfolio based on the dividend lockdown.

For all the short-term pain, we feel that we own a portfolio of robust businesses that ought to emerge strongly from this crisis.

Greg Herbert is fund manager of the Jupiter European Income Fund