Earning passive income is an important objective in my investing. A lot of the shares I consider buying are attractive to me at least in part for their income potential. That is one of the reasons I have occasionally been eyeing pharmaceutical firm GlaxoSmithKline (LSE: GSK) for my portfolio over the past couple of years. But the GlaxoSmithKline dividend, offering a yield of 5.1%, is not quite as appealing to me as it initially seems. Here is what makes me nervous – and has held me back from adding the company to my portfolio.
Lack of dividend growth
A company’s dividend history is not necessarily indicative of what it will do in future. But it can help me understand how a company has been thinking about its dividend. At surface level, the 5%+ dividend on offer at GlaxoSmithKline would be an attractive addition to my portfolio. It is higher than the dividend yield offered by many other blue chip companies.
However, the dividend has been flat for years. The last increase was in 2014. Although the 80p per share dividend remains generous, what concerns me is why the company has repeatedly decided not to raise its dividend. I feel it suggests that the business has not been improving enough to make the board feel comfortable with spending more money on a dividend.
Plan for the GlaxoSmithKline dividend to fall
The lack of confidence to grow the dividend is not what most concerns me here. It is what comes next.
GlaxoSmithKline is routinely described as a pharmaceutical business. But it also has a large consumer goods business selling non-prescription items often found in chemists. These include household names such as toothpaste Aquafresh and painkiller Panadol. It is easy to understand how those two businesses developed in tandem. GlaxoSmithKline now plans to spin off its consumer goods business into a different company. It hopes to unlock more shareholder value by letting the two businesses sharpen their focus in their own particular areas.
But this is set to be bad news for dividends, at least in the short term. The company has said that the pharma business expects to pay 45p per share in dividends next year. The dividend for the consumer goods business will depend on its directors. But it is expected to come in at around 7p per share. That would mean a total annual dividend of 52p per current share, compared to 80p now. So, if I bought GlaxoSmithKline shares for my portfolio today, although the current yield is 5.1%, the prospective yield for next year is a much less attractive 3.3%.
I will not buy GlaxoSmithKline for yield
So, after years of a flat dividend, GlaxoSmithKline is likely to see a big dividend cut next year. A reorganisation meant to unlock shareholder value will in fact probably result in lower shareholder distributions, at least in the beginning.
I think that shows a lack of determined focus on the part of the company’s management when it comes to maintaining or growing shareholder returns. That concerns me, because it makes me wonder if increasing the dividend will be a priority in future. With the yield set to fall and a questionable focus on the importance of dividends to shareholders, I do not plan to add GlaxoSmithKline to my portfolio.
Christopher Ruane has no position in any of the shares mentioned. The Motley Fool UK has recommended GlaxoSmithKline. 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.
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