Is the Coles Group Limited (ASX: COL) share price worth buying for dividend income?
Could a supermarket share actually be one of the best choices for dividends? Quite possibly, don't forget that Woolworths Group Ltd (ASX: WOW) was a great dividend share in the 2000s.
In FY19 Coles declared a final ordinary dividend of 24 cents per share and a special dividend of 11.5 cents per share. That means with the FY19 ordinary payment, Coles offers an ordinary grossed-up dividend yield of 2.2%. With the special dividend it's a grossed-up dividend yield of 3.25%.
The dividend was based on the period from 28 November 2018 to 30 June 2019, which is effectively the time that Coles spent on the ASX as its own entity, rather than being part of Wesfarmers Ltd (ASX: WES). So perhaps five months of added earnings in FY20 will mean the Coles ordinary dividend could double or more.
One estimate for Coles' FY20 dividend is 53 cents in FY20 and 57 cents in FY21. This puts the estimated forward grossed-up dividend yield at 4.9%. This looks better, but it's still not a big yield.
The key question for Coles will be whether its supermarket earnings can continue to rise. In FY19 supermarket revenue rose 3.2% and supermarket earnings before interest and tax (EBIT) climbed 2.2%. It will be hard for the dividend to grow much faster than inflation if the key earnings driver isn't growing fast. Increasing the dividend payout ratio could take away from future growth with less re-investment.
Perhaps a quick turnaround for Coles Express after a new deal with Viva Energy Group Ltd (ASX: VEA) could boost EBIT enough to grow the dividend to a higher yield.
I really like the various things that Coles is trying to get back to be the leading supermarket, including working with Ocado for Coles Online and building two highly automated distribution warehouses that will cost a few hundred million dollars each.
I also like the new strategy of aiming to be the most sustainable supermarket with healthy products that could see Coles win back customers. Coles has to do something to set itself apart from the competition from Aldi and others.
Foolish takeaway
Coles is currently trading at 24x FY20's estimated earnings. I think this is a little more attractive than Woolworths' valuation, but I think both look expensive for the limited revenue and profit growth they're likely to produce over the next three to five years.
