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This dividend stock will drive my passive income strategy

Passive and Active: text from letters of the wooden alphabet on a green chalk board

Anglo-Australian mining company Rio Tinto (LSE: RIO) is a FTSE 100 giant that I think will drive my passive income strategy. 

Passive income is an excellent approach to investment. Building a stream of dividend payments can lead to consistent cash returns. With a dividend yield of 10.84%, Rio Tinto seems like a key player for this strategy.

The dividend stock is currently trading at 4,873p, having risen just 2% over the last month. However, falling iron ore prices in June have led the share price to decrease 7% over the last year.

Yet I think Rio Tinto is set for long-term consistent returns. Let’s look at why this dividend stock will drive my passive income portfolio.

Dividend commitment

Rio Tinto understands how fundamental its dividend commitment is to shareholders. Management’s shareholder returns policy includes a pledge to deliver a huge 50% of underlying earnings back to investors each year.

The company has held true to this. Interim dividends have been consistently within the range of 2.22p to 3.07p over the last three years. In the half-year report, Rio Tinto boasted its second-highest-ever total dividend payout at £3.6bn. Also, the company launched its Dividend Reinvestment Plan, offering shareholders a special dealing arrangement to trade payouts for more shares.

However, the dividend per share fell to 222p from 271p. This 18% decrease followed a large fall in underlying earnings. Yet as I explain later, much of this drop was due to rising fuel costs and fluctuating ore prices. Of course, this had an impact on the company’s bottom line for this year. I can only hope that industry conditions are better contained next year.

The board has a stated aim to deliver 40%-60% of underlying earnings to shareholders in cash returns. This is bolstered by intentions to supplement ordinary dividends with additional returns during periods of strong cash generation. These are impressive objectives.

With a consistent history of dividend payments, and plans to improve this further, Rio Tinto seems an excellent addition to my passive income portfolio.

Explaining the earnings

So, it seems like a clear buy for my passive income portfolio. But are its large payouts sustainable?

Across its half-year, underlying EBITDA decreased by 26%, from roughly £18bn to £13bn. This was largely for industry-wide reasons. Transport costs were hit by rising diesel prices, creating an approximate £473m reduction. Management estimated that changes to commodity prices resulted in a £2.8bn reduction in EBITDA.

However, I think that Rio Tinto will be able to turn this around. The first ore has been delivered from the new Gudai-Darri mine. It has an expected 43m tonne per year capacity for 2023. Also, the board has approved a new lithium carbonate plant, with a 3,000 tonne capacity per year. First production is set for 2024. As industry conditions begin to settle, I think these projects can pull earnings back up to pre-FY22 level.

It has been a tough year for the company and industry, yet management has successfully adhered to the dividend policy. With new projects beginning to operationalise, I think Rio Tinto is set for healthy earning reports for the foreseeable future. Managerial aims to supplement payouts, and offer a special dealing scheme, are attractive bonuses. This would mean excellent dividend payouts for my passive income stream. I’ll definitely be looking to add some Rio Tinto shares to my portfolio.

The post This dividend stock will drive my passive income strategy appeared first on The Motley Fool UK.

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Hamish Cassidy has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. 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.