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Should I buy Royal Mail owner IDS’ shares for BIG dividends?

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Royal Mail owner International Distributions Services (LSE: IDS) has watched its share price slump 54% in 2022. Based on current dividend forecasts, its shares now carry a healthy 4.7% dividend yield for the current financial year (to March 2023).

This figure smashes the broader FTSE 250 average of 3.1%. And things get better for fiscal 2024, too. The yield for then leaps to 5.5%.

Royal Mail is a huge thorn in the side of IDS. And things threaten to get worse before they improve. But should I still buy this dividend-paying stock for its huge yields?

Ups and downs

The company has a great record of delivering excess capital to its shareholders. In recent times it’s been raising ordinary dividends and paying special dividends and executing share buybacks.

There is, however, a possibility that troubles at the company’s UK letters and parcels division will affect shareholder payouts in the near future.

IDS is tipped to cut the full-year ordinary dividend to 11.4p per share in financial 2023. However, it is expected to raise it again to 13.4p next year.

Fragile forecasts

As I say, these projected dividends create tasty yields. But the problem I have as potential investor is that current estimates look highly fragile.

When I buy dividend shares the first thing I look for is decent dividend coverage. Ideally I look for projected payouts to be covered at least two times by anticipated earnings. This provides a wide margin of safety in case profits come under pressure.

Worryingly IDS isn’t predicted to generate any earnings this year. The City is tipping losses of 10.6p per share this year.

Pleasingly, dividend coverage comes in at two times for financial 2024. In that year, Royal Mail is predicted to earn 26.4p per share.

But with the Bank of England predicting a long UK recession and protracted strike action threatened I’d be looking for higher dividend coverage for this share.

High debts

I’m happy to accept lower dividend cover if an income stock has highly defensive operations and strong earnings visibility.

I’d also consider a reading below two times if a company has a strong balance sheet. A cash-rich business could have the ability to pay big dividends even if earnings disappoint.

Unfortunately IDS had whopping net debt of £1.5bn as of September. So if earnings disappoint, dividends could also come in much worse than expected.

The verdict

It’s not all doom and gloom for IDS. Trading at its GLS parcels division (which operates in North America and Europe) continues to impress even as the global economy cools.

Revenues here rose 9.5% in the six months to September. With e-commerce steadily growing and the division steadily expanding profits here could soar in the years ahead.

Still, the mounting problems at Royal Mail make IDS an unattractive investment opportunity to me.

Revenues here plunged 10.5% in the first half as it fell to a £219m adjusted operating loss. It looks set to remain under pressure too given the threat of prolonged strike action, the terminal decline in letters volumes, and the rapidly worsening British economy. I’d rather buy other UK dividend shares today.

The post Should I buy Royal Mail owner IDS’ shares for BIG dividends? appeared first on The Motley Fool UK.

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Royston Wild 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.