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BT Group dives again; how much worse could it be were it to cut the divi?

If BT's handsome divi is supporting the BT share price, how come it has lost more than a third of its value since Gavin Patterson took over in 2013?

Football match
Savings from the job cuts announced today will barely cover the costs of winning the exclusive rights for Champions League and Europa League football a year ago

BT Group plc (LON:BT.A) was once a state-owned utility so it is little surprise that it is wedded to its dividend.

The question many people are asking is whether it should bite the bullet and either cut the dividend or bin it completely and spend the money elsewhere. After all, it is not as if it does not have loads of pressing needs, starting with sorting out its pension scheme deficit.

The pension deficit stands at £11.3bn. As Justin Cooper, the chief executive officer of Link Market Services observed, “BT has paid its shareholders £10.7bn in dividends in the last decade, almost the size of its current pension deficit”.

“Shareholders still need the company to invest for the future, and they are on the hook for the company’s pension scheme one way or another. The big cost reductions BT has announced today will protect the dividend for the next couple of years, but its longer-term prospects are still unclear,” Cooper suggested.

Fixing a hole in the pension scheme

BT announced a new funding plan for tackling this deficit. The deficit will still be met over a 13 year period, maintaining the remaining period of the previous plan but because interest rates have stubbornly refused to rise since the last pension fund valuation in 2014 it will have to lob in an extra £2bn to the repayment plan before the next triennial valuation of the pension pot in June 2020.

In the three years to March 31, 2020, the company has committed to pay £2.1bn into the pension fund, of which £850mln was paid in March.

For the ten years after that it will make annual payments of around £900mln; in 2020 it expects to pay £400mln of this before the June revaluation, which means by the time that rolls around it will have bunged in £4.5bn to the scheme.

Even for a company valued at £21.3bn, that’s a sizeable chunk of money.

In that context, the board’s insistence on maintaining a “progressive dividend policy”, which rules out a dividend cut, is regarded as being a bit of a gamble.

The company has said that the dividend would remain flat for the next two years; is this the first step in preparing the company for the inevitable dividend cut?

The progressive dividend policy has become a static dividend policy

Some analysts are expecting Jan Du Plessis, who became chairman last November, to have a hard look at the dividend policy once it becomes apparent how much BT needs to invest in its telecoms infrastructure to keep Ofcom, the industry regulator, sweet and to stave off competition from possible new entrants, such as CityFibre, which was taken out by private equity a few months after it announced it had joined forces with Vodafone PLC (LON:VOD) to build a new ultra-fast broadband network for five million homes and businesses in the UK.

The company has been the 800 lb gorilla in the UK telecoms scene for so long that it is natural to assume its quasi-monopoly will last forever but as Sharon White, Ofcom’s chief executive has warned, the company needs to “fibre up or risk fading away”.

“History is strewn with once-successful companies that failed to anticipate and act on shifts in customer demands and to innovate. Think Kodak, Polaroid, Palm and Blockbuster. The UK cannot afford for BT to be added to that list,” she said.

The Department for Digital, Culture, Media and Sport (DCMS) will publish a report this summer on the future of telecoms infrastructure investment that may be an apposite time for BT to reconsider its dividend.

To be fair to BT’s management, it has already taken steps to ensure it does not just become reliant on its stranglehold over telecoms lines into most homes.

It has moved into the pay-TV arena to compete with the likes of Sky, Amazon, Netflix et al and it has moved back into the mobile phone networks arena – but don’t get your old Cellnet phones out just yet, folks – with the acquisition of EE.

The only problem with those moves from the point of view of being able to sustain dividend payments is those businesses also require a lot of heavy investment.

The strategy update did not lead to many cheerleaders jumping about

In its strategy update, released on the same day as the review of what journalists are obliged to call the “black hole” in the pension pot, it committed to increasing fibre-to-the-premises (FTTP) and mobile infrastructure investment within an annual capital expenditure allocation of around £3.7bn.

With all that money walking out the door something had to give and while BT said it would be hiring around 6,000 new employees to support network deployment and customer service, it also announced that around 13,000 mainly back office and middle management roles would go over the next three years.

BT said cost reductions would help offset the near-term cost and revenue pressures and would provide the capacity to invest in value-enhancing projects and drive longer-term profit growth.

“BT will also create new revenue streams in selected adjacency offerings to add new high-margin revenues,” blathered Gavin Patterson, BT’s chief executive officer.

Perhaps he could save a few bob for the company by not buying so many management jargon books so we would not have to work out what he means by “selected adjacency offerings”.

This might mean moving into markets that are a bit similar to ones it is already in and where it can use its existing skills and knowledge to good effect.

To put it another way – Patterson’s way – it means, “For example, by leveraging our leading security proposition and utilising the Internet of Things where we have transformed our own business to reduce costs and the environmental impact of our operations.”

Always beware of anyone who uses the word “utilises” when they mean “uses” …

Management is juggling while walking a tightrope

It’s entirely possible that management will pull off this tricky balancing act of keeping the income investors happy while investing sufficiently to ensure BT does not go the way of GEC, Plessey and several other once-mighty technology companies.

“The next phase of BT's transformation coincides with changes in the telecoms market with exponential growth in data consumption and network capacity requirements and increasing competitive intensity from established companies and new entrants,” Patterson said, in an outbreak of what could almost pass for plain English.

On the other hand, would it be so bad were BT to cut the dividend?

BP PLC (LON:BP.) did it; Lloyds Banking Group PLC (LON:LLOY) did it; Tesco PLC (LON:TSCO) did it; possibly even educated fleas did it.

All – except the educated fleas – eventually returned to paying dividends once they had (apparently) set their house in order.

On the other hand, companies such as HMV (ask your Dad) carried on maintaining the dividend even when the yield had risen above the traditional red flag level of 7% and went the way of the dodo.

Royal Dutch Shell PLC (LON:RDSB) has a proud tradition of not having cut its dividend in living memory but even it cheated a little by introducing a scrip (subscription) dividend after oil prices dived in 2014 to save cash.

Bite the bullet; lance the boil; whatever metaphor you use, should the dividend be cut

Sometimes, particularly when the company has the chance to offer significant returns by investing in its business, cutting the divi can be the right thing to do; it’s a bit like pruning a bush so it grows stronger over time.

“A decision over cutting the dividend can come down to whether company management is focusing on the long-term health of the business, or the short-term impact on the share price,” said Emma Stevenson, an investment writer.

In a piece written for asset manager Schroders, she suggested that for long-term investors, “it is preferable that a company cuts its dividend to protect its balance sheet, or to invest in the business, rather than paying an unsustainable dividend at all costs”.

Despite BT maintaining its dividend in its full-year results statement today, the shares fell heavily, shedding 8.5%; how much worse could it have been had it cut the dividend?

The shares are currently yielding 6.5%, compared to a median rate for FTSE 100 companies of 2.7%, so halving the divi still would have left it as one of the better blue-chip payers.

“The market is the ultimate arbiter though and the substantial restructuring plan is not meeting with its approval given that the shares have fallen sharply following the news,” noted Russ Mould, the quote machine from AJ Bell.

“The announced 13,000 job cuts will result in a saving of £1.5bn but this is only a little more than the £1.2bn it splashed out on exclusive rights for Champions League and Europa League football a year ago. It would argue this content helps bolster its offering to customers, although viewing figures have been falling,” Mould noted.

“With the share price now down 36% since his appointment in September 2013, chief executive Gavin Patterson will be under serious pressure to get this turnaround effort right,” Mould concluded.

Quick facts: BT Group PLC

Price: 191.16 GBX

LSE:BT.A
Market: LSE
Market Cap: £18.89 billion
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