8.3% yield! But is the Taylor Wimpey dividend forecast equally tempting?

House builder Taylor Wimpey (LSE: TW) pays an annual dividend of 9.6%. That lifts it to 9.4p per share, which at the current share price equates to an 8.3% yield. That certainly interests me – but is Taylor Wimpey’s dividend forecast interesting?

Dividend volatility

Housebuilders often have quite volatile dividends.

When the housing market is good, it can generate free cash flow. Some may be used to buy land, but more often than not there is limited use for the cash within the business, so it is paid out as dividends. When house prices fall or sales volume drops (often both things go together), dividends can be cut quickly or canceled altogether.

Before the pandemic, for example, Taylor Wimpey’s annual dividend was 16.9p per share. But in 2020, they reduced their payouts and raised funds by issuing new shares, diluting existing shareholders.

It was the same story during the financial crisis in 2008. The share price has fallen by more than 85% in a year and the company tried but failed to raise half a billion pounds in a rights issue. A subsequent dividend payment of 15.8p per share has been announced. In other words, even after this month’s generous increase, the dividend is about 40% lower than in 2007.

Taylor Wimpey share price changes

But while it may have cut its dividend earlier, that doesn’t mean it’s indicative of what the next few years have in store for the company’s shareholders.

Underlying earnings per share of 18.1p last year meant the dividend was well covered. Even if earnings average rather than increase, Taylor Wimpey’s dividend could continue to grow for many years.

The company generated a positive free cash flow of £29m, after paying dividends of £324m and spending £151m on share buybacks. That is sustainable if the income stays at the current level. Even if they fall, it is possible that dividends can be maintained or increased, by ending share buybacks.

Does Taylor Wimpey pay a dividend? The purpose of the company is “provide an attractive and reliable income stream to shareholders, throughout the cycle including during normal downturns, through regular cash dividends“. It tries to pay out 7.5% of net assets or at least £250m a year over the economic cycle. This is considered feasible if house prices fall by less than 20% and sales volume falls by 30%.

In practice, I have doubts whether it will really pay the same dividend if it goes bad, or try to preserve cash instead. Now, even though the company says that, “The weak economic background continues to impact the near-term outlook“, remains optimistic about sales prospects. If the housing market does not get worse, I expect Taylor Wimpey’s dividend this year to be at the same level or higher than last year.

But it depends on the health of the housing market. The long term is difficult to assess. A decrease in the selling price may result in a dividend cut. Currently, I have no plans to buy the stock.