Is Dominion Energy the Best High Yield Dividend Stock for You?

The S&P 500 the index is down a measly 1.2% today. The average utility, using the Utilities Select SPDR ETF as a proxy, has a 3% return. Dominion Energyhis (NYSE:D) the dividend yield is much higher than 4.7%. This will likely attract the attention of most income-oriented investors. But before you jump on board, you’ll want to understand a few caveats that come with owning Dominion Energy.

What does Dominion Energy do?

Dominion Energy is a fairly straightforward regulated electric utility today, but it wasn’t always that way. At one time it owned oil and natural gas production assets, pipelines and natural gas utilities. The company has spent the last two decades paring down its business to become simpler and less risky.

The most recent change came in 2023, when the company announced plans to sell three regulated natural gas utilities to Enbridge (NYSE: ENB). The last of the three sales is likely to be completed in the third quarter of 2024. After that point, Dominion expects to grow earnings at a strong rate of 5% to 7% through 2029. That’s an attractive growth rate for a utility. Growth will be driven by a $43 billion capital investment plan, which notably includes a huge offshore wind development project.

If you’re an income investor looking for a high-yielding utility stock to add to your portfolio, Dominion Energy is definitely worth a closer look. But there are some additional aspects to consider before buying it.

Dominion was not the best dividend stock

Before Dominion decided to sell its natural gas utility operations, it agreed to sell its pipeline business Berkshire Hathaway (NYSE: BRK.A)(NYSE: BRK.B) in 2020. It was a very large selloff that significantly reduced the company’s cash flow and required a dividend cut. After that cut, management said it would resume raising dividends, which it did for a year. And then Dominion announced it was reviewing its business with the intention of overhauling it — again.

Management has repeatedly said the current dividend is safe, but now that the overhaul is complete — resulting in the sale of natural gas utilities, among other things — the company is focusing on reducing debt and improving its payout ratio. In other words, until Dominion’s balance sheet is stronger and its payout ratio is in line with its peers’ payout ratio, there won’t be any dividend increases here.

It could be a few years before the dividend starts growing again, noting that the payout ratio will likely need to fall below 70% before considering a dividend increase. So by buying now, you’ll get a higher yield, but you won’t see any dividend growth. If that trade-off doesn’t suit you, you won’t want to own Dominion Energy until the dividend growth resumes.

All in all, Dominion is a special situation kind of investment. It’s not exactly a turnaround, as the company is actually doing quite well and has an exciting business future. It operates in one of the most in-demand data center locations in the world. But the business overhaul is still a real issue to consider, as it will leave the company trailing its peers in a way that will turn off many dividend-focused investors.

Dominion is for contrarians with long investment horizons

If you’re looking at Dominion because of its above-average dividend yield, make sure you understand what comes along with that yield — specifically, an ongoing overhaul of the business and a lack of dividend growth. This will not be acceptable to many dividend investors, and understandably so.

However, if you think decades from now, Dominion could still be a good option, especially if you’re in a position to reinvest the dividends today. Assuming the company successfully lowers its payout, by the time you want to use the dividend to pay for maintenance expenses, the dividend could rise again. And you’ll have compounded that high return in the meantime, materially growing your stock position.

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Reuben Gregg Brewer has positions in Dominion Energy and Enbridge. The Motley Fool has positions in and recommends Berkshire Hathaway and Enbridge. The Motley Fool recommends Dominion Energy. The Motley Fool has a disclosure policy.

Is Dominion Energy the Best High Yield Dividend Stock for You? was originally published by The Motley Fool