When getting into the world of investing, individuals will often have different goals and objectives. One of the most common is a desire to achieve consistent passive income. Finding a company that can provide a stable dividend year after year is an essential part of achieving this goal. Unfortunately, it’s often easier said than done.
What I’m looking for
Just picking shares with the highest dividend yields in the index, and then holding for years at a time, isn’t always a foolproof strategy. There are times when a company may begin to see falls in its share price due to its underlying business performance. Consequently, an investor could find themselves in a situation where all passive income is offset by capital losses on the investment.
For this reason, when looking for two shares to generate passive monthly income, I’ve aimed to look at a multitude of factors, not just yield. My primary focus is on finding simple yet high-quality companies. I often think of a high-quality company as one that has steady earnings growth. It will also generate significant free cash flow, and have low levels of debt. These may not be the most active investments and are unlikely to generate huge share price gains. But this approach is often the best way to generate passive income.
A prime example of what I’m looking for is Sage Group (LSE: SGE). A UK-based provider of accounting and enterprise resource planning (ERP) software, it operates predominantly in the UK, US and Europe, and has been active for almost 40 years.
It would be fair to say the company has had a fairly volatile few years. After falling over 22% in 2020, it then experienced a considerable rebound of 46.5%. Subsequently though it has given much of these gains back by falling almost 18% in 2022. Consequently, the company is down 11.8% from pre-pandemic levels.
Strong underlying fundamentals
When looking at Sage Group from an income perspective, it’s encouraging to see that the company has paid a dividend for 30 years. It has also grown that yield for the last 21 years. It currently offers a dividend of 2.5%, which is below the index average of 3.8. So even though it’s not the highest yield, it’s still a fair return if delivered consistently.
And its underlying fundamentals are strong. The firm has significant cash flow generation and a good level of earnings efficiency on invested capital. It has also had a profit margin averaging 21.8% over the last three years.
A high valued share
However, it’s important to note that it’s trading at a price-to-earnings ratio of over 30. This is despite the share price falling almost 18% this year. This is very high in the current market. It could indicate that the company is potentially overvalued, regardless of its strong underlying fundamentals. Furthermore, the current dividend yield isn’t as high as most typical income shares, and this could become an issue if this level is reduced in the future.
Nonetheless, I believe Sage Group presents a unique opportunity to access a consistent dividend yield in a company with strong underlying fundamentals. I’m tempted to add it to the income section of my portfolio over the coming weeks for monthly passive income.
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Gabriel McKeown has no position in any of the shares mentioned. The Motley Fool UK has recommended Sage Group. 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.