Image source: Getty Images
Dividend shares have long been a favourite way for investors to build wealth and target passive income. The real magic, in my opinion, comes from reinvesting those payouts. Over time, compounding does the heavy lifting.
To illustrate, let’s consider a scenario. My two stocks below provide an average yield of 8%. Let’s say an investor starts with £10,000 and commits an extra £200 a month for 20 years. With dividends reinvested, that portfolio could swell to around £165,000. By then, it would generate more than £12,000 annually – or roughly £1,000 a month in passive income.
Of course, no investor should pin hopes on just one or two stocks. A balanced portfolio of at least 10 dividend shares is far wiser. But as an example of what’s out there, I’ve picked two very different companies to weigh up.
RWS Holdings
RWS Holdings (LSE: RWS) specialises in content translation and localisation, and has recently adopted artificial intelligence (AI) technology through its acquisition of Papercup’s intellectual property. It’s been a highly dependable dividend payer, growing its distribution every year for over two decades. Right now, it sports a chunky 14% yield, which is bound to catch the eye of income hunters.
On the valuation front, the shares trade on a forward price-to-earnings (P/E) ratio of just 7, making them look cheap compared to the broader market. The business also has a relatively healthy balance sheet, with minimal debt of £120m and free cash flow of £69.7m to support its commitments.
However, there are risks investors should consider. The payout ratio currently sits at a hefty 182%, which raises questions over sustainability. Even with strong cash flow, paying out more than is earned isn’t something a company can maintain indefinitely.
Add to that the fact its share price has dropped around 80% since Covid-era highs, and it’s clear confidence has been shaken. If its AI adoption doesn’t translate into improved sales and margins, a dividend cut’s a real possibility.
Still, for those interested in high-yield dividend stocks, I think RWS is an intriguing option worth checking out.
Bunzl
At the other end of the spectrum is Bunzl (LSE: BNZL), a FTSE 100 distribution and outsourcing giant to look at. Its yield of 3% may not sound inspiring compared to RWS, but the reliability is hard to ignore. The company sells essential products that remain in demand even during economic downturns, making it a defensive pick to think about.
Bunzl has an impressive track record too, with more than two decades of uninterrupted dividend growth and a payout ratio of around 50%. That’s far more sustainable than many high-yield alternatives. Its share price suffered earlier this year after weaker-than-expected results, but long-term performance tells a different story — the shares quadrupled in value between 2010 and 2020.
The risks here are more measured. Its North American division has underperformed, and rising inflation could pressure margins further. Still, I think Bunzl offers the kind of consistency investors should think about including in an income portfolio.
Dividend investing isn’t about chasing the highest yield, it’s about finding a mix of reliable payers and carefully weighing up riskier opportunities.
For me, RWS and Bunzl highlight how contrasting dividend shares can complement one another – and show the different paths an investor might take on the road to £1,000 a month passive income.
