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If I’m looking at an income stock, one of the first things I check is the yield. I doubt I’m alone in that. Yields are calculated by taking the dividend per share and dividing it by the share price. So if a company is forecast to pay a dividend of 5p and the shares cost £1, the yield is 5%.
That’s what a new investor can expect if they buy today, but in practice yields are more interesting (and potentially rewarding). Many companies aim to raise dividends year after year. If the following year the stock pays 5.5p, that’s a 10% increase. If the shares also rise to £1.10, the yield remains 5% for the new buyer.
But the investor who bought in the prior year enjoys a higher income – based on their original stake. In this case, of 5.5%. Reinvesting dividends boosts the total return further, as the shares compound over time.
Brilliant British American Tobacco
One of the most admired dividend growth stocks on the entire FTSE 100 is British American Tobacco (LSE: BATS). In full-year 2000, it paid a total full-year dividend of 29p per share. At the end of that year, the shares traded at around 500p each. So the yield was a pretty decent 5.8%.
Fast forward to 2025, and the forecast dividend per share is 245.1p. That’s an impressive 745% higher than in 2000. Based on the original 500p purchase price, that’s a yield of 49%. This isn’t half bad. Nobody ever really looks at yields this way, but I think it shows the miracle of dividend investing.
Of course, our long-term investor would have plenty of share price growth as well. Today, the British American Tobacco share price is 4,160p. So that’s price growth of 732%. Sadly, I’m unable to calculate the total return if an investor had reinvested every dividend, although I’m guessing it would be well above 2,000%.
Compounding dividend income
These are slightly silly calculations, and they probably wouldn’t even grace the back of a fag packet. I fiddled the results by choosing British American Tobacco, which has raised dividends every year this century, except 2017, when the growth rate couldn’t be calculated due to a change in payment frequency. Can this continue?
Nobody can say for sure. British American Tobacco faces plenty of challenges, including regulatory pressure, public health concerns and constantly changing consumer habits.
Yet the shares don’t look too expensive with a price-to-earnings ratio of 11.4, while the trailing yield is 5.66%. Those looking to generate both income and share price growth from an established UK blue-chip with global reach might consider buying. They should only do so with a long-term view though, because that’s when the real returns will be made.
FTSE 100 winners
Long-term dividend investing can produce remarkable results. The combination of reinvested income and share price appreciation turns a respectable yield into a life-changing one over decades. Investors need to diversify with a minimum of a dozen stocks, ideally a few more. Then be patient, and give their dividend and shares the time they need to roll up. If British American Tobacco doesn’t appeal, there are plenty more brilliant FTSE 100 dividend stocks out there today.
