One dirt-cheap dividend stock I'd buy and one I'd avoid

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Stock market bull and bear

Today I'm looking at two dividend stocks with similar yields and modest valuations. But despite this apparent similarity, there's only one I'd consider buying. Here's why.

Struggling for growth

Insurance firm Just Group (LSE: JUST) is the product of a merger between Partnership Assurance and the Just Retirement group in 2016. Combining these companies was supposed to boost profits by reducing costs.

According to today's third-quarter update, that's exactly what's happened. Cost savings resulting from the merger have now exceeded the group's original £45m target. According to the company, this remains "a key element of delivering a better return on equity".

Just's sales are split roughly equally between de-risking insurance for final salary pension schemes and annuity-type products for individual retirees.

As you'd expect, the group has benefitted from new pension rules allowing individuals to transfer cash out of their final salary schemes. What concerns me is that despite this, growth is pretty much non-existent.

Shrinking not growing?

Today's third-quarter update reveals that total new business sales fell by 6% to £1,631m during the first nine months of this year.

Sales of Guaranteed Income for Life products rose by 1%, while sales of de-risking insurance for final salary pension schemes fell by 2%. Sales of care plans have fallen 33%, suggesting a fundamental shift in the market.

The company doesn't provide much explanation for this, except to say that "our focus on margin rather than volume continues to deliver profit growth." Fair enough, except that most other companies in this sector appear to be delivering a mix of volume and margin growth.

At 153p, Just shares trade around 30% below the firm's embedded value (an industry measure) of 221p per share.  Measured against earnings, the stock trades on a forecast P/E of 12 and has a prospective dividend yield of 2.4%.

Although these figures look cheap, I think the firm's lack of growth makes it risky for shareholders. I feel there are better choices elsewhere.

The 'local' choice

Shares of pub chains have fallen out of favour over the last year. And I'll be honest, things could get worse. But there's a fair amount of bad news already in the price of these stocks and recent trading updates haven't been too bad.

My top choice in this sector is Mitchells & Butlers (LSE: MAB). This FTSE 250 stock recently reported like-for-like sales growth of 1.8% for the 51 weeks to 16 September, with total sales up by 2.9% over the same period.

Given the impact of inflation, this probably means that volumes have been flat or slightly lower over the year. But Mitchell & Butler has a number of attractions which I think could make it a worthwhile investment.

The first is that although the company's dividend yield of 2.9% is relatively low, it should be covered three times by earnings. This reduces the chance of a dividend cut and hopefully lays the foundation for future growth.

My second point is that Mitchells & Butlers is starting to look quite cheap. The stock trades on a forecast P/E of 7.5. And at 258p, the share price is almost 30% below the group's net asset value of 360p per share.

In my view, this stock could soon make sense as a recovery buy. It's on my watch list.

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Roland Head has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. 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.


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