Is Cohort (LON:CHRT) a Sustainable Dividend Play in the Defense Sector?

The defense sector, often seen as a bastion of stability in volatile markets, has long attracted income-focused investors seeking reliable dividends. Cohort PLC (LON:CHRT), a diversified defense and technology group, has maintained a 10% annual dividend increase since its 2006 IPO, a record that appears unbroken even amid recent operational headwinds. Yet, as with any investment, the sustainability of this dividend must be scrutinized through the lens of earnings growth, cash flow dynamics, and sector-specific risks.

Dividend Growth and Historical Commitment

Cohort's 2025 final dividend of 11.05p per share, announced on 21 August, marks a 10% increase from the prior year's 10.10p, while its 2026 interim dividend of 5.80p per share reflects a similar trajectory. This consistency underscores the company's "progressive dividend policy," a cornerstone of its corporate strategy. However, dividend sustainability is not merely about growth but also alignment with earnings and cash flow.

Earnings and Margin Pressures

Despite a 9% year-over-year revenue increase to £128.8 million in H1 2025, driven by EM Solutions becoming the largest profit contributor, Cohort's adjusted operating profit dipped to £9.7 million from £10.1 million in the prior period. This decline, attributed to a "weaker margin mix" in the Sensors and Effectors division-particularly low-margin projects-raises questions about the quality of earnings. A return on equity of 14.91% and net margin of 7.56% in Q3 2025 suggest operational efficiency, but margin compression in key segments could strain future profitability.

Cash Flow and Financial Prudence

Cohort's 2025 operating cash flow of £51.18 million, with a 18.95% margin, and free cash flow (FCF) of £36.81 million provide a buffer for dividend payments. A projected payout ratio of 27%, well below the 50% threshold often cited as a sustainability benchmark, indicates room for flexibility. However, net debt of £32.5 million at the end of Q3 2025, linked to capital expenditures (CAPEX) of £35.59 million for the trailing twelve months, highlights reinvestment in growth. While CAPEX is moderate, the working capital buildup ahead of H2 deliveries suggests short-term cash flow management challenges.

Balancing Growth and Dividend Commitments

The defense sector's long-term demand, driven by geopolitical tensions and modernization programs, offers Cohort a stable backdrop. Its £604.5 million order book, covering 96% of full-year revenue forecasts, further insulates it from near-term volatility. Yet, the company's reliance on margin-sensitive divisions, such as Sensors and Effectors, introduces asymmetry. For instance, a 10% dividend increase in H1 2025 occurred alongside a drop in adjusted operating profit, signaling a trade-off between rewarding shareholders and preserving operational margins.

Conclusion: A Prudent but Cautious Outlook

Cohort's dividend appears sustainable in the near term, supported by a low payout ratio, robust order book, and strong FCF. However, the interplay between margin pressures in key divisions and capital allocation decisions will be critical. Investors should monitor the Sensors and Effectors segment's performance and the company's ability to maintain its 10% annual dividend growth without compromising reinvestment in high-margin projects. For now, Cohort remains a compelling, though not risk-free, dividend play in the defense sector.