FirstGroup (LON:FGP): A Steady Income Play with Strong Dividend Growth and Strategic Momentum

FirstGroup (LON:FGP), a leading UK transport operator with interests in buses, rail, and open-access rail services, is emerging as a compelling income investment. With a 41.9% increase in its proposed final dividend for 2025, robust earnings recovery, and a disciplined capital allocation strategy, the company is positioning itself for sustained shareholder returns. This article explores how FGP's improving fundamentals, strategic initiatives, and balanced risk profile make it a buy for income-focused investors, despite sector-specific challenges.

Dividend Growth: A Solid Foundation for Income Investors

FirstGroup's dividend trajectory is a standout feature. After declaring an interim dividend of £0.017 per share (1.7p) in November 2024, the company proposed a final dividend of £0.048 per share (4.8p) for 2025, marking a 41.9% rise from the prior year's final payout. Combined with the interim dividend, the total annual dividend reaches £0.065 per share, a 17% increase from the 2024 total of £0.055.

The 32% payout ratio (as of June 2025) underscores the dividend's safety. While the interim payout ratio was only ~20.7% of the first-half EPS of £0.082, the full-year payout is well-covered by earnings. This conservative approach allows FGP to balance growth reinvestment with shareholder returns. A 6.4x earnings coverage ratio (dividend per share relative to EPS) further reinforces dividend sustainability.

Balance Sheet Strength: Minimal Debt, Strong Cash Generation

FirstGroup's financial health is another pillar of its income appeal. As of June 2025, the company reported adjusted net debt of just £0.2 million, a stark improvement from its historical leverage. With £487.1 million in cash and short-term investments—far exceeding total debt of £258.6 million—FGP enjoys a robust liquidity buffer.

The interest coverage ratio of 2.7x (EBIT of £157.4 million vs. interest expenses) is modest but manageable, especially as operating cash flow covers debt by 291.6%. While this ratio could strain profitability in a rising rate environment, FGP's low debt levels mitigate this risk.

Strategic Initiatives: Buybacks, Sustainability, and Market Expansion

Beyond dividends, FGP's £50 million share buyback programme (announced in June 2025) reinforces its income proposition. The first tranche of £25 million was executed in late June, reducing shares outstanding and boosting EPS. With ~385,000 shares repurchased, this move signals confidence in the company's valuation and future cash flows.

FGP is also capitalizing on sector tailwinds. Its First Bus division, now 20% electric, benefits from UK government incentives for decarbonization, while rail operations are expanding into open-access services (e.g., Hull Trains and Lumo). A £90 million acquisition of RATP London in 2025 expanded its bus market share to 12% in London, enhancing recurring revenue streams.

Risks and Challenges

Income investors must weigh FGP's positives against sector-specific risks:

1. Contract Stability: Rail franchises operate under government contracts, which could face renegotiation or nationalization under the Great British Railways initiative.
2. Labor Costs: Strikes and industrial action in the transport sector remain a recurring issue, impacting profitability and cash flow.
3. Regulatory Headwinds: Fare controls and subsidies for public transport could compress margins, particularly in rail operations.

Investment Thesis: Buy for Income, Monitor Risks

FirstGroup's combination of dividend growth, balance sheet strength, and strategic investments positions it as a high-conviction income play. Key positives:
- Dividend Yield: With a recent share price of ~£2.25 and a total annual dividend of £0.065, FGP offers a 2.9% yield, attractive for income portfolios.
- Buyback Catalyst: The £50 million buyback programme could lift EPS by ~1%, enhancing shareholder value.
- Sustainability Push: Decarbonization investments align with ESG trends, reducing long-term operational risks.

However, investors should monitor:
- Rail Contract Renewals: Any delays or unfavorable terms could pressure shares.
- Industrial Action: Labor disputes remain a short-term earnings risk.

Conclusion

FirstGroup (LON:FGP) is a well-positioned income stock with a compelling blend of dividend growth, financial resilience, and strategic foresight. While risks like regulatory changes and labor disputes linger, the company's low debt, cash-rich balance sheet, and disciplined capital allocation make it a buy for investors seeking steady returns. As FGP transitions toward zero-emission fleets and expands its transport network, income-focused investors may find this stock a reliable addition to defensive portfolios.

Disclaimer: Always conduct your own research and consider your risk tolerance before making investment decisions.