Five clear winners from the dollar's plunge

The timing couldn’t be more fortuitous.

Just as the Australian equity market looked to be straining to gain further altitude, the currency finally has succumbed to gravity and begun a descent towards a more stable orbit.

If sustained, this could be a major turning point for the economy and for many of the industries that for the past three years have laboured under the weight of a currency that has slowly squeezed the life out of them and rendered them uncompetitive.

For investors, the currency shift, coinciding with yet another cut in interest rates, will have a major impact on portfolio allocation and provide a wealth of opportunities to capitalise on the revival of a large sector of the economy and the stockmarket.

In particular, it is likely to lift a variety of cyclical stocks that have been shunned by yield-obsessed investors – domestic and global – who until now focussed almost exclusively on defensives.

In the five years since the onset of the worst financial crisis of the modern capitalist age, almost every Australian corporation has reduced debt to levels that just a decade ago would have characterised them as having “lazy” balance sheets.

While defensive high-yielding stocks such as the banks, property trusts and Telstra have attracted swarms of investors from around the globe, the cyclicals have hoarded cash, slashed costs and eschewed debt as they battened down the hatches in a high-currency environment.

In the hunt for yield, they’ve been trampled underfoot.

The defensives, meanwhile, in order to maintain their popularity and stock price momentum, have lifted payout ratios to historically high levels.  It is a trend to which even the resource giants have succumbed as they now discard major new initiatives and offload assets.

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On each occasion, with the banks and Woodside the most recent examples, companies that have returned capital to investors have been rewarded with significant share price rises.

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A number of cyclicals in a variety of industries now have the capacity to begin lifting payout ratios or, at the very least, return capital to investors through special dividends or other capital management initiatives.

And if the dollar decline and the interest rate cuts lift the competitiveness of the domestic economy, the long awaited earnings spurt may begin to flow through within the next financial year.

Recent analysis from Macquarie lists a range of larger companies with the capacity to lift dividends in the upcoming earnings season.

They include CSL, Woolworths, News, Flight Centre, Platinum Asset Management, Seek, Santos, TPG Telecom, Asciano and Aurizon.

Following is a selection of smaller companies with the potential to lift their payout ratios or deliver one-off returns to shareholders along with a couple of high-yielding operations that usually don’t hit the radar screens.

1. Breville Group

Breville Group’s shares tanked after releasing its half-year earnings, despite a modest lift in profit and a higher dividend.

Management spooked investors with a statement that indicated it expected tough trading conditions to continue into the second half, amid concerns about its commission income on the Keurig brand in Canada.  Its stock price has since recovered strongly, however, up about 23% since the result.

Although paying a modest yield of just 3.6% on this year’s forecast earnings, the company will have a net cash position of about $60 million at the end of this financial year, rising to $70 million next year.

That should give the board scope to lift its payout ratio beyond the current 70% or perhaps deliver a special dividend, given its limited franking credit position.

The company has plans to expand into the UK, among other international expansion plans, and so will endeavour to maintain a strong balance sheet during this period.

2. Clough

The Perth-based engineering group’s share price has lagged the general market rise of the past few months, perhaps because of its association with the resources sector and the slowdown in new investment projects.

But it should have more than $370 million in net cash on the books by the end of next month which, when combined with a low payout ratio of a whisker under 40%, gives it ample scope to return capital to shareholders.

Clough has stated that it will use its cash either for acquisitions or capital management, and given it will have the capacity to frank dividends from July 1, this alone will make its currently modest 3.7% yield more attractive.

3. ARB Corporation

After a hefty correction at the beginning of May, ARB shares have recovered all their lost ground.

The four-wheel drive accessories group recently opened a new manufacturing and warehouse facility in Thailand, its second in the country, which is expected to be fully operational in the new financial year.

Despite the expansion, it is estimated the group will have close to $40 million in net cash when the books are ruled off at the end of June.

While its products are mostly distributed in Australia, it has a growing international presence with an export network that extends through 100 countries.

Although currently yielding just 2.4%, the company has a history of delivering special dividends to shareholders, the most recent of which was in 2009.

Franking credits are building again, and Macquarie, which has an outperform rating on the company, expects another special dividend soon.

4. Prime Media

With a 7.6% fully franked dividend yield, rising to 7.9% on next year’s forecast earnings, it is a little difficult to ignore this regional broadcaster.

Given its already elevated yield, there is limited scope for a payout lift but it has been included here simply because it illustrates that attractive yield still is available.

The key question is sustainability. While debt levels are above average at double earnings before interest, tax, depreciation and amortisation, Prime has demonstrated an ability to outperform its peers when it comes to revenue share.

It also has a tight control over costs. The Seven Network affiliate operates across regional Australia and New Zealand and operates a radio network in Queensland with 10 stations.

5. IOOF

Financial services group IOOF is another that falls into the already attractive yield category. With a 5.3% fully franked yield on this year’s earnings, rising to 5.4% on next year’s estimates, the company has the benefit of an exceptionally strong balance sheet.

Historically, its payout ratio has been around 90%. But this year it is estimated to be paying around 80%.

Like many in the financial services industry, its stock has been bid higher this year and now is priced at around 15 times this year’s earnings.

Its exposure to equity markets has been the major driver of its earnings and dividend growth in the past 12 months.  Should equity markets encounter the kind of turbulence we’ve experienced in recent years, IOOF would be exposed.

But the more benign conditions, and the prospect that a weaker dollar could propel the Australian market higher, could give the company a lift.

Conclusion

If recent global history is any guide, the shift to a lower currency regime can have a sustained and substantial impact on company earnings and equity prices.

The US economy, despite limping along for the past four years, has played host to a Wall Street bull market that has soared to new records in recent months.

A similar situation is playing out in Japan at the moment.

Should the Australian dollar settle in the US90c to US95c region in coming months, industrials that have steeled themselves against a currency at well above parity will reap the benefits of a conservative approach to debt and tight cost controls.