The next dividend dazzlers

Here's the stocks with capacity to boost dividend payouts in the months ahead ... and to find new support from the sharemarket in the process.

The hunt for yield will be a key preoccupation for investors over the next 12 months, but the game is changing from right under our feet.

While investors have been obsessed with stocks producing the fattest yields over the past year, I believe the focus will shift to “dividend growth” from “absolute dividend” in the coming months.

This means high-yielding stocks like Telstra and the big four banks are likely to play second fiddle to companies that are best placed to lift their dividend payments over the next few years as the latter group is primed to make further strong gains, particularly those at the smaller end of the market.

Growth investors (which include the majority of small cap investors) should stop sneering. This isn’t another story pandering to income chasers. If anything, growth investors should keep a keen eye out for companies lifting their dividends as dividend growth is a far more reliable indicator of a stock’s future performance than profit growth.

Eureka Report has compiled data from the 1,970 companies listed on the stock exchange and found that seven-in-10 companies that have lifted dividends consistently over the past three years have outperformed the All Ordinaries Index, with a stunning median return of 70.2% versus the 27.3% from the market benchmark.

What’s more interesting is that many of these companies did not fit into what many would consider “high-yielding stocks”.

In contrast, fewer than 40% of stocks that have generated consecutive earnings per share growth over the last three years have kept up with the gains on the broader market.

What’s more, it is a lot harder to find companies that can consistently lift dividend payments than those that can grow profits. Of the close to 2,000 listed companies on the ASX, fewer than 100 have lifted dividend payments every year since 2009-10, while 226 companies have generated consistent earnings growth over the period.

There are a few reasons for this. The fact that there are far more listed small companies that have yet to transition their businesses to a point where they are able to pay a dividend is one.

But the key reason, in my opinion, is because it is a much harder task to grow dividends than profits.

I am not saying growing profits is easy, but any decent small cap manager should be able to lift their profit from a relatively low base. On the other hand, paying a maiden dividend or increasing the payment is a lot riskier as managers are effectively issuing an implicit guarantee that they will at least maintain the payout, if not lift it, in the years to come.

Shareholders may be able to understand or forgive a miss in earnings during difficult times, but cutting dividends is seen as a cardinal sin. This is why managers deliberate at length before changing the company’s dividend policy, and they will only do it if they have confidence in their future.

This doesn’t mean managers will not artificially bolster their dividend to give their stock a temporary shot in the arm, but such cases are rare due to the risk of losing credibility in the market. This is why it is far more common to see companies massaging their profit numbers instead.

I believe most company boards are actively examining ways to increase dividends this August, particularly if they worry that their earnings will disappoint, because lifting dividends is the cheapest, if not easiest, way to support their share prices.

However, I am not expecting a wave of companies to lift dividends when they hand in their earnings report cards this month. What I do believe though is that companies with the ability to pay higher dividends will probably do so unless they are planning to make acquisitions – and I don’t think many will launch takeovers given the lack of confidence and risks involved.

Those that have already gone down this route have been rewarded. Packaging company Colorpak (CKL) rallied to a fresh record high of 85 cents when it raised its dividend by 7.7% to 3.5 cents, while debt purchase and collection agency Credit Corp Group (CCP) jumped over 1% to $9.60 in two days when it increased its payout by 28% to 37 cents a share. Both stocks are in the Uncapped 100.

I believe that companies well placed to deliver dividend growth are likely to enjoy a price-earnings (P/E) expansion, which means the market is willing to chase such stocks even if their P/Es are moving into what is considered “expensive territory”.

Over in large cap land, Resmed is a notable example. The stock surged to a record high of $5.45 on Friday thanks in part to its decision to pay a record quarterly dividend of US25 cents, up from US17 cents a share.

There is also an air of expectation around mining giants BHP Billiton (BHP) and Rio Tinto (RIO). Their cut back on capital expenditure in the face of volatile commodity prices means that they have the ability to increase dividends. If they don’t, things are likely to get ugly.

I think there is a similar expectation that is priced into the share price of Commonwealth Bank of Australia (CBA).

The only question left for small cap investors is how to pick the dividend dazzlers. Interestingly, consensus forecast is predicting that close to 40% of emerging companies on the Uncapped 100 will increase their dividend this month.

However, if I screened the stocks to find those in the strongest position to keep growing their dividends, the list would drop by more than half.

The stocks that are left are highlighted in the table below. These companies have a low payout ratio (the amount of dividends paid compared with profits booked) of 70% or less, are forecast to grow profits this year, and generate more cash than required to run their business and pay dividends.

While the list won’t bring much joy to the value investor as the stocks have all rallied sharply over the past year, a few of these stocks could be re-rating (P/E expansion) candidates.

Collins Foods (CKF) is one possible candidate, although just about all brokers covering the stock are rating it a “hold” as it is trading on a 2013-14 P/E of a little over nine times – which is in line with its five-year average.

The restaurant operator is struggling to turn around its struggling Sizzler restaurants, which account for around a quarter of total sales, with the balance coming from its Kentucky Fried Chicken fast food chain.

If management can convince investors that Sizzler is turning a corner in the current financial, it could justify a re-rating to around 12 to 14 times. This implies at least a 33% uplift to its share price, and even then, the stock would still be trading at a discount to its peers.

I recommend investors buy the stock in anticipation of the re-rating as its balance sheet can sustain further increases to dividends over the next three years, with analysts expecting dividends to rise to 12c a share by 2015-16 from 9.5c a share currently. The company’s financial year ends in April and it will release its half-year result on November 28.

Another Uncapped 100 stock that has the financial muscle to keep ramping up dividends over the next few years is engineering contractor LogiCamms.

The company is tipped to increase its full-year dividend by 1 cent to 9.5 cents for 2012-13 and that would put the stock on a gross-up yield of around 9%.

While LogiCamms is not immune to the slowdown in project spending, the recent acquisition of Independent Technology Holdings and its diversified customer base across mining, oil and gas, and infrastructure has given the company enough confidence to forecast “solid earnings growth” for 2012-13.

Even if LogiCamms’ earnings come in flat, its balance sheet is strong enough to support an increase in dividends given that the business is highly cash flow generative and its payout ratio is a modest 54%.

Think big, go smalls!


Brendon Lau does not hold shares in CKF or LCM.

Uncapped 100 - Australia's most interesting small cap stocks

Small cap stocks covered by the Uncapped team
CodeNameRationaleMarket cap ($m)Total return 1-year (%)Sector (GICS)
MTU M2 Telecommunications Group Amazing growth story and well run company. High free float and strong insto support.1,157.5698.56Telecommunication Services
BRG Breville Group Well covered but good candidate for core holding due to good track record.978.3257.68Consumer Discretionary
NHF NIB Holdings /AustraliaOnly listed health insurer. Widely held. Good performer.948.2538.37Financials
ARP ARB Corp Well covered but good candidate for core holding due to quality management.940.8136.66Consumer Discretionary
MRM Mermaid Marine Australia Its strategically located facility on WA coast gives it a key advantage over competition in servicing Gorgon & Pluto projects.850.8642.14Industrials
GEM G8 Education Only listed childcare operator. Acquisition strategy paying off with stock delivering solid gains.734.88186.51Consumer Discretionary
SRX Sirtex Medical A shining star in the biotech space and one of the best performing stocks in 2012. Great product (liver cancer treatment) and bright outlook.694.8370.28Health Care
MMS McMillan Shakespeare One of the best performers since the GFC, but change to FBT rules is threatening growth.681.15-18.82Industrials
AAD Ardent Leisure GroupWidely held stock. Earnings more defensive than anticipated. Good yield. Potential core holding.677.2641.27Consumer Discretionary
SGN STW Communications Group One of few companies able to benefit from online shift. Widely held and good insto support.644.1156.05Consumer Discretionary
AUB Austbrokers Holdings The insurance broker is a strong performer. Widely held and well liked by small cap investors.636.1556.61Financials
ACR Acrux One of the most successful Australian biotechs in recent history. Widely held by instos.547.86-12.16Health Care
RFG Retail Food Group Owns a number of well know franchise brands. Widely followed by instos.544.6671.4Consumer Discretionary
CCV Cash Converters International Strong performance is attracting investors. It's Australia's only listed pawn shop and pay day lender.527.7179.66Consumer Discretionary
BDR Beadell Resources Will be a very big FY14 for miner as it has to prove it aims to produce 200,000 ounces of gold a year.516.32-5.07Materials
SLX Silex Systems Its uranium enrichment technology could become one of Australia's best innovations given its potential to change the nuclear power industry.509.04-25.62Information Technology
BRU Buru Energy Substantial size but not often covered by press. Widely held with good insto support.506.97-42.01Energy
NXT NEXTDC The cloud computing company is an IT sector darling. Fairly widely held and followed.478.5837.06Telecommunication Services
SEA Sundance Energy Australia Analysts have a favorable take on the oil & gas explorer, but stock is still under radar of most. Sundance provides exposure to prospective Eagle Ford shale.462.61143.9Energy
HZN Horizon Oil One of better regarded small energy stocks that doesn't receive much media attention.444.3824Energy
CCP Credit Corp Group Strong price run attracted good investor interest. Leveraged to any rise in loan defaults. Not well covered by press.443.2561.71Industrials
AMM Amcom Telecommunications Well covered junior telco but good candidate for core holding.438.9857.47Telecommunication Services
CWP Cedar Woods Properties Property developer with good ROE and earnings growth track record.431.3563.86Financials
TOX Tox Free Solutions Widely held stock in the waste solutions business. Its unique because it operates in a defensive-growth niche.425.3927.76Industrials
BGA Bega Cheese Corporate interest in Australian food companies makes the cheese maker worth following.417.6375.58Consumer Staples
MYS MyState Well regarded and could make good alternative to bank stocks. Has good yield and earnings growth over past few years.399.1648.43Financials
FGE Forge Group One of the better performers in its industry. Good track record and potential core holding.386.046.98Industrials
UXC UXC Company has turned corner and enjoyed re-rating. What's next?347.5290.32Information Technology
UNS Unilife CorpThe developer of one-use prefilled syringes is close to an inflection point as the market is expecting the company to announce a major contract with a pharmaceutical giant in the coming weeks.328.8717.35Health Care
MYX Mayne Pharma Group Sizeable generic drug maker with interesting board members.325.4106.25Health Care
RKN Reckon Fierce competition for cloud base accounting software puts it in firing line.323.7218.55Information Technology
RCR RCR Tomlinson Good first half FY13 result and outlook, but will its fortunes change this year with the mining capex slowdown?318.556.41Industrials
TGA Thorn Group One of few retail stocks that is performing well. The Radio Rentals chain owner is also well supported by instos.309.7134.14Consumer Discretionary
MOC Mortgage Choice Has a good track record and is leveraged to any housing recovery. The stock is also liquid with good insto support.304.8882.75Financials
NWH NRW Holdings One of the better regarded mining & civil contractors with good track record in delivering on projects.283.77-58.47Industrials
SPL Starpharma Holdings Noteworthy for its good pipeline of innovations. Well run, widely followed.273.93-34.58Health Care
RIC Ridley Corp High corporate interest in the sector and the shrinking pool of agri listed stocks make Ridley worth following.263.18-11.55Consumer Staples
AEU Australian Education TrustWell performing childcare centre property owner. Good yield story and outlook. 261.4448.38Financials
SIV Silver Chef Strong jump in the share price of the equipment financing group has attracted a good following.244.2153.7Industrials
MXI MaxiTRANS Industries Transport equipment maker posted good interim result. Has appealing yield and growth.241.03113.89Industrials
GID GI Dynamics IncLargely forgotten by investors but could attract attention this year as it looks to gain US approval to use its intestinal shealth on diabetics.240.96-22.47Health Care
BNO Bionomics One of the larger cancer treatment developers in this market.238.44133.36Health Care
IMF IMF Australia Litigation funder is unique stock. Stock not liquid but its outlook appears promising given the number of potential class action lawsuits.237.7930.93Financials
AJA Astro Japan Property GroupStrong leverage to Japanese economy makes this an interesting stock to watch.227.8526.06Financials
SHV Select Harvests Noteworthy for turbulent past and exposure to soft commodity market.218.36206.1Consumer Staples
CLH Collection House In similar space as Credit Corp. Strong stock performance has attracted a following and the stock appears to be well placed to run further211.25116.85Industrials
DWS DWS Will be a big beneficiary if governments start spending on IT again.209.139.11Information Technology
GXL Greencross Acquisitive vetinary group. Good profit growth and share price performance, but gets little press.203.45142.34Health Care
PFL Patties Foods Illiquid stock but has suite of well recognised consumer brands. Defensive yield.196.78-4.5Consumer Staples
NAN Nanosonics A successful medical tech story. Should be close to turning in maiden profit with its disinfection device.192.5650Health Care
NWT Newsat Potential large cap if it can launch its own satellite in 2015.190.2-29.5Telecommunication Services
IPP iProperty Group Worth watching as it is trying to be the REA Group of Asia.188.4511.83Information Technology
DTL Data#3 Well respected IT company that receives little press coverage.185.925.61Information Technology
IFM Infomedia Interesting tech play in the car parts market. Strong share price gain but gets little air play.185.5210.41Information Technology
WBB Wide Bay Australia The building society is trying to turn its fortunes around. Also worth watching for its exposure to Queensland housing market, particularly around major resource projects.183.-22.5Financials
GXY Galaxy Resources Good upside potential if it can get its problem-prone Jiangsu plant back on track. Won't be easy to right this ship.177.43n.a.Materials
SFH Specialty Fashion Group In early stages of turnaround. Can the women's apparel retailer sustain the momentum?170.1386.18Consumer Discretionary
HSN Hansen Technologies Operates in a high potential/growth industry but is not covered by press or brokers.168.18.45Information Technology
CKF Collins Foods One of the few food franchise listed companies.165.0761.72Consumer Discretionary
IMD Imdex Drilling company is well supported by instos and should benefit from any rebound in exploration activity.164.17-48.22Materials
VOC Vocus Communications Telecom stocks are in favour but Vocus is one of the least covered162.5923.49Telecommunication Services
MLB Melbourne IT A perennial underperformer could be interesting turnaround story as management is in midst of restructuring the business.152.1720.8Information Technology
TGS Tiger Resources Future lies in its Kipoi copper mine expansion in the Congo but miner is fully funded with DRC govt holding 40% stake in tenement. Next 12mths will be interesting.145.08-23.21Materials
RCG RCG Corp The footwear retailer is one of the best performing consumer stocks as online competition is not a big threat. Company has a good yield as well.140.8661.18Consumer Discretionary
TFC TFS Corp The sandalwood products company offers exposure to both the agri and cosmetics industry. It will start commercial harvest this year.132.827.95Materials
MCP McPherson's The personal care and household products supplier had been relatively insulated from volatile discretionary spend and online threat, but its latest profit warning shows it's not immune.130.37-13.6Consumer Discretionary
REX Regional Express Holdings Well run airline that is overshadowed by Virgin and Qantas.129.919.97Industrials
UBI Universal Biosensors IncWell regarded biotech and one of few that's successfully manufacturing in Australia. Struck deal with a few global medical companies.122.316.67Health Care
AZZ Antares Energy Liquid with good insto support. Already in production with exploration upside in Texas.118.5814.81Energy
NEA Nearmap A stellar performer with an Interesting business that offers high quality ariel maps to companies & government.114.681045.16Information Technology
ESV Eservglobal Mobile money transfer company that has been gaining traction. Widely held by instos but low press coverage114.56148.65Information Technology
ACL Alchemia /AustraliaOne of the few biotechs with revenue stream. Good pipeline of oncology treatments.108.55-33Health Care
BGL BigAir Group The wireless microcap has gained strong following over past year or two but is often overlooked by investors and the press.108.2277.59Telecommunication Services
POH Phosphagenics Sizable biotech with a game changing FY14 year ahead. Good insto following but questions of poor audit and governance standard could dog company.107.15-27.59Health Care
LCM LogiCamms Strong price performance and reasonable valuation attracting interest.104.6347.09Industrials
AMA AMA Group Good turnaround story but under the automotive services group is radar of most.101.09117.79Consumer Discretionary
CLV Clover Corp One of the star performers in 2012. Operates in growing but relatively stable niche.94.1536.45Health Care
SAR Saracen Mineral Holdings Emerging gold producer that is widely held by instos. Hitting milestones and looks cheap. Key asset is close to gold majors, which makes it a potential takeover target.92.27-62.2Materials
JIN Jumbo Interactive Innovative small cap facing off industry dominated by giants. Worth watching to see if it can carve out a profitable global business.87.5469.48Consumer Discretionary
DRM Doray Minerals Widely held by instos. One of the more favored gold explorers by brokers.83.7-22.05Materials
PEN Peninsula Energy Widely held by instos and large free float. It's the only uranium miner on the list.82.88-12.5Materials
WDS WDS Widely held with strong insto support. Engineering contractor diversified across mining, energy and infrastructure.75.278.79Industrials
RUL RungePincockMinarco IT company to resource industry. Facing tough operating climate with new CEO trying to restructure and turnaround company.73.547.23Industrials
AOH Altona Mining Noteworthy copper play with Xstrata pullout of Roseby project in Australia and the good ramp up of its Finnish project.71.41-50Materials
CKL Colorpak The small cap packaging company has grown via acquisitions over past few years.69.3166.66Materials
BOL Boom Logistics Crane hire group is riding out the downturn in construction.  It's widely held by instos and is very liquid.68.24-42Industrials
TAN  Tandou The only direct equity exposure to cotton prices. Also trades water rights and receives little press.67.2934.08Consumer Staples
CAA Capral An aluminium manufacturer that is actually holding up relatively well given that manufacturing is on the nose. 63.1614.29Materials
CUV Clinuvel Pharmaceuticals Interesting skin disorder treatment developer that has done reasonably well over past year63.062.48Health Care
TSM ThinkSmart Potential turnaround story worth keeping eye on.55.1878.95Financials
LGD Legend Corp Electronic parts supplier to utilities and other industries. Stable earnings with good yield. Often overlooked.53.78-15.57Information Technology
KOV Korvest The construction products and services supplier has been hit by project delays and deferrals. But its relatively high yield could give it some support.52.899.47Industrials
UML Unity Mining Growing Tassie gold producer with high free float. Valuation looks compelling too.50.54-31.43Materials
YTC YTC Resources Next 12-mths will be eventful after YTC secured funding for its projects from Glencore.49.91-15.56Materials
ISS ISS Group Good turnaround story from 2012 but the resource industry software developer under the radar of most. ISS has received a takeover offer after its inclusion in the Uncapped 100.44.2571.56Information Technology
OTH Onthehouse Holdings Alternative small cap to online property leader REA Group. It is trying to use more timely housing data as a compeitive edge against REA.40.6820.33Consumer Discretionary
NTC NetComm Wireless Under appreciated small IT hardware maker that is punching above its weight. Hardly covered by press.28.27100Information Technology
EBT eBet Potential alternative to star performer Ainsworth Tech. Has exclusive deal with US poker machine maker WMS.27.74146.26Consumer Discretionary
MBO Mobilarm Unique product that could change global maritime safety practices with its man-overboard location beacon.17.97100Information Technology
PGC Paragon Care Emerging hospital equipment supplier that has been ignored by market.14.5159.52Health Care
Source: Eureka Report, Bloomberg

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