In a low-interest rate world in recent years, equity dividends have become much more important to investors, particularly self-managed super funds (SMSFs). Usually, this results in investors swarming into the big four banks, Telstra and big miners BHP and Rio Tinto, with their progressive dividend policies.
More adventurous investors have investigated the hierarchy of prospective equity yields – as in, those implied by expected upcoming dividends – and found that this list can stretch well into double-figure yields. At the top end of the yield lists, however, investors need to understand that the prospective return indicates the prospective risk. Dividend yields move inversely to share prices. For example, on the analysts’ consensus dividend forecasts that were in the market, Dick Smith’s price fall now implies a FY16 dividend yield of 18 per cent. Good luck with that!
Investors looking at equity dividends as a source of income have to remember that dividends come out of company earnings, and are not certain in any financial year. But here is a look at four attractive expected yield scenarios, from companies that go about their business under the radar of most investors, where the stock’s ‘story’ could well match the confidence implied by the forecast yield.
1. ERM Power (EPW, $1.385)
Market capitalisation: $335 million
Total return last 12 months: –33.2 per cent
Analysts’ consensus price target: $2.03
Implied upside: 46.6 per cent
Analysts’ consensus FY17 yield: 8.8 per cent
Electricity generator and retailer ERM Power gave shareholders fairly downbeat guidance for earnings at its October 2015 AGM, but the company committed to “maintain, at a minimum, the current level of dividends”. That means at least 12 cents a share this financial year, and analysts’ consensus agrees with that: the analysts see a modest dividend increase, to 12.2 cents a share, in FY17. At the current share price of $1.385, that puts ERM Power on a prospective FY16 yield of 8.7 per cent, rising to 8.8 per cent for FY17. However, the growing component of earnings from the US could mean the level of franking falls to about two-thirds.
ERM Power operates two low-emission gas‐fired peaking power stations, in Western Australia and Queensland. The company is changing its business to focus on being a specialist electricity retailer to business customers. ERM Power is already Australia’s second-largest electricity retailer in this market, providing energy to one in five government, business and industrial customers in Australia. In 2015 the company entered the US market, which it says is eight to ten times the size of the Australian market. ERM Power sells electricity to more than 20,000 customers, mainly in the Texas market, but it is expanding into targeted business markets in the US northeast.
In December ERM Power gave another pointer to how its business is likely to evolve, with the purchase of local data analytics and energy and resource management software company Greensense. It says Greensense will build on ERM Power’s ability to provide customers with a real-time, in-depth view of their energy and water consumption, and waste consumption, to help it create efficient customer solutions.
2.IMF Bentham (IMF, $1.10)
Market capitalisation: $186 million
Last 12 months: –44.6 per cent
Analysts’ consensus price target: $2.41
Implied upside: 119 per cent
Morgan Stanley estimate: FY17 yield 8.5 per cent
Litigation funder IMF Bentham has a simple business: it funds legal action – focusing on general commercial litigation, insolvency and class actions – in exchange for a share of any judgment or settlement. If the litigant wins, IMF earns a share of the claim, but if a client loses, it does not have to repay IMF. IMF has funded more than 175 cases, and has only lost ten of them. However, four lost cases in FY15 cost it $20 million in profit, reducing net profit by 36 per cent, to $6.3 million – this result bruised investors’ confidence in the stock, and saw the share price fall significantly.
IMF has responded by extending its global expansion into new markets, and by increasing the number and type of cases it funds, while reducing the average investment per case, to reduce the potential for a one-off loss to dent its profit. Recently, for example, IMF has taken on the shareholder and consumer action against Volkswagen Germany. The company has also introduced new products in consumer litigation, family law and the insurance market, as well as extending funding for law firms to investigate class actions – it expects to increase the flow of such cases.
Litigation funding is a difficult business to forecast, but even just holding the FY15 dividend of 10 cents steady over this year would see IMF paying a 9.1 per cent fully franked dividend yield.
3. MG Unit Trust (MGC, $2.37)
Market capitalisation: $991 million
Last 12 months: +12.9 per cent from issue price July 2015
Analysts’ consensus price target: $2.60
Implied upside: +9.7 per cent
Analysts’ consensus FY17 yield: 7.5 per cent fully franked
Australia’s largest dairy exporter, Murray Goulburn, came to the sharemarket in July last year in a $500 million unit trust issue, offering external investors the chance to invest in Murray Goulburn after 65 years as a co-op. MG Unit Trust has been a profitable investment so far, and the company is well positioned to lift its earnings and dividends further.
Murray Goulburn’s annual milk intake of 3.6 billion litres represents 38% of Australia’s milk supply. The company continues to move its sales mix towards more value-added – and thus higher-margin – products such as fresh milk, consumer packaged cheese, dairy beverages and infant nutritional products. Its flagship brand is Devondale.
Murray Goulburn is a play on the huge demand for Australian dairy products in China and the other emerging markets of Asia. Being the fourth largest dairy exporter, Australia is well placed to supply China’s growing demand and the Free Trade Agreement (FTA) with China should improve Australia’s competitive position. The low Australian dollar is also a big benefit. But the company has also invested hugely in efficiency gains and state-of-the-art facilities, which is flowing through to cost savings. In FY16 the company expects value-added goods will make more than 70 per cent of total production, compared to 52 per cent four years ago. This leverage to export growth, higher-margin products and operating efficiencies neutralises much of the agricultural risk for investors.
Analysts’ consensus sees MG Unit Trust paying a dividend of 14.2 cents a unit in FY16, rising to 17.8 cents in FY17. At $2.37, that equates to a prospective FY16 fully franked yield of 6%, and a more alluring 7.5 per cent in FY17.
4. GUD Holdings (GUD, $7.64)
Market capitalisation: $652 million
Last 12 months: +8.7 per cent
Analysts’ consensus price target: $9.56
Implied upside: +25.1 per cent
Analysts’ consensus FY17 yield: 7.3 per cent fully franked
GUD Holdings manages a diversified portfolio of brands, including Sunbeam (consumer products), Oates (cleaning products), Dexion (warehouse shelving), RYCO (automotive parts) and Lock Focus (security). This eclectic collection of brands has been considered relatively unexciting in recent years, but in May last year GUD made an emphatic statement as to where it sees its future, with the acquisition of Brown and Watson International (BWI), the owner of the Narva (automotive lighting) and Projecta (battery power products) brands.
The BWI purchase transformed GUD into primarily an after-market distributor of high-margin vehicle parts and accessories. By the time of the FY16 result, nearly two-thirds of EBIT (earnings before interest and tax) will come from the automotive aftermarket industry. Where GUD had been heavily focused on cost-cutting to generate profit growth in a collection of disparate businesses, the BWI acquisition gives it a clear path to generating more stable earnings growth.
Analysts’ consensus expectations see GUD’s fully franked dividend growing from 42 cents a share in FY15 to 52.6 cents in FY16 and 56.1 cents in FY17. At the current share price of $7.64, that prices GUD on a prospective fully franked yield of 6.9 per cent in FY16, increasing to 7.3 per cent in FY17.
All charts sourced at Yahoo!7 Finance, 25 January 2016
Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.
