Legendary Small-Cap Value Investor’s 3 New Dividend Picks

Published Wed, 23 Oct 2013 09:30 CET by DividendYields.org

Historically, value investing has proven to produce superior returns relative to those of alternative investment approaches. Yet, when it comes to value investing in small-cap stocks, very few fund managers can beat the admirable record of the investment veteran Chuck Royce. With some 51 years of investment experience, Royce has been a pioneer of small-cap investing. His investing approach to quality companies is centered on three things: “a strong balance sheet, a record of success as a business, and the potential for a profitable future”. Royce’s equity investments are carefully selected for a “long-term investment horizon with a focus on reducing volatility”. His investment targets are usually stocks of companies with strong returns on capital that trade at a minimum 30% –and preferably at a 50%– discount to the Fund’s estimate of those companies’ intrinsic values.

Focusing on the recently acquired positions in Royce’s flagship dividend value fund, Royce Dividend Value Fund (RYDVX, RDVIX, RDIIX), here is a closer look at three Royce’s recent small-to-medium cap picks paying attractive dividend yields. The table below presents the main profiles and dividend characteristics of those three stocks. The selected stocks represent quality issues with proven financial strength and fairly strong dividend sustainability.

Legendary Small-Cap Value Investor’s 3 New Dividend Picks
Among the featured dividend-value stocks, Miller Industries (NYSE: MLR), a small-cap manufacturer and seller of vehicle towing and recovery equipment, offers the highest dividend yield, based on regular dividend payouts. However, once special dividends are accounted for, HollyFrontier (NYSE: HFC) pays the most generous yield. The latter company has doubled its regular payout over the past 12 months. What’s more, since mid 2011, it has supplemented its regular quarterly dividends with special dividends that well exceed the regular quarterly dividend payout. On the other hand, Broadridge Financial Solutions (NYSE: BR) shows consistent dividend growth over time, with a record of annual dividend increases for the sixth consecutive year.

HollyFrontier is an independent petroleum refiner that was created on July 1, 2011, through the merger of Holly Corporation with Frontier Oil Corporation. The company has taken a great advantage of its access to inexpensive crude oil supplies, which boosted its margins, thereby allowing for a generous, shareholder-friendly capital allocation policy. HFC has been paying a combination of regular and special dividends since the 2011 merger, returning over $1.7 billion in capital to shareholders. Since the merger, its regular quarterly dividend alone has increased five times, with a cumulative increase of 300%. The company has supplemented regular quarterly payouts with a 50-cent special dividend 10 times since mid 2011. HFC has one of the strongest balance sheets, with relatively low long-term debt and a rich cash position. It has been an industry leader in profitability per barrel of crude capacity and has sported the highest return on invested capital among its peers for the period between 2008 and 2012. While lower margins call into question the long-term sustainability of the special dividend –which, nevertheless, looks secured in the near term– the regular dividend remains well covered. Still, the company continues to emphasize its “continued commitment to returning excess cash to shareholders.” Aside from lush cash payouts, HFC has been repurchasing its stock. It has some $350 million remaining in its stock repurchase authorization.

Broadridge Financial Solutions is the leading provider of investor communications and technology-driven solutions for broker-dealers, banks, mutual funds and corporate issuers globally. The clear testament to its operational capacity is the fact that the company’s infrastructure has “underpinned proxy voting services for over 90% of public companies and mutual funds in North America.” Moreover, each day, Broadridge Financial processes more than $5 trillion worth of fixed income and equity trades. Its investor communication solution segment is responsible for 73% of annual revenues, while its securities processing unit accounts for the remaining 27% of sales. The company’s dividend policy calls for the target payout ratio of 40% of net earnings, with no less than 84 cents per share annually in dividends, subject to quarterly Board approval. BR’s total revenue grew at a 3% clip, annually between fiscal 2008 and 2013; the pace of revenue growth is expected to average between 2% and 5% in fiscal 2014, with recurring revenues, which account for the lion’s share of sales, growing between 5% and 7%. BR expects to continue to see strong free cash flow, which at the mid-point of the expected range in fiscal year 2014 should total $275 million. That would be an increase of about 25% from the prior fiscal year.

Miller Industries operates in a $5-billion-worth industry dominated by small-scale operators. The industry is generally very susceptible to economic cyclicality. The company has a nearly two-thirds stake in the tow truck industry. It does have a relatively sizable exposure to the U.S. government demand, as some 28% of MLR’s last-year sales came from the U.S. government. Its international markets offer a large potential for future growth. The company has a solid balance sheet, with no long-term debt and nearly 20% of its total assets in cash and equivalents. MLR has increased its dividend by 40% since 2010.

In conclusion, value stocks paying attractive dividend yields offer a potential to achieve sizable total returns. The three featured stocks from Chuck Royce’s fund are only a few examples of small-to-medium cap value investments providing meaningful dividend income. These equities can serve as a basis for research of dividend stocks boasting attractive value characteristics.

Small-Cap YTD Total Returns Graph

Stock name Dividend Yield
Hollyfrontier 2.58
Miller Industries 2.22
Broadridge Financial Solutions 1.55

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