When it comes to dividends, large-cap stocks get a lot of the attention. These larger companies usually have plenty of free cash at their disposal—and cash that can be returned to shareholders. Mid-cap stocks, in contrast, often get overlooked.
But investors might be missing out. Pankaj Patel, a managing partner at Cirrus Research, says companies with sustainable and growing dividends “outperform their respective size benchmarks” across various market-cap categories, including mid-cap.
The firm’s mid-cap sustainable dividend-growth portfolio has a 10-year annual return of 17.6%, 2.2 percentage points above the Russell Midcap Index (.RMCC).
The portfolio looks for companies with high yields, low payout ratios, and high dividend growth. It is heavily weighted to financials, which account for 46% of the portfolio, followed by materials (17%) and energy (10%). Its holdings include M&T Bank (MTB), Synchrony Financial (SYF), and Lam Research (LRCX). As that portfolio shows, plenty of mid-cap companies offer dividends.
In the S&P MidCap 400 (.MGD), 275 companies, or nearly 70%, pay a dividend. The average yield in that benchmark is 1.78%. That is a little below the S&P 500’s (.SPX) average of about 2%, but still higher than the 1.51% average for small-cap names.
For this column, Barron’s looked for a handful of mid-cap companies that have yields of at least 2% and that grew their free cash flow in 2018 from the previous year. Five are highlighted in the accompanying table.
A good definition of free cash is operating cash flow minus capital expenditures. A barometer of a company’s financial health, free cash can be used to pay down debt, make acquisitions, repurchase shares, or fund dividends.
As for dividend safety, all five companies have a rating of at least 3 from Reality Shares, an index provider. (Under the firm’s rating system, which looks at dividend strength and the ability to raise payouts, 1 is the worst and 5 is the best.)
Sabre (SABR), known for its airline reservations software, sports the highest yield on the list, at 2.7%. The company targets clients in other parts of the travel industry as well, including hotels.
Even though Sabre faces competition from various websites catering to travelers who make direct bookings, it enjoys a strong position. After the company released its fourth-quarter and 2018 results, Dan Wasiolek of Morningstar noted that he expects Sabre’s “booking share among the top three operators to slightly increase over the next five years.”
Its consensus 2019 earnings estimate is $1.07 a share, down from $1.54 last year, according to FactSet. During its February earnings conference call, CEO Sean E. Menke said he expected free cash flow to increase by 10% in 2019, to about $485 million. The company has paid a quarterly dividend of 14 cents a share for about two years.
Shares of ManpowerGroup (MAN), which handles temporary staffing, were recently yielding 2.4%, the second highest on the list. The stock has struggled, with a one-year return of minus 28%. Like Sabre, it faces plenty of online competitors.
But on the plus side for dividend investors, the company’s free cash flow totaled $418 million in 2018, up from about $346 million the previous year. Last May, ManpowerGroup declared a semiannual dividend of $1.01 a share, up 8.6% from 93 cents.
Webster Financial (WBS), the only bank included in the table, yields 2%. Its stock has a one-year return of minus 1.4%, a reflection of the tough environment for banks amid concerns about an economic slowdown. Still, the company, based in Waterbury, Conn., is expected to earn $4.17 a share this year, up from $3.70 in 2018.
Webster pays a quarterly dividend of 33 cents a share. The payout was raised more than 25% about a year ago.
Another financial firm that isn’t on Barron’s list, but has an attractive yield and growing free cash, is First American Financial (FAF). Its businesses include title insurance, a key underpinning of real estate transactions.
“Improvements in technology allow title insurance companies like First American Financial to check on titles much more efficiently than they used to,” says Charlie Bobrinskoy, head of the investment group at Ariel Investments. The stock yields 3.5% and trades at about 10 times 2019 profit estimates, says Bobrinskoy, whose firm holds shares in its mid-cap-focused Ariel Appreciation fund (CAAPX).
First American’s operating cash flow was $793.2 million last year, a 25% increase from 2017’s levels. Last August, the company announced a quarterly dividend increase of 10.5% to 42 cents a share, from 38 cents. Its one-year return is around minus 17%, in part reflecting concerns about the strength of the U.S. housing market.
Two other mid-cap stocks offering decent yield are National Instruments (NATI) and j2 Global (JCOM), both tech outfits.
National Instruments stock, which yields 2.2%, has a one-year return of minus 13%. The company designs software and hardware for scientists and engineers.
The company’s consensus 2019 earnings estimate is $1.21 a share, up from $1.16 last year. In January, National Instruments declared a quarterly dividend of 25 cents a share, compared with 23 cents previously, for an increase of nearly 9%. The company has regularly boosted its dividend in recent years.
J2 Global operates cloud services and web properties, including PCMag.com. It yields 2%, the lowest on the list. But its one-year return is about 9%, one of the strongest showings among the companies in the table. It is expected to earn $6.79 a share this year, compared with $6.35 in 2018.
It declared a small quarterly dividend increase of 2.3% in February and now pays 44.5 cents a share, up by a penny from its previous level.
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