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Investors have been loading up on dividend stocks for good reason: These stocks are trouncing the puny 2% yield on Treasuries. In fact, more than 200 stocks in the S&P 500 currently yield better than Treasuries. And in addition to higher yield, dividend stocks are delivering superior overall returns. For instance, high-yield stocks were the top-performing group in the S&P last year, and the 50 highest yielders returned an eye-popping 18.5%, nearly nine times the 2.1% return of the S&P during that period.
If dividend stocks continue to outperform, then it’s likely more companies will start paying dividends. Additional incentives come from retiring baby boomers, who will most likely switch to income-generating investments rather than riskier growth stocks. Given this rosy outlook for dividend stocks, there are many companies not paying dividends now that will possibly ponder commencing payments soon.
With this in mind, I ran a screen for companies that have good earnings, abundant cash, strong cash flow and little long-term debt. I then refined the list to companies trading at low price-to-earnings (P/E) and price-to-cash flow (P/CF) ratios.
Here are the three stocks that make the top of my list…
1. Tech Data Corp. (Nasdaq: TECD)
Tech Data is one of the world’s largest distributors of information technology (IT) products, with more than 125,000 resellers in more than 100 countries.
Last year alone, the company sold $24 billion of IT products. Sales increased 12% year-over-year during the nine months ended Oct. 31, 2011, to $19.38 billion. Earnings per share (EPS) improved 22% to $3.37 in the same period, reflecting the benefits of Tech Data’s geographic diversity and cost discipline. Analysts say Tech Data can deliver better than 10% annual earnings growth in the next five years.
Tech Data is also sitting on nearly $900 million of cash. This works out to roughly $22 per share, which is nearly 40% of the stock’s $56 share price. Long-term debt is only $61 million and is just a fraction of the company’s $2.0 billion book value. Despite a stellar balance sheet and good earnings prospects, Tech Data trades at just 10 times its forward earnings.
The mean analyst estimate pegs 2012 earnings near $5.00 per share. If Tech Data paid out 30% of earnings as dividends, annual payments would be $1.50 and shares would yield nearly 3%.
2. Western Digital Corp. (NYSE: WDC)
Western Digital supplies hard drives for personal computers, corporate computing data centers and home entertainment equipment. Winter floods in Thailand hurt hard-drive makers across the globe, forcing shutdowns of factories and production halts. A hard-drive shortage is imminent, many industry observers say, including Apple’s (Nasdaq: AAPL) CEO Tim Cook. As a result, analysts predict rising prices should help Western Digital generate 78% earnings growth this year.
Western Digital has averaged 17% sales growth and 12% earnings growth in the past five years, and analysts forecast 12% earnings growth for Western Digital in each of the next five years. The company has $3.9 billion in cash, only $231 million of debt and produced cash flow totaling $1.5 billion in the past 12 months, which is more than twice the company’s 12-month reported earnings of $688 million.
Western Digital trades at only seven times cash flow, well below the industry peer average of 11. Analyst forecast Western Digital to earn $5.75 per share this year. At 30% payout, Western Digital would pay a $1.73 annual dividend and yield a rich 4.3%.
3. EMC Corp. (NYSE: EMC)
EMC is the global leader in data-storage and information-security products, holding a 25% share of the data-storage market.
An evolving IT landscape benefits EMC by fueling continual demand for new storage and security products. In 2011, the company made $20 billion in revenue, an 18% increase from 2010. Earnings increased 24% to $3.4 billion and cash flow grew 25% to $5.7 billion in the same period. Consensus estimates target 15% earnings growth in each of the next five years.
EMC has a high-quality balance sheet, showing $6.3 billion of cash and $3.4 billion of debt. EMC shares have gained less than 2% in the past 12 months, and the company trades for just 14 times cash flow, which is well below the industry peer average of 26.
Market observers forecast earnings to reach $1.72 per share in 2012. If EMC initiated a dividend payment at 30% payout, it would amount to $0.52 and shares would yield 2%, with room to grow payments down the road.
Risks to consider: There is no guarantee any of these companies will initiate dividend payments anytime soon, if at all. They may choose to use their cash for share repurchases or to make acquisitions. In addition, the cap on the dividend tax rate is set to expire this year, which will likely affect dividend-payment decisions by corporations. A higher tax rate would make dividends less appealing and discourage companies from initiating payments.
Action to take –> All of these stocks have strong earnings and more than enough cash and cash flow to support dividends. These three companies are strong candidates, but my top choice is Western Digital because the company may come out of the gate with the highest yield, followed by Tech Data and EMC.
– Lisa SpringerSource: StreetAuthority
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