Three Small Cap Dividend Stocks To Watch in June 2021

Richard Hemming

Takeovers are ramping up after a Covid induced hiatus. What has this got to do with dividends, you rightly ask. Acquirers are interested in companies producing good cash flow, which is what investors should be interested in; especially in this situation because it underpins the dividend. The bottom line is it’s a good discipline to look for dividends. In this article we give ASX investors three dividend stocks to watch. 

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Under the Radar Report's Dividend Portfolios

Over the past 4 years we have published numerous dividend portfolios each year, selected exclusively from our universe of 200+ Small Cap stock.

Our average return is close to 20% a year versus the S&P/ASX All Ords Accumulation Index return of 7.7%. These dividend portfolios have often benefited from corporate activity. There are always bidders looking at stocks with quality businesses at the small end of town.

Why the dividend portfolios have outperformed

Money is cheap, big companies are looking for growth and private equity is looking to make money. You might have heard about Macquarie’s MIRA taking over waste management company Bingo for $2.6bn, the attempted takeover of fund administrator Link Administration by high profile private equity funds Pacific Equity and The Carlyle Group, Blackstone’s bid for Crown Resorts or Coke Europe bidding for the ASX listed bottler Coca-Cola Amatil.

The country’s bankers are turning their attention away from IPOs and onto M&A. According to Factset, in the past 12 months in Australia, for deals over $100m, there have been 80 worth $83bn and the vast majority have been at the Small Cap end of the market. Only 20 of the deals were valued at over $1bn. These 60 deals are the ones you might not have heard of.

One factor we found was the benefits of diversification. The returns of portfolios with over 10 stocks in them were superior overall to those with eight or less. In our recent reports on constructing a small cap dividend portfolio we showcase the stocks involved and we also highlight some secret benefits of constructing a dividend focused portfolio.

Small Cap takeovers 

In our universe there has been the takeover of IT services group RXP Services for a 62% premium by Capgemini; we’ve also had ongoing takeover dramas from private equity interest in troubled beauty products wholesaler McPherson’s (MCP) and aluminium products manufacturer Capral (CAA).

The latest portfolios benefited from a takeover bid for Capral (CAA), which propelled the stock up over 30% before settling back. Small Caps that make a takeover can also perform well because their adding value to a smaller asset base. For instance, Hansen Technologies (HSN) has been reaping the rewards of its Sigma acquisition in 2019 and has now been made an offer by private equity delivering big profits to Under the Radar Report's subscribers.

Sometimes a company that we include in a dividend portfolio doesn’t end up paying one, which can end up being a blessing. A recent example is Alliance Aviation (AQZ) which instead chose to raise funds for a major capacity expansion and to conserve its cash. The market loved the expansion plans, and the stock has performed very well. 

A company’s ability to generate sustainable and growing earnings pays more than just dividends. Even though AQZ didn’t pay a dividend, the capital it raised was for growth, and the stock jumped.

How do we pick dividend stocks?

Fundamental analysis. We look first at operating cash flow versus the total dividend a company could pay. Can it cover its fixed obligations (debt) easily and still pay a dividend? If so, how generous without crimping re-investment. Reinvestment is the key to generating growth. You get that compounding effect from a high return on equity, which builds value exponentially. While that is happening you’re also getting income.

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Three Small Cap dividend stocks to watch

Below we discuss three Small Cap dividend stocks to watch.

Gale Pacific (GAP)

Sector: Manufacturing
Market cap: $101.9m
Share price: $0.37
Dividend yeild: 5.4%

Our patience with the shade cloth manufacturer is paying handsome dividends as US sales and distribution grows. The company still looks good value, trading on a one year forward PE of just over 10 times and we forecast an annual dividend of 2 cents, giving it a dividend yield of 5.4%.GAP’s earnings are cyclical, but it had the operating cashflow to pay a special 1 cent interim dividend.It’s not a screaming buy at current levels but its dividend yield should deliver a good cash return at current prices.

dividend-stocks-to-watch-GAP.png

Southern Cross Electrical (SXE)

Sector: Mining services
Market cap: $129m
Share price: $0.53
​Dividend yeild: 6.5%

This company installs electricals into big resources projects and through acquisition has diversified its operations into big construction and infrastructure projects in East and West Australia. We like the business because it’s highly specialised and has a history of paying consistent dividends and trades on a yield of 6.4%. Following a difficult first half, a strong rebound is expected in the second half of FY21 driven by Commercial, and a record $500m order book. It has a $700m tender pipeline with resources activity intensifying and an expected resurgence in infrastructure work ahead.

dividend-stocks-to-watch-SXE.png

Capral (CAA)

Sector: Manufacturing
Market cap: $129.5m
Share price: $7.63
​Dividend yeild: 6.5%

The aluminium products producer has hung in there, having cut its fixed costs in the past few years and thankfully this is paying off, with Covid providing the catalyst for shareholders. Not only is it getting the benefit of recent Federal Government assistance, but due to Covid import dumping has declined and corporate interest in the stock has emerged. The company has turned into a free cash flow machine, trading on a dividend yield of 6.6%.

Dividend-stocks-to-watch-CAA.png

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About the Author

Richard Hemming

Richard Hemming (r.hemming@undertheradarreport.com.au) is an independent analyst who edits www.undertheradarreport.com.au, which provides investment opportunities in Small Caps that you won’t get anywhere else.

Under the Radar Report is licensed to give general financial advice only (AFSL: 409518). The author does not own shares in any of the stocks mentioned.

Under the Radar Report is licensed to give general financial advice only (ASFL: 409518). The author does not own shares in any of the stocks mentioned.

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