Dividend of the Week

What is a small cap? Different investors have their views on what constitutes smaller companies and most fund managers set the upper limits of their range much higher than individual investors would when looking for 'small' caps. Going along with the fund managers, our first filter is to select all of the companies covered by DividendMax with a market capitalisation of less than £1bn. This gives us a massive list of 133 companies which clearly needs further whittling down to achieve our long list. Firstly, we will eliminate all the preference shares and exchange traded funds which qualify. We will also eliminate the investment trusts as we covered that sector last week. Next, we will look for a decent dividend paying track record, but not necessarily the maximum that we can go for. We set a criterion of a CADI (consecutive annual dividend increases) of more than three. All this almost halves the original list to 70 companies. Next, we set a yield filter of more than 4 per cent and dividend cover greater than one which further cuts the list down to a more manageable 23 companies.

The list is in yield order:

Chesnara (CSN), Centaur Media (CAU), Raven Russia (RUS), Kier Group (KIE), Smiths News (NWS), Laird (LRD), Galliford Try (GFRD), Kcom (KCOM), Costain (COST), Tullett Prebon (TLPR), Greggs (GRG), Interserve (IRV), Photo-Me (PHTM), Novae (NVA), Rank (RNK), James Halstead (JHD), S&U (SUS), RPS (RPS), Rathbone Brothers (RAT), Dairy Crest (DCG), Bloomsbury Publishing (BMY), Morgan Advanced Materials (MGAM) and Computacenter (CCC).

To further narrow the selection, we eliminate Chesnara, Laird, TulletPrebon, Greggs, RPS, Bloomsbury and Computacenter as they have all been featured in previous dividends of the week. This does not rule them out in the future, but they have been looked at fairly recently.

To up the ante, and add to the attractiveness of our long list we increase the yield criterion to 5 per cent. This reduces the list to a more manageable seven companies and our long list is Centaur Media, Raven Russia, Kier Group, Smiths News, Galliford Try, Kcom and Costain.

Company fundamentals

What are the brokers saying about the seven survivors? The table below represents the number of brokers in each of the recommendation categories of buy/hold/sell:

This highlights the increasing scarcity of independent analysis of companies among the lower reaches of the London markets. As budgets have been cut at many brokerages that traditionally covered smaller companies so the universe they can cover has shrunk, which means the mega-caps are covered by dozens of analysts struggling to add any real value while in the lower reaches of the market independent analysis is more rare.

On the fundamentals, Centaur Media and Smiths News immediately stand out and Raven Russia is a very interesting play. Kier Group and Costain are in a difficult sector right now and compared with one of our previous dividend of the week selections, Carillion, they both look expensive. I am happy to eliminate both at this stage. Galliford Try is well placed in the strongly recovering housebuilding sector but it also has the rating to match. Its shares are close to their all-time high and the sector looks fully valued right now having seen a very strong past 12 months in which many companies’ share prices have more than doubled. Kcom has promised a minimum of 10 per cent growth in its dividend in each of the next three financial years, which, when combined with its relatively lowly rating means its shares make the shortlist along with Raven Russia, Smiths news and Centaur Media.

Let’s have a look at the recent dividend histories of our four remaining stocks:

Centaur Media

*2013 interim up 10% from 0.75p to 0.825p

Raven Russia

*2013 Interim of 2p declared via a tender offer

Smiths News

*2013 interim increased by 7.1 per cent from 2.8 to 3.0p

Kcom

Centaur Media is a business information and events group which is due to report its final results on the Thursday 12 September. It posted an 8 per cent increase in pre-tax profits at the interim stage. Management is currently rebasing the business for the new era in publishing and targeting 50 per cent of revenues from digital sources. Its recent share price history shows a 52 week high of 60p with shares currently trading at 41.5p, with a 52 week low of 31p. The business should benefit from a generally improved business climate and in its trading statement of 11 July it stated that deferred revenues were up 27 per cent on the prior year and that the group has a strong pipeline of new product development initiatives.

The real estate investment trust (Reit) Raven Russia announced its first-half results recently and, as with the prior year, has announced a tender offer buy back of shares at 75p in lieu of a dividend, which works out as equivalent to a dividend of 2p per share. This is because "the share price remains at a significant discount to our adjusted, fully diluted NAV per share". Shares are trading at 73.25p, not far off a recent high of 79.75p.

Smiths News looks set to deliver strong growth in pre-tax profits in the current financial year. Additionally, shareholders received a fillip recently with news that the company had extended one of its core contracts, a newspaper wholesaling agreement with Associated Newspapers, until October 2021 and similarly with COMAG until December 2020. Final results will be published on 16 October. Shares in Smiths are also trading close to recent highs at 185.5p after a strong run up from a low of 114p over the past year.

Despite what could be described as muted growth in recent years Kcom has built up a solid track record of increasing their dividend and, furthermore, management has laid down a marker and committed to "delivering a 10 per cent increase per annum in full year dividend over the next three financial years", up to 31 March 2016. As with our other choices, recent share price strength means Kcom, at 86.25p, trades at close to a 52-week high.

All four companies appear to be trading reasonably well against their peer groups and there is little evidence to suggest that, in the short term at least, all four companies will struggle to continue increasing their dividend payments.

As with our previous dividends of the week, we are left with a tough choice and realistically investors could do well in any of the final four stocks. All have very good yields and in each case the dividend looks a reasonably safe bet and set to grow. But for its lowly rating and solid dividend cover and the recently confirmed visibility of revenues over the next five years our dividend of the week is Smiths News.

It is a pretty big business in terms of turnover and the scale of its operations, with Smiths, the newspaper wholesale business, Bertrams, the book distribution business and The Consortium distributing everyday consumables such as office supplies and cleaning products. Also, Dawson Media Direct distributes newspapers and magazines to airlines and rail operators. While many commentators have long predicted the demise of print, there are still a great many people who want a real book or newspaper. True, there has been a great decline in some areas of print, such as the steep decline of directories such as the Yellow Pages (primarily due to the advent of internet search engines such as Google). But the trend has been a lot less pronounced for newspapers, books and magazines where, in some cases the internet is complementing rather than replacing print products.

Smiths News has a very strong market position and the scale to bring significant economies of scale into play. It has emerged from a period of consolidation in its sector as one of the strongest players. What’s more, for income investors, it has an enviable track record of having increased its dividend every year since its flotation on the stock market in 2006 when it was demerged from its parent company WH Smith.

For Smiths News, we are estimating the next three dividends to be 6.2p, 3.2p and 6.6p. The shares were trading at 185.5p at Fridays close. At 185.5p, this will generate a return of 6.49 per cent annualised over an approximate 17-month period.

Smiths News yield calculation:

6.2 + 3.2 + 6.6 = 16p between now and 07/01/2015 (approximate ex-dividend date of the third dividend)

Ergo 16 / 185.5 = 8.63% 8.63% annualised = (8.63x365) / 485*= 6.49%

*Number of days until theoretical ex-dividend of the third dividend.

Note that if the dividend forecasts are correct, the actual yield (which DividendMax calls the 'Optimised yield') is affected by two factors; the share price and the proximity to ex-dividend dates. DividendMax performs these calculations daily against hundreds of stocks in the UK and overseas producing new lists every day as prices change, dividends change and ex-dividend dates approach.