What are we looking for?
This might be a good time, given market weakness so far this year, for investors to take advantage of some quality names with compelling valuations ahead of the slow summer investing season. My team member Allan Meyer and I thought we would highlight one of our favourite valuation metrics, free-cash-flow-to-enterprise-value, by analyzing Canadian dividend payers using our investment philosophy focused on safety and value.
The screen
We started with Canadian-listed equities with a market capitalization of $1-billion or more as a safety factor. Dividend yield is the projected annualized dividend divided by the share price. Some investors, particularly retirees, have a thirst for income/yield and many of our clients are in retirement or approaching it. Also, dividends generally reflect safety and stability. All securities in our screen must yield 2 per cent or more. Dividend payout ratio is the dividend payment divided by earnings. A lower number is better. We’ve capped payout at 100; anything above could be a warning sign. Debt-to-equity is our final safety measure. It is the debt outstanding divided by shareholders equity. A smaller number is preferred.
Free-cash-flow-to-enterprise-value (FCF/EV) is a valuation metric. FCF is the cash left over for investors after all the basic needs of running the business – expenses, reinvestments and capital expenditures – are met. EV is a measure of the company’s total value excluding its cash. The higher the number, the better the value. All securities must have an FCF/EV of 5 per cent or more and the list is sorted on this metric from highest to lowest. We favour free cash flow because it is often more difficult to manipulate compared with other accounting and valuation metrics.
Earnings momentum is the change in trailing 12 months’ earnings over the past quarter. A positive number implies earnings are increasing, which is a proxy over the long term for capital appreciation and dividend hikes, while the opposite is true for a negative number. Lastly, we’ve provided the 52-week total return to track recent performance.
What we found
Russel Metals Inc. and energy producers Suncor Energy Inc. and Canadian Natural Resources Ltd. generally score well across the board for safety and value. Dundee Precious Metals Inc. boasts the best FCF/EV, lowest payout and otherwise looks interesting. Labrador Iron Ore Royalty Corp. is the only name without debt and, along with IGM Financial Inc., the highest yielding. Northland Power Inc. has the best earnings momentum but has one of the higher debt loads. Some would argue that is normal for a utility-based business as well as for telecommunications providers such as Cogeco Inc.
It is interesting to note that there are several commodity-based names on the list such as gold/precious metals, energy and materials.
Investors should contact an investment professional or conduct further research before buying any of the securities listed here.
Sean Pugliese, CFA, is an investment portfolio manager at Wickham Investment Counsel, helping individuals, families and other investors.
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Sean Pugliese, CFA