A Winning Combination: 5 High-Yield Stocks with Robust Dividend Growth

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Historical references show that stocks boasting a combination of high yield and robust dividend growth can outperform the overall market as well as their low yield and low dividend growth peers. These stocks generally reflect healthy earnings growth or cash flow generation that can support high yields and increasing dividend streams.

Below is a closer look at five dividend equities with dividend yields above 4% and historical five-year dividend growth rates above 10%. All featured equities have solid outlooks for continued earnings expansion and dividend growth. They come from diverse industries and offer income streams with a potential to beat inflation.

British American Tobacco

British American Tobacco (NYSEMKT: BTI), the world’s second-biggest cigarette maker with a 13% share in the global cigarettes market, selling its brands such as Pall Mall, Dunhill, Kent, and Lucky Strike in 180 markets globally, boasts one of the best growth stories in the tobacco industry. Its good growth prospects come from the cigarette maker’s exposure to emerging markets—which bring in some 70% of earnings—where cigarette consumption is growing, as opposed to declining in the mainly industrialized nations of the West.

British American Tobacco is also the only major company in the international tobacco group with a large exposure to tobacco leaf growing. As it is generally the case with tobacco companies, BTI is heavily susceptible to regulatory risk and litigation. However, given the addictive nature of tobacco products, this consumer staples equity can be considered defensive due to a price inelastic demand for tobacco products and demand’s low susceptibility to economic cyclicality, which shields its earnings and dividends.

Despite a somewhat lower volume of cigarettes sold in the first quarter, the company has proven its capacity to increase revenues through higher prices. With strong premium branding, wide geographical exposure, and intact pricing power, British American Tobacco can be expected to continue benefiting from emerging-market growth. In addition, its innovation push into smokeless products, e-cigarettes and other similar products should help boost both its top and bottom lines in the rapidly growing market for cigarette substitutes. British American Tobacco has a forward dividend yield of 4.3%, based on a forecast 10.9% dividend increase in fiscal year 2013.

Brookfield Infrastructure Partners

Brookfield Infrastructure Partners LP (NYSE: BIP) owns and operates premier utilities (38% of capital), transport (35%), energy (17%), and timber (10%) assets in the Australasia (35% of capital), North America (25%), South America (25%), and Europe (15%). This LP with an investment-grade rating offers exposure to geographically diversified infrastructure assets from several industries. Its cash flows are 46% regulated and 38% contractual, which provides stability to distribution payouts. The company pays a yield of 4.7% on a payout ratio of 59% of FFO. However, given that its target ratio is 60% to 70% of FFO, future distribution growth is already in the cards. Its five-year historical distribution CAGR is 10%, while, at present, forward distribution increases are projected to between 3% and 7% per year.

This LP is well positioned for cyclical growth and inflationary periods, as it has the ability to capture inflationary price increases, which bodes well for its organic growth. More than 65% of Brookfield’s revenues are indexed to inflation or positioned to capture inflationary price increases. Looking specifically at its business segments, port and natural gas transmission lines stand to benefit from accelerating economic growth, toll road business will see growth from GDP expansion and increased emerging market vehicle ownership and use, and timber business will see price increases amid favorable supply and demand dynamics as well as higher harvests amidst the housing market rebound. On top of this, Brookfield has some $5 billion in potential organic growth projects.

Lockheed Martin

Lockheed Martin (NYSE: LMT), an aerospace company and the largest U.S. government contractor, has seen robust dividend growth over the past five years, averaging 22.6% annually. Even with such plentiful dividend growth that took the yield to the current 4.4%, the payout ratio has remained relatively low at 51% of the current-year EPS estimate. The stock was under pressure recently amidst the fears of the sequestration; however, so far, minimal sequestration actions have taken place that could dent the company’s long-term financial performance. Still, the company sees a potential adverse sequestration effect on sales, based on its model projections, at about $825 million in 2013.

As most of the sequestration effects has already been priced into defense stocks, Lockheed Martin’s current valuation—below 12x forward earnings and trading at a discount to the company’s 10-year historical average—makes Lockheed Martin an attractive value and income play given its above-average dividend yield and robust dividend growth. Major advantages of this defense company include its wide moat in a sustainable industry and a capacity to weather adverse impacts, such as defense budget cuts, maintaining profitability and paying dividends over long periods of time. In fact, Lockheed Martin has raised dividends for a full decade.

Following its record EPS last year in a challenging environment and a strong start to this year, in which first-quarter margins improved and EPS increased 15% from the prior-year quarter, the company has reiterated its full-year 2013 EPS projection (implying a 7% growth). This increases the likelihood that dividend growth will continue as the company focuses on increasing shareholder value.

TAL International Group

TAL International Group (NYSE: TAL), one of the world's oldest and largest lessors of intermodal freight containers to shipping line customers, offers a yield of 6.2% on a payout ratio of 59% of the current-year EPS estimate and below 40% of adjusted pre-tax EPS. Its dividend growth over the past five years averaged 10.4%. This company operates in a high-growth market, in which it controls a 13% share. TAL International’s revenue-earning assets have grown at a CAGR of 18% over the past seven years and a CAGR of 20.3% over the past three years—with the majority of growth coming from Europe and Asia. Adjusted pretax income has increased at a robust 27.3% CAGR over the past three years.

Given that 73% of its fleet is contracted on long-term and finance leases (lease duration of 44 months, on average), TAL Internationals revenue and cash flow streams are generally secured and predictable, which makes a solid case for TAL International as an income play. The company’s fundamentals are strong, as demand for leased containers remains firm amid tight global supply of containers relative to cargo volumes and container demand. Moreover, average lease utilization is close to record levels at 97.7% and strong asset residual values provide downside protection.

Given that containerization trade growth trends correlate with GDP growth patterns, acceleration in global economic growth will support further improvement in TAL International’s underlying fundamentals. (The company states that “most of (its) dividends have been treated as a non-taxable return of capital”).

Omega Healthcare Investors

Omega Healthcare Investors (NYSE: OHI), a REIT that provides financing and capital to long-term healthcare facilities with a focus on nursing homes, boasts a portfolio of 477 healthcare facilities operated by 46 operators. The REIT offers a 5.7% distribution yield. Its payout ratio is 74% of adjusted FFO for 2013, based on the guidance midpoint. The company’s cash distribution has increased 10 times since the beginning of 2010, while its five-year historical distribution growth averaged 9.2% annually over the past five years. The company has had robust financial performance over the past several years, with revenues growing at a CAGR of 17.7% and adjusted FFO expanding at a CAGR of 12.6% since 2004. With a payout ratio below that of its peers as a group, and due to a continued FFO expansion expected amid steadily robust growth and acquisitions, further distribution increases are likely.

This REIT has characteristics of a defensive recession-resilient play, but it also boasts a strong growth potential. The company’s fundamentals are strong, as this REIT operates at a high occupancy rate of 83.3%, currently above the average for this industry. The long-term outlook for the industry and the REIT is positive as the percentage of seniors is expected to swell in the years ahead and skilled nursing facilities continue to present the lowest cost-setting of care with growing demand and limited supply. The company has stable cash flows, low leverage, ample liquidity, and no material near-term lease expirations or debt maturities. Despite a major run-up in its unit price, this REIT is still trading at a low 13.0x forward adjusted FFO, well below the forward multiple of its peers as a group.

Final thoughts

There are plenty of high-yield stocks in the marketplace, but only a select few exhibit solid dividend growth rates as impressive as the aforementioned companies. From Omega Healthcare Investors’s REIT-boosted payout, to TAL International Group’s old world strength, there are plenty of reasons to pay attention to this group we’ve discussed. Lockheed Martin, Brookfield Infrastructure Partners and British American Tobacco are also worth members of this “fab five,” and like this market-beating strategy, we’ll be watching closely for the remainder of 2013 and beyond.

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This article is written by Serkan Unal and edited by Jake Mann. Insider Monkey's Editor-in-Chief is Meena Krishnamsetty. They don't own shares in any of the stocks mentioned in this article. The Motley Fool recommends Brookfield Infrastructure Partners. The Motley Fool owns shares of Brookfield Infrastructure Partners and Lockheed Martin. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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