Five stocks to generate income in 2020

With no sign of interest rate rises, and term deposit rates barely keeping up with inflation at less than 2%, income-oriented investors still find themselves drawn to the share market, where the average grossed-up dividend yield is more than 4% – with plenty of stocks “offering” yields quite a bit higher than that. (The caveat, of course, is that dividends are wholly at the discretion of the company, and can be cut, or dispensed with altogether, if the financial circumstances dictate. But while dividends can never be considered as guaranteed, they can be a very handy generator of income for a portfolio, especially when the turbo-charging impact of franking credits is considered.)

What income-oriented investors need to look for is companies that have the free cash flow to back their dividends comfortably, and also, which have a payout ratio (proportion of the net profit that is paid-out in dividends) that does not put pressure on them to crimp the dividend if there are competing priorities for cash, such as reinvestment. Across the Australian Securities Exchange (ASX), the dividend payout ratio currently averages about 70%, according to AMP Capital, so we want to see companies with a lower ratio than that, which means they can be considered to be on the safer side – even with the ever-present volatility of company earnings.

In contrast, many of the top dividend payers on the Australian stock market have payout ratios that have edged up to about 85% – and even higher – so there is very little room for disappointment in terms of a lowered dividend.

Here are 3 smaller-stock situations where, even with the equity risk, I think income-oriented investors could find attractive opportunities – with the added bonus of a bit of potential share price upside, or at the very least, an expectation from analysts that the downside is limited.

1. SG Fleet Group (SGF:ASX)

Forecast FY20 dividend yield: 5.3%, fully franked
Forecast FY20 grossed-up yield: 7.5%
Forecast FY20 dividend per share: 14.2 cents
Forecast FY20 free cash flow per share: 23 cents (source: StockDoctor)
Forecast FY20 dividend payout ratio: 66%
Analysts’ consensus valuation: $2.76 (Thomson Reuters), $2.877 (FN Arena)

Fleet management services group SG Fleet provides motor vehicle fleet management, vehicle finance and salary packaging services in Australia, New Zealand and the UK. The company did not, on first viewing, have a great FY19: revenue declined by 1%, to $509.7 million; net profit fell 10%, to $60.5 million; the dividend slid 4%, to 17.7 cents; and total fleet size was down 5%, after it lost 7,153 vehicles managed on behalf of the Western Australian government.

But in other ways, investors in SG Fleet saw the future: the company launched its new Inspect365 heavy vehicle inspection and compliance system, its eStart electric vehicle transition planning service, and also bought a stake in Collaborate, a peer-to-peer marketplace platform that offers a car subscription product. SGF has invested $2.2 million and will also provide about 100 vehicles to Collaborate to boost the growth of its Carly car subscription division. SGF says these innovations are part of a clear strategy to diversify its revenue streams.

FY20 is also unlikely to be a stellar year for the company, either. But for alert yield investors, the expected rebasing of SGF’s dividend – down to somewhere in the range of 13.9 cents (FN Arena’s expectation) and 14.2 cents (Thomson Reuters’ expectation) – gives a yield of about 5.3%, which grosses-up to 7.5%. On a payout ratio of 66%, and well-covered by free cash flow, this dividend has room to grow, and that’s what analysts expect in FY21, where the potential yield (at this share price) rises to 6.1% (grossed-up to 8.7%).

2. Helloworld Travel (HLO:ASX)

Market capitalisation: $551 million
Forecast FY20 dividend yield: 5.2%, fully franked
Forecast FY20 grossed-up yield: 7.4%
Forecast FY20 dividend per share: 23 cents
Forecast FY20 free cash flow per share: 32.4 cents (source: StockDoctor)
Forecast FY20 dividend payout ratio: 63.9%
Analysts’ consensus valuation: $5.40 (Thomson Reuters), $5.73 (FN Arena)

Analysts reckon that integrated travel services company Helloworld should be able to show double-digit growth in earnings per share (EPS) over the current financial year (FY20) and next, and also increase its dividends. That augurs well for yield hunters.

What the “integrated” means with respect to Helloworld is that it is a travel retailer (it was formerly known as Harvey World Travel), a wholesaler of domestic/international/inbound-tour travel products and also provides corporate travel services. Each of the company’s main measures are on the rise: total transaction volume (TTV), revenue, EBITDA (earnings before interest, tax, depreciation and amortisation), net profit, and dividend. In FY219, TTV grew by 9.1%, to $6.5 billion; revenue rose 9.8%, to $357.6 million; EBITDA swelled 20.8%, to $77.3 million; net profit surged 23.8%, to $38.2 million; and the fully franked dividend was lifted by (14%) to 20.5 cents, the fourth straight year of rising dividends.

And the portents for this year, so far, look good. In September, Helloworld gave EBITDA guidance in the range $83 million–$87 million for FY20, up from the $77.3 million reported for FY19. After a healthy September 2019 quarter, the company upgraded this to a range of $86 million–$90 million.

Analysts polled by Thomson Reuters expect EPS to rise by 31% in the current financial year, to 36 cents, allowing a dividend lift to 23 cents. FN Arena’s collation projects EPS rising to 35.4 cents, with a dividend of 22.5 cents. Importantly, the anticipated free cash flow easily supports this dividend, and the payout ratio is undemanding. Rounding out the attractions of this stock, analysts are quite bullish on its capital-gain prospects, too.

3. A2B Australia (A2B:ASX)

Forecast FY20 dividend yield: 5%, fully franked
Forecast FY20 grossed-up yield: 7.1%
Forecast dividend per share: 7.8 cents
Forecast free cash flow per share: 12.6 cents (source: StockDoctor)
Forecast dividend payout ratio: 63.9%
Analysts’ consensus valuation: $1.655 (Thomson Reuters), $1.65 (FN Arena)

As might be expected after Uber burst on to the Australian market – specifically to disrupt the taxi industry – the former Cabcharge has had a torrid few years, going backwards for investors over the last one, three and five years. That is only to be expected from a company that lost a lucrative near-monopoly, but those travails are dissipating, and the name change to A2B Australia in November 2018 indicated a new confidence.

A2B is leveraging its 13cabs and Silver Service brands (which boast 9,500 cabs) as highly popular apps, and has diversified its revenue streams through Cabcharge Payments and Mobile Technologies International, bought in 2018, which is a software-as-a-service (SaaS) application that powers the processing and dispatch systems used by most of the taxi companies in Australia, as well as taxi fleets in North America, Europe and  New Zealand – the company believes it has strong prospects to grow this business in other countries. A2B recently launched a new cut-price taxi brand called CHAMP, and will shortly launch a new service called “MyDriver” nationwide, after a successful trial in Newcastle, in which 40% of passengers chose to select a preferred driver.

The Cabcharge platform is now a technology powerhouse, and A2B is moving into machine learning and internet-of-things (IoT) applications to optimise and grow the business. Analysts like the basis on which to grow profits and dividends. FY19 saw a record result for revenue, up 7% to just under $200 million, and underlying net profit up 10%, to $14.9 million. The full-year dividend was maintained at 8 cents, and it is this dividend that most interests us – it will probably come under slight pressure in the current year, but A2B’s full franking, strong cash flow position, low payout ratio should give investors comfort that this is a sound yield stock – with analysts’ expectations showing a grossed-up yield of 8.1% for FY21, at the current share price.

Lastly, income-focused investors could do a lot worse than take a close look at some of the dividend-income-based exchange-traded-funds (ETFs), which are structured to offer participation in portfolios of shares that offer above-average dividend yields.

A good option here is the Vanguard Australian Shares High Yield ETF (VHY). At a share price of $61.54, and a trailing (FY19) dividend of 356.73 cents, VHY, if it repeated that dividend, would be offering a yield of 5.72%, which with its FY19 level of franking, at 85.7%, would represent a grossed-up yield of 7.8%. VHY could easily do better than this for FY20.

A similar situation is the Russell Investments High Dividend Australian Shares EFT (RDV), which at a share price of $30.60 and a trailing (FY19) dividend of 209.18 cents, which, if repeated in FY20, would generate a yield of 6.9%, 78.8% franked, equivalent to a grossed-up yield of 9.4%.