Look back through history and you'll see that dividends make up a meaningful share of the stock market's total return over the years – more than a third, according to Standard & Poor's.
But as investors chase yield from "dividend aristocrats" – blue-chip companies that have increased their dividends steadily for many years – they have made these stocks expensive, says Grayson Witcher of Mawer Investment Management of Calgary. Mr. Witcher is lead manager of the Mawer U.S. Equity Fund.
Which companies might someday join them in generating consistent, generous yields? Here are seven picks for dividend aristocrats of the future from three top analysts.
From Grayson Witcher of Mawer.
Ansys Inc. (Nasdaq-ANSS); yield: 0: Ansys designs simulation software for companies in a range of industries. This software allows firms to see how new product designs will perform in the real world without having to produce a physical working model. This saves money and time, Mr. Witcher says. "Even swimming goggles have been simulated using Ansys's software."
Much of the company's revenue is recurring from software licences, which means a more predictable business, he adds. "We believe Ansys is one of the global industry leaders in simulations and has the broadest portfolios of simulation capabilities." Over the next decade, the penetration of simulation software should continue to increase and Ansys should benefit.
Verisk Analytics Inc. (Nasdaq-VRSK); yield: 0: Verisk collects proprietary and public data, aggregates it and then publishes research and analytics based on it. Its original business was in the insurance industry: Verisk was started by a large group of insurance companies to help them with regulatory filings.
Verisk has built a competitive advantage through its relationships with those companies. Its trove of data from them would be extremely difficult for a new entrant to replicate. "This unique asset should help protect the stability of the company's cash flow for many years, as should their very high customer retention rates" of 98 per cent, Mr. Witcher adds.
Well on their way
From Jeff Mo, lead portfolio manager of the Mawer New Canada Fund.
Stella-Jones Inc. (TSX-SJ); yield: 0.87 per cent: Montreal-based Stella-Jones is North America's leading lumber-treating company, manufacturing railway ties, utility poles and weather-resistant lumber. The industry across North America and Canada is not large, but "Stella-Jones is the largest player and by virtue of its size has a sustainable competitive advantage of scale," Mr. Mo says.
This allows the company to earn a high return on capital and to reinvest to increase market share, mainly through acquisitions. Its chief executive officer, Brian McManus, has executed an acquisition strategy over the last 15 years with "brilliant" results, but he has also aimed to raise the company's dividend payout ratio to 80 per cent or higher once the "acquisition runway runs out," Mr. Mo says. "We expect Stella-Jones will be a steady, growing dividend payer for many years."
First National Financial Corp. (TSX-FN); yield: 5.72 per cent: First National Financial is Canada's leading non-bank mortgage lender. It is dominant among mortgage brokers, of which about one-third of Canadians seeking mortgages utilize, Mr. Mo says. The company has close to a 20-per-cent market share there.
First National has shown good capital gains and strong dividend growth. "The company has been a solid, under-the-radar executor of a simple business strategy: become the most trusted and efficient operator in the mortgage broker channel," he says. "The mortgage industry in Canada has grown at a few percentage points above GDP growth, and we expect that First National will maintain and perhaps increase its market share over the next three decades and beyond."
The enduring aristocrats
From Paul Gardner, a partner and portfolio manager at Avenue Investment Management in Toronto. Here are three companies that Mr. Gardner expects to thrive over the next 30 or even 50 years.
Bank of America Corp. (NYSE: BAC); yield: 1.92 per cent: Although the banking sector is frequently criticized, it is far safer today than at any other time in the history of the financial markets, Mr. Gardner says. Thanks to capital constraints and a highly regulated environment, technological disruption from competitors will be minimal, he adds. "There will be billions spent on technology by all banks to keep disruptors away."
The public will demand compliance and regulations to protect society's assets, he says. "So in the end banks will need to be big." Bank of America is the largest deposit holder in the United States. It pays out only 25 per cent of its earnings in dividends. The bank will continue to increase its dividend payout because it has room to grow, Mr. Gardner predicts.
Canadian National Railway Co. (TSX: CNR); yield: 1.80 per cent: There is no more efficient way to transport bulk goods than by rail," Mr. Gardner says. The world is going to become more interconnected, and "big bulky things" have to go from points A to B. "The ones who own the rail lines will have the power to transport, especially since society does not seem to want to accept more pipelines. "Food, goods, fuel and chemicals are all part of our daily lives. It will continue," he says. "CNR has the rail lines and is one of the best-run railways out there." CNR's history of steadily raising dividends will continue, too, he adds. Its payout ratio is a conservative 35 per cent.
Johnson & Johnson (NYSE: JNJ); yield: 2.71 per cent: Johnson & Johnson's pharmaceutical and retail products help power and drive the company's dividend policy, Mr. Gardner says. "Its free cash flow power and its ever-expanding lineup of strong consumer products will help it retain its leading position as a dividend aristocrat for the next 30 years." Its diversified portfolio of products allows it to withstand recessionary or deflationary trends that might affect the consumer space, he says. As well, "being number 1 or 2 in most of their global markets creates a strong barrier to entry." J&J's suite of drugs has some elements of patent protection, and its AAA credit rating – one of only two companies rated so highly by Standard & Poor's in the United States – strengthens the company's potential over the long term.