By Serkan Unal
The Tilson Dividend Fund (TILDX) is one of the best-performing mutual funds focused on equity income. In fact, based on total returns over the past five years, the fund is ranked the best performer in its category, based on the Lipper fund database. Its alpha, or excess return, relative to the S&P 500 Total Return Index over the noted period is full 805 basis points. Since its inception on March 16, 2005, through December 31, 2012, the fund produced alpha of 483 basis points relative to the S&P 500 Total Return Index and 549 basis points relative to the Dow Jones U.S. Select Dividend Index. More information about the fund can be found here. Please note that the fund has a high turnover rate of 182%.
A no-load fund, The Tilson Dividend Fund invests in undervalued stocks with high dividend yields relative to the yields of the broad market indices. However, in addition to dividend income, the fund also generates income from selling covered calls on securities held in the fund, which enables it to include undervalued, non-dividend paying stocks in the portfolio. Interestingly, while the fund carries the name of Whitney Tilson, a disciple of the Graham-Dodd-Buffett-Munger school of value investing, it is not managed by Tilson, but by Malcolm Zeke Ashton, who has proven very successful at picking the winning stocks. Here is a closer look at this outperforming fund's five dividend-paying stocks providing a good combination of income and upside potential.
First American Financial Corporation (FAF), a title and specialty insurance company, has a dividend yield of 2.0% and a payout ratio of 24%. Its dividend rose 50% over the past year. The company's business has been robustly expanding on the back of a vibrant mortgage refinancing market, buoyed by historically low mortgage rates. The company posted financial performance that beat analysts' estimates on both top and bottom lines. Last quarter, revenues grew 28% year-over-year, driven by strength in title insurance revenues. The company also saw its pre-tax margins in the quarter expand to 12.7% from 8.2% a year earlier. While there are concerns that rising interest rates will dampen demand for refinancing, thereby slowing down the title insurance demand, the high likelihood of relatively low interest rate for the next couple of years suggests that a sustained strength in both home refinance and purchase markets will likely support continued growth in the title insurance business. FAF is trading at a 10% premium to book value, on par with its industry. However, its price-to-sales ratio is only 0.6 versus 1.1 for its peer group. FAF has a forward P/E of 12.2x, below its respective industry's multiple of 15.0x. John Rogers (Ariel Investments) reduced his FAF stake by 9% last quarter, but he still owns nearly 8 million shares.
Western Digital Corporation (WDC), one of the two dominant players in the global hard disc drive [HDD] market is the fund's another undervalued stock with high-growth potential. It has a dividend yield of 2.1% and a payout ratio of only 13%. Given the dividend growth trends at its archrival Seagate Technologies Plc (STX), which has boosted its dividend to a yield of 4.7%, WDC has plenty of room to expand its dividend in the future. The company beat analysts' fourth-quarter estimates on both top and bottom lines, with sales rising 92% and net income more than doubling from the year-earlier levels. The company's CEO believes that "the overall market for hard drives is beginning to stabilize." He expects the demand from PC makers to increase in the second half of this year. The strong demand in the higher-margin enterprise market will be a major driver of the overall sales and profit growth for Western Digital. Still, this year, revenues for the entire HDD market will drop 11.8% from 2012, and will remain flat in 2014, according to estimates at IHS iSuppli Research. Despite the overall broad market weakness, analysts at IHS iSuppli Research suggest that the introduction of a helium-based technology by WDC could help position the company as the market leader in the enterprise segment by the end of this year. WDC is a value play with a forward P/E of 6.0x. STX has a forward P/E of 6.2x. Last quarter, many hedge fund managers were bullish about WDC including David Einhorn (see the list here).
Miller Industries Inc. (MLR), a manufacturer of vehicle towing and recovery equipment, has a dividend yield of 3.1% and a payout ratio of 30% of the current-year EPS estimate. The company's dividend grew 8.3% over the past year. With 22% of its assets in cash and equivalents, this company holds no long-term debt. It generates significant free cash flow, and is currently undervalued based on a free cash flow yield of 7.6%. It is trading at a price-to-book of 1.2, compared to 2.2 for its peer group. It is also undervalued according to a forward P/E of about 10x, based on the available full-year 2013 EPS estimate. The company is susceptible to the same cyclicality that is characteristic for the truck manufacturers. It is currently enduring challenging market conditions, but the expected rebound in the economic activity could mean brighter skies ahead for the company. Still, fiscal austerity could mean less government business for the company, which was one of the reasons for the weak third-quarter-2012 performance relative to the year earlier. The company does not have a wide coverage, but value investors such as Whitney Tilson and Chuck Royce have made small investments in this stock.
Telular Corporation (WRLS), a provider of event monitoring and wireless access solutions for business and residential customers, with the largest share of revenues coming from primary and backup alarm communication solutions. It has a dividend yield of 4.5% and a payout ratio of 98% of the current-year consensus EPS estimate and 71% of trailing free cash flow. The company has had "25 consecutive quarters of profitability." According to a January 2013 investor presentation, Telular Corporation sees fiscal-year 2013 adjusted EBITDA of $23.5 million-to-$25.5 million (32%-43% year-over-year growth). The company generates sufficient free cash flow and has a relatively high free cash flow conversion rate of 111%, based on the trailing twelve months. Shares of this thinly-traded $178-million company have a forward P/E of 21.8x, slightly above the telecom equipment industry's multiple of 20.4x. Last quarter, Jim Simons upped his near-$9 billion WRLS stake, while Whitney Tilson reduced slightly his small WRLS position. (For those interested in a more detailed assessment of the company's operations, here is a contribution from a fellow Seeking Alpha contributor.)
IDT Corporation (IDT) is another small-cap ($246 million), thinly-traded dividend stock. A provider of wholesale and retail long-distance services, the company pays a dividend yield of 5.6% on a payout ratio of 43% of the current-year EPS estimate. Last year, IDT Corporation raised its dividend by 15.4% and paid a special cash dividend of $0.60 per share in November 2012. As a result of the special dividend, IDT suspended payments of the regular $0.15 per share quarterly dividend for fiscal 2013 (through July 31, 2013). Future dividends will be at a level commensurate with the company's financial results, strategic goals and available resources. The company still has 36.5% of total assets in cash and equivalents and a debt-to-equity of 32%. The stock is undervalued by a free cash flow yield of 22.2%. Moreover, its forward P/E is 11.4x, and the price-to-sales is only 0.2 versus 1.0 for the overall industry. The company reported strong fiscal first-quarter-2013 financial results, with revenue growing 6.3% year-over-year, representing the 11th consecutive quarterly increase. Net income also recovered. For the future, the company expects to see growth driven by two products: Fabrix, a cloud-based video processing, storage and delivery business, and Zedge, a mobile content discovery platform used by more than 45 million unique users per month. Last quarter, IDT was reported as a holding in the portfolios of both Jim Simons and Irving Kahn.