By Serkan Unal
David Dreman is a well-known contrarian value investor, who, throughout his 39-year investment career, has pursued stocks of "undervalued, yet fundamentally-sound companies." His investment approach centers on buying out-of-favor stocks with low price-to-earnings, price-to-book, and price-to-cash flow ratios. This approach has proven successful over time.
Emulating David Dreman's contrarian investment strategy in the small-cap universe is his namesake fund, Dreman Contrarian Small Cap Value Fund (DRSVX). The fund's lead manager is Mark Roach, but investment guru David Dreman is still involved in the fund's portfolio management team. Sifting through the fund's purchases in the first quarter, one can find several value picks paying respectable dividend yields. Here is a closer look at five contrarian plays yielding at least 2% that can be further researched by dividend investors interested in pursuing Dreman's contrarian value strategy.
ManTech International Corporation (MANT), a provider of services in cyber defense and cyber security, IT and intelligence operations, currently trades at trailing and forward P/Es of 10.7x and 11.7x, respectively - below the defense industry multiples. The company is valued at only 90% of its book value, nearly half its five-year historical average. Its price-to-free cash flow is also low at 13x. The stock's valuation has been adversely affected by the expectations of deep defense budget cuts and the sequestration effect. As a result, the company's EPS CAGR has been moderated to 7.5% for the next five years. The company did see its revenue decline in 2012 from the year earlier, but it expects 2013 revenues to inch higher, as its total and funded backlog stands at record levels. In fact, providing a sigh of relief to its investors fearing the effect of sequestration, MANT recently reported that the impact has been "relatively minor" so far. For the long run, MANT is positioning itself in new markets, namely healthcare and commercial cyber, that it expects "will drive (its) next phase of growth." The company pays a dividend yield of 3.3% on a payout ratio of 37% of the current-year EPS estimate.
Ship Finance International Limited (SFL), an international provider of marine dry bulk transportation services, is another contrarian play. It is currently trading at trailing and forward earnings multiples of 6.6x and 12.7x, respectively. Its price-to-book is 1.4, slightly higher than its industry's average ratio but lower than the stock's five-year historical metric. The company is struggling with challenges of the tanker market's overcapacity, which is depressing the charter rates for crude oil tankers. In fact, one of its largest customers, Frontline Ltd. (FRO), which currently leases 22 tankers from Ship Finance, has reported that "if the tanker market does not recover before 2015 and no additional equity can be raised or assets sold," it "will not have sufficient cash to repay its $225 million convertible bond loan at maturity in April 2015." This could adversely impact Ship Finance, Frontline's largest creditor. An adverse effect on cash flows could weigh on Ship Finance's future dividends. SLF has paid dividends for the past nine years, and is currently offering a yield of 9.7% on a payout ratio of 116% of the current-year EPS estimate.
CapLease, Inc. (LSE), a REIT that owns and manages single-tenant commercial real estate properties subject to long-term leases, is also an interesting high-yielding value play. LSE trades at a deep discount to NAV. Its trailing (2012) and forward (2013) price-to-FFO multiples are 11.2x and 12.1x, respectively. This valuation puts LSE at a significant discount to the overall office and industrial REIT sectors. The higher forward multiple is a result of a declining FFO in 2013. The decline is a result of the expected rent roll-downs at two warehouses properties under new leases, and projected downtime and property expenses associated with expected property vacancies this year. The company holds that re-leasing properties with lease expirations this year will add to growth in future years. It is also committed to continuing its growth through accretive acquisitions and built-to-suit projects. Dividends are also part of its long-term commitment. LSE has raised its dividend for three consecutive quarters now, representing a cumulative increase of 19% since the second quarter of 2012. This REIT is yielding 4.4% on a payout ratio of 54% of the current-year adjusted FFO (based on the guidance midpoint).
Prospect Capital Corporation (PSEC), a business development company (BDC) focusing on mezzanine debt, private equity, and buyouts, is yet another contrarian pick. The stock is trading at about 101% price-to-NAV, lower than the valuation of some of its peers, including Main Street Capital Corporation (MAIN) and Triangle Capital Corporation (TCAP). BDCs are required to distribute at least 90% of investment company taxable income to shareholders to avoid taxation at the corporate level. Therefore, PSEC pays a high dividend yield of 12%-the highest in its industry-on a payout ratio of 98%. The company has seen strong asset growth, and is boasting return on average assets and return on average equity of 7.47% and 11.15%, respectively, well above peer averages of 5.25% and 8.13%, respectively. The REIT's total debt-to-equity of 48% is also lower than its industry's average of 52%. PSEC's investment portfolio is diversified, but the company is still holding nearly a third of its portfolio in the consumer discretionary sector. The stock pays monthly dividends.
TESSCO Technologies Inc. (TESS), a value-added supplier of wireless communications products for network infrastructure, site support, fixed and mobile broadband networks, also boasts a contrarian value. The stock is trading at trailing and forward P/Es of 10.1x and 9.4x, respectively. For the reference, its peer CalAmp Corp. (CAMP) has trailing and forward P/Es of 17.7x and 15.8x, respectively. TESSCO has achieved four consecutive years of record earnings. Its revenues from fiscal year 2010 to the trailing twelve months have grown at a CAGR of 15%, while its diluted EPS has increased at a rate of 24% over the same period, despite the downward-trending margins. Diluted EPS is expected to set a new record this fiscal year, with a projected increase of between 3.0% and 5.9% from $2.03 per share in 2012. In the long run, the company is "more optimistic than ever about (its) opportunities being created by the convergence of wireless and the Internet." TESS is offering a dividend yield of 3.6% on a payout ratio of 34% of the March-2013 EPS estimate. It has raised its quarterly dividend cumulatively by 80% since May 2010.