5 Stocks With Strong Cash Flow And Large Dividends

by: Stock Croc

A time-tested market axiom has it that stocks that pay dividends are less risky than those that pay little or no dividends. The dividend-payers are older, more established companies, probably in the twilight of their years, past their prime growth. Is this yesterday's news?

Not necessarily. For starters, only companies with good cash flow can afford to pay out dividends, and good cash flow is one attribute of successful businesses. A tiny dividend may reflect tiny profits. Or very high dividends may signal very high risk. Both statements may be true. Certainly, dividends are one way of earning money in the stock market, and the stocks discussed below illustrate different pieces of the market puzzle.

The Boeing Company (NYSE:BA) was cruising recently above $74 a share, in the upper end of its 52-week price range of $56.01 - $80.65. Its price earnings ratio was 13.9% on earnings of $5.32 per share in 2011, with a yield of 2.3% based on $0.44 in annual dividends. That is small change for this defense giant that derives the lion's share of its revenue from military customers - notably the U.S. aerospace and defense industry. Boeing's 2011 profits exceeded analysts' consensus estimates, but the U.S. defense department wants to reduce the defense budget by $100 billion over the next five years, and other countries are planning similar cuts.

Boeing recently decided to shut down its Defense, Space and Security facility in Wichita by the end of 2013. Going forward, the company plans to target more on orders from global clients as well as from its commercial aircraft customers. Boeing has also spent the past year teaming up with Northrop Grumman Corp (NYSE:NOC) on a program to develop ground-based missile defense systems, and with teams from Boeing, Lockheed Martin (NYSE:LMT) and Northrop to develop technology that would improve aircraft fuel consumption.

In a recent press release, Boeing chairman Jim McNerney said:

With a record backlog and intense focus on productivity, we are well positioned to deliver growth and increased competitiveness, even as we face constrained U.S. defense spending and pension headwinds.

This blue chip's focus is on corporate growth and technology, with no change up or down in dividends paid to shareholders.

Another of the august stocks in the Dow Jones 30 Industrials, Alcoa Inc. (NYSE:AA), is one of the cheapest in the market, trading below its book value. Even though it's sitting on almost $2 billion of liquid assets, the stock pays a skimpy $0.03 per quarter in dividends, for a yield of 1.2% on earnings of $0.55 in 2011. The stock's price range last year was $8.45 - $18.47. Alcoa had been one of analyst Jim Cramer's "Mad Money" favorites until mid December, when he reclassified the stock as "dead money."

Although aluminum demand grew 10% in 2011, prices fell 18%, causing the company to post a fourth-quarter loss, even though its revenue beat expectations. However, Alcoa's outlook for 2012 and beyond is positive. The company recently announced it is expanding its aluminum lithium capacity at three different locations around the world to supply growing demand from the aerospace industry for its new, patented alloys. These alloys will allow manufacturers to build dramatically lighter, lower cost, more fuel-efficient airplanes than is possible with conventional materials. Alcoa CEO Klaus Kleinfeld is forecasting a 7% increase in global aluminum demand in 2012, at a time when he expects supplies to "fall into a deficit because of a combination of improving demand and production cutbacks." For quality oriented, long-term investors, Alcoa is worth a close look, unless current income is a priority.

For more than 85 years, Caterpillar, Inc. (NYSE:CAT) has been making sustainable progress and driving change on every continent. The stock closed trading recently at nearly $114 per share, near the top of its 52 week range of $67.54 - 116.55, following reports of a spectacular fourth quarter. The company reported earnings per share of $2.32 for the fourth quarter ($7.40 for 12 month period), far ahead of consensus estimates, on record-breaking 2011 sales and revenues of more than $60 billion - an increase of 41% over 2010. It also raised guidance for 2012.

Caterpillar's stock is not cheap; its current price earnings ratio is 15.3% and annual dividends of $1.84 give it a current dividend yield of 1.7%. However, its PEG (price earnings to growth) ratio shines a much more favorable light on the stock. The company's strength last year primarily came from rising demand in emerging countries, including China and India. In addition to its core construction equipment business, two subsidiaries - Caterpillar Financial and Caterpillar Remanufacturing - are active in financing and recycling end-of-life heavy equipment products, and its November, 2010 purchase of Bucyrus International expanded the company's global presence in the mining equipment industry. Blue chip investors looking for potential dividend growth should consider this stock, unless their focus is current income.

An article on Seeking Alpha describes Annaly Capital Management Inc. (NYSE:NLY) as, "…the granddaddy and arguably one of (if not the) the best managed mortgage REITs in the United States." With a market cap of more than $6.5 billion, its portfolio features government-backed mortgage securities guaranteed by Fannie Mae (OTCQB:FNMA) and Freddie Mac (OTCQB:FMCC), and the company uses derivatives to hedge against changes in interest rates.

Annaly's stock is selling around $17 a share, near the top of its 52-week range of $14.05 - $18.79, with a price earnings ratio of 12.6%. What widens investors' eyes during this period of uniformly low interest rates is the stock's current yield of 13.3%. As a REIT that primarily buys mortgage backed securities, default risk is virtually nil, because the securities are backed by the government agencies that issue them, but there are interest rate and regulatory risks. If interest rates rise or fall precipitously, the value of the portfolio and the size of the dividend would change. And legislators in Washington are trying to stabilize the U.S. housing market through programs that could impact the market for mortgage securities. However, Ben Bernanke recently extended the period for keeping the Federal Funds Rate near zero through 2014, which should help high-yielding REITs like Annaly maintain their current yield spreads, extending to their appeal.

Chimera Investment Corporation (NYSE:CIM) is a specialty REIT managed by Fixed Income Discount Advisory Company (FIDAC), a wholly owned subsidiary of Annaly Capital Management. The stock trades at around $3 a share, with a 52-week range of $2.38 - $4.34. Because the company elected to be taxed as a REIT, it is required to pay out at least 90% of its earnings to shareholders. The stock's yield is over 14% based on its current annual dividend of $0.44 per share. With a price earnings ratio of 5.75%, the stock is cheap. Chimera specializes in non-agency backed residential mortgage securities [RMBS], so its risk exposure and yield are likely to remain higher than Annaly's. However, during the most recent quarter, the company substantially increased its holdings in agency-backed mortgages. Most of the securities added were short-term and this positioning, along with the company's increased emphasis on adjustable-rate securities, may reflect a temporary, defensive strategy. If interest rates remain low for an extended period, Chimera's present defensive positioning may not benefit shareholders long term.

From one perspective, Annaly and Chimera are opposites. Both are income-oriented, but one is low risk and the other high. Perhaps for most investors in search of dividends, one or more of the other three is a more comfortable fit.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.