3 Equity Income Funds With a Difference

LONDON -- All good Fools know that dividends make a big contribution to total investment returns.

Whether you're taking income or reinvesting dividends to benefit from the magic of compounding, and whether you invest in equity income funds or individual companies, you're likely to have a heavy weighting toward the giant cash machines of the FTSE 100 -- companies such as Vodafone, GlaxoSmithKline, and British American Tobacco.

Many income seekers steer clear of "risky" smaller companies, but a few equity income funds concentrate on this area of the market. They spread the risk and offer investors dividend diversification. Are they worth investing in?

Three funds
The table below gives some facts and figures on three equity income funds that focus on smaller companies.

Fund

Launch Date

Proportion of Fund in Small Caps

1-Year Return

3-Year Return

5-Year Return

Yield

Total Expense Ratio

Marlborough Multi Cap Income

2011

69%

13.9%

--

--

4.2%

1.6

Chelverton UK Equity Income

2006

88%

11.9%

62.6%

(0.4%)

5.3%

1.8

Unicorn UK Income

2004

94%

12.2%

71.8%

48.5%

4.4%

1.6

Unicorn, the longest-established of the trio, is the top-performing fund of the entire equity income sector over the last three- and five-year periods.

Chelverton is the second-best-performing fund in the sector over three years, but its five-year record leaves something to be desired -- even if it's a long way from being the worst performer over the period!

Not much can be said about the Marlborough fund just yet, except that the manager's growth fund of smaller companies has been a consistent outperformer since its launch in 1995.

Unicorn UK Income, then, has an excellent record and looks worth considering if you're a dividend investor who is interested in a one-stop shop for diversifying beyond the usual blue-chip suspects.

For more adventurous investors of a stock-picking bent, let's have a look at five individual companies that figure prominently in the three funds' portfolios.

TalkTalk Telecom (LSE: TALK.L  )
TalkTalk Telecom, which provides services to consumers and small and medium-sized enterprises, is the Marlborough fund's largest holding and the second-largest holding in the Chelverton fund.

In its most recent results, announced in May, TalkTalk raised its dividend by 20%. At the current share price of 188 pence, the trailing yield is 4.8%. However, the company has guided for dividend growth of at least 15% in each of the next two years, so the prospective yield for the 12 months ahead is a minimum of 5.5%.

Micro Focus International (LSE: MCRO.L  )
Micro Focus International, which provides software solutions for updating old applications, is the largest holding in the Chelverton fund.

Micro Focus's current share price is 545 pence. With analysts forecasting a dividend of 23.66 pence per share for the year to April 2013, the prospective yield is 4.3%. However, the company has also just announced a proposed return of cash to shareholders to the tune of 83 million pounds, or 50 pence per share.

Castings (LSE: CGS.L  )
One of those companies with an admirable self-explanatory name, Castings is an iron castings and machining group and the largest holding in the Unicorn fund.

Castings' dividend held steady at 10 pence per share in the difficult years of 2008 to 2010 but is now growing. The shares are currently trading at 332 pence, and with analysts forecasting a 12.5 pence-per-share dividend for the year ahead, Castings is on a prospective yield of 3.8%.

RPC Group (LSE: RPC.L  )
RPC Group is Europe's leader in rigid-plastic packaging products and plastic containers. This stock is a top-five holding for both Marlborough and Chelverton.

RPC has more than doubled its dividend in the last five years. Record net profit in the most recent of those years enabled the board to hike the dividend by 25%. However, analysts are forecasting more modest (single-digit) dividend growth for the year ahead. If they're right, with RPC's shares at 419 pence, the prospective yield is a below-par 3.6%.

Cineworld (LSE: CINE.L  )
Cinema group Cineworld is a top-10 holding for both Marlborough (third-largest holding) and Chelverton (10th-largest holding).

Cineworld has just released its half-year results and lifted its interim dividend by 5.6%. Ahead of the results, analysts had a dividend of around 12 pence per share penciled in for the full year. Cineworld's shares have seen a modest rise to 233 pence on the back of the results, putting it on a prospective yield of 5.2%.

Back to blue chips
There are certainly some smaller companies around with good dividend records and prospects, and the five I've flagged up here could merit further research by adventurous income investors.

Blue chips, though, will always provide the core for most dividend portfolios. If you're looking for ideas for big companies with high dividends and steady growth potential, I can recommend The Motley Fool's special report "8 Shares Held By Britain's Super Investor" -- which is free to download right now. Ace City investor Neil Woodford's success rests on his ability to identify great blue-chip dividend shares, and our exclusive report tells you all about his current favorites. Simply click here for your free copy.

Legendary U.S. investor Warren Buffett -- who only invests selectively outside of his home territory -- has also been buying into one of the FTSE 100's dividend machines. You can get the full lowdown on this one in another free Motley Fool report: "The One UK That Share Warren Buffett Loves" -- which, again, can be in your inbox in seconds simply by clicking here.

Further investment opportunities:

G A Chester does not own shares in any of the companies mentioned in this article. Motley Fool newsletter services have recommended buying shares of Vodafone Group. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.


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