Dividend stocks can be the foundation of a great retirement portfolio. Not only do the payments put money in your pocket, which can help hedge against any dips in the stock market, but they're usually a sign of a financially sound company. Dividends also give investors a painless opportunity to reinvest in a stock, compounding gains over time.
However, not all income stocks live up to their full potential. Using the payout ratio -- i.e., the percentage of profits a company returns to its shareholders as dividends -- we can get a good read on whether or not a company has room to increase its dividend. Payout ratios between 50% and 75% are ideal. Here are three income stocks with payout ratios currently below 50% that could potentially double their dividend payments.
We'll being the week by taking a closer look at a retail powerhouse that America has come to embrace: warehouse membership club Costco (COST 4.26%).
Unlike the other two companies we're going to take brief looks at this week, Costco hasn't fallen significantly off of its all-time high. Shares have remained strong thanks to a number of key growth drivers.
Arguably the biggest growth driver for Costco has been the persistent weakness in the U.S. economy. GDP growth has been hovering around 1% despite interest rates being near historic lows, and certain goods and services, such as healthcare and college tuitions, are growing much faster than wage growth. This means one thing for Costco: more consumers. Costco, which is advertised as a low-cost leader, draws shoppers looking to buy in bulk for an attractive price during times of economic weakness. With no clear cut sign that U.S. GDP growth is going to accelerate anytime soon, Costco continues to benefit from the uncertainty.
Costco is also getting over one of the biggest hurdles in its history. Namely, switching its credit card provider from American Express to Visa. When Costco's partnership with AmEx ended after nearly two decades it created a period of confusion for new members who weren't receiving the benefits that are typically offered to new members for spending at Costco. With Visa memberships now firmly in place and cash-back offers now on the table, Costco is in a position to drive new member growth once more.
Loyalty is another factor why Costco is a long-term winner. Yes, having consumers pay for an annual membership helps keep them loyal -- but they don't have to buy a membership in the first place. They do so because Costco's vast selection of goods, its incredible deals for bulk purchases, and its positive PR image, which comes as a result of the company taking care of its employees with a higher wage than the industry average and health coverage options for full- and part-time workers.
Currently paying out $1.80 annually (a 1.2% yield), but on track to possibly earn more than $8 in full-year EPS by 2020, Costco looks like a good candidate to double its dividend in the coming 5 to 10 years.
A second company income investors may want to consider comes from an industry not traditionally known for consistent cash flow: airlines. Nonetheless, Allegiant Travel (ALGT 0.92%) stands out as one of the most profitable airlines in the industry, making its dividend a clear candidate to double in the years that lie ahead.
The most recent concern for Allegiant, and the reason its share price has retreated from north of $221 to $153 a share, can be traced to falling jet fuel costs. If this statement leaves you scratching your head, you're not alone. The presumption is that lower jet fuel costs are good for the airline industry since fuel costs are an airline's leading expense. However, lower fuel costs have reduced ticket fares and given major airlines more cash flow to work with. These major airlines are using this extra cash to be more cost-competitive with the likes of bare bones fare airlines like Allegiant.
My personal suspicion is that this recent weakness in Allegiant's stock is likely temporary, and that its inherent advantages should allow it to separate itself from its peers and prosper.
For example, Allegiant actually has one of the oldest fleets in the air. Although it's made a deal to buy 12 new Airbus A320s, the vast majority of Allegiant's fleet was purchased secondhand, leading to an average fleet age of 21.6 years. The advantage of older aircraft is simple: they're a lot cheaper to buy. Purchasing secondhand aircraft has meant less in upfront capital, making it easier for Allegiant to expand its capacity. Though older aircraft are less fuel-efficient, lower jet fuel prices have made this somewhat of a moot point.
Allegiant also benefits from its ancillary revenue-focused model. Allegiant dangles a low fare as a carrot to get the passenger hooked, then uses its optional fees to rake in the profits. Many of Allegiant's optional fees encourage the consumer to handle printing, seat selection, and other aspects of their flight themselves at home before they reach the airport in exchange for a smaller ancillary fee. Doing so frees up Allegiant's agents from costlier human-to-human interactions, pumping up its margins.
A current payout of $2.80 a year (a 1.8% yield) isn't bad considering that Allegiant didn't even start paying a regular dividend until 2012. However, with $12+ in full-year EPS projected in each of the next three years, further increases to its payout appear likely.
Finally, audio solutions specialist Harman International (HAR), which is the company behind such brands as Harman/Kardon and JBL, could be worth a closer look by dividend investors.
The reason shareholders have witnessed Harman International shares retreat from upwards of $140 in 2015 to just $80 today mostly has to do with a few quarterly profit misses and tempered expectations for the auto industry. Harman's fiscal third-quarter results earlier this year missed expectations by $0.07, and numerous pundits have predicted that 2017 could be the peak year for auto sales. Since Harman is so intricately tied to the health of the auto industry with its sound and infotainment solutions, slowing auto sales could cap its near-term growth.
Yet Harman has a number of catalysts it could exploit to continue to drive growth. One of those avenues is emerging market growth. Growth in the BRIC countries (Brazil, Russia, India, and China) continues to outpace slower growth in developed markets. Considering that China is the largest auto market in the world, but growth there is still only beginning, Harman could deliver regular double-digit percentage growth.
Secondly, income investors shouldn't overlook Harman's exceptional backlog or its brand-name products. Harman is known for getting its products in higher-end vehicles, such as Porsche, Lexus, Maserati, and Audi, which means a good portion of the customers that its products are targeting are more affluent and less responsive to economic weakness. That's a positive for Harman, which ended the fiscal first quarter with an automotive backlog in excess of $24 billion. For added context, this is in the neighborhood of four years' worth of auto revenue.
Having more than quadrupled its quarterly payout to $0.35 since mid-2012, Harman's $1.40 annual payout (1.7% yield) may look decent. But with $10 in full-year EPS forecast by Wall Street in 2020, dividend growth may be just getting started for this audio giant.