As readers might have guessed from some of my past articles, I am a devotee of the long-term-growth school of investing with a taste for international equities and a healthy appetite for risk. That explains my continued bullishness about emerging-market plays such as America Movil
That being said, I'm not immune to the Siren song of a company that sports a hefty dividend -- especially with the current 15% dividend tax rate -- and am always on the lookout for what I like to call "growing bonds." These are simply stocks that offer a decent dividend and, in my Foolish opinion, the prospects of share price appreciation through either earnings growth, improved free cash flow generation (and hence increased dividends and expanded share buybacks), or a combination.
Of course, given my taste for investment swashbuckling and my belief that U.S. equities will continue to underperform over the next couple of years, I tend to look for these opportunities in high-growth emerging markets where dividend-paying stocks don't necessarily equate to low-growth investments.
Three of my favorite "growing bond" plays that fit this mold are Huaneng Power International
Let's take a brief look, shall we?
Yield to the people
Huaneng Power is the largest publicly listed power producer in China. The company owns or operates 32 power plants with current installed capacity of 24,533 megawatts (MW), has an additional 7,000 MW of generation capacity under construction, and holds just more than a 6% share of China's highly fragmented power market.
Huaneng Power is well-positioned to benefit from the torrid pace of economic expansion in a country where GDP grew at an 11.3% annualized rate in the most recent quarter. The demand for power continues to increase -- electricity consumption jumped 13.5% in 2005 alone -- and growth opportunities, both organic and through acquisitions, are plentiful as China's power industry consolidates.
After getting smacked with lackluster results in 2005 by a brutal blend of rising coal prices and a decline in coal quality, things look to be back on track for Huaneng Power, thanks to a government policy that now lets power producers raise electricity prices when the cost of coal rises. The positive effects of this policy were evident in the company's results for the first quarter, ended March 31, which saw revenue increase by 8.5% to $1.26 billion but net profits jump by 38% to $136 million despite unit coal prices that were similar to those in last year's period.
The company's relationship with its state-owned parents, Huaneng International Power Development Corp. (HIPDC) and Huaneng Group, gives the company preferential rights to acquisitions of state-owned assets and helps cut through red tape when it comes to new-plant construction. While hardly quantifiable, it's hard to believe that this relationship doesn't give the company some type of competitive advantage.
Given these potential drivers of earnings growth and the company's attractive 4.8% yield, I think Huaneng Power's shares could add a little juice to any investor's portfolio.
Dialing up its payout
Let's get this out of the way: Income Investor recommendation Telefonica Chile, the largest telecom provider in Chile, is no longer a growth stock in the traditional sense. After all, with the sale of its wireless operations to Spain's Telefonica Moviles in 2004, the company lost its main driver of both revenue and earnings growth. Its market share in the fixed-line business declined to 71% as of the end of 2005, and management now expects revenue to be essentially flat for fiscal 2006.
Sounds like I've lost what little remains of my mind, right?
But the reason for investing in Telefonica Chile is based not on earnings growth but on the strength of its cash flow and the company's new policy of paying out 100% of net income in the form of dividends, up from 30% previously. With that kind of payout, any upside surprises would just be icing on the cake -- and with Chile's economy growing at a 6% clip, anything is possible.
Like all fixed-line telecom players, Telefonica Chile generates significant amounts of free cash flow from its operations. While competitive pressure has dinged cash flow in recent quarters, there is some light at the end of the tunnel. EBITDA margins have improved sequentially for two quarters now, helped by a more benign regulatory environment in which the company has been allowed to increase its tariff rates, lower capital expenditures, and strong growth from its higher-margin broadband operations. Furthermore, management's focus on debt reduction over the past year has freed up some incremental cash for the dividend till. Debt stood at $824 million in the most recent quarter, ended June 30, but that was down 23% from the prior year's period.
Nobody likes to hear the words "please hold," but with shares of Telefonica Chile currently sporting a none-too-shabby 5.8% yield and with the likelihood of increased payouts just around the corner, that's just what I believe investors should do.
Banking on growth
My last choice for a so-called "growing bond" is Banco Itau, a company I wrote about in a recent commentary, "Banco Itau: Cashing In on Brazil's Growth." To make a long story short, Banco Itau stands to benefit from strong Brazilian economic growth, its leadership positions in Brazil's corporate-lending and credit-card markets, and the recent accretive acquisitions of Bank of America's
Given that shares are trading at around 10 times fiscal 2007 estimates, at a 44% discount to the company's projected long-term growth rate, and with a decent yield of 2.6%, I think investors might want to take a look at banking on Banco Itau's future growth.
An eclectic mix
I realize that these three stocks are a rather motley mix: Telefonica Chile is primarily a dividend play that will see its stock price appreciate on the basis of cash-flow generation, Banco Itau is basically an earnings-driven stock with a dividend component, and Huaneng Power offers a nice blend of both. In any case, I believe that each stock offers its own charms and that investors might be interested in taking a look at one or another of these "growing bonds."
Telefonica Chile and Bank of America are recommendations of Motley Fool Income Investor , whose portfolio of dividend payers is beating the market by more than 5%. Try out the newsletter service free for 30 days.
Fool contributor Will Frankenhoff is enjoying his time writing for the Fool more than he enjoys reading The Financial Times, rooting for the New York Giants, or pondering the vagaries of life. He welcomes your feedback and does not own shares in any of the companies mentioned above. The Fool has a disclosure policy.
