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, thus 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 bead on whether a company has room to increase its dividend. Ideally, we like to see healthy payout ratios between 50% and 75%. Here are three income stocks with payout ratios currently below 50% that could potentially double their dividends.
This week, we're going to start off with a trading, clearing, regulatory, listing, and data company you're probably well aware of if you're an investor: Nasdaq (NASDAQ: NDAQ).
Three factors in particular could make Nasdaq an attractive investment opportunity for dividend investors. First, its diversity allows it to earn money in just about any market environment. Yes, market services still accounts for Nasdaq's largest single component of revenue, but it's been branching out to bolster other aspects of its business model. For instance, information services, data products, and index licensing and services are all components of Nasdaq that offer much better growth potential than traditional market services. More important, they can deliver growth even when trading volumes are down.
Secondly, Nasdaq offers inorganic growth potential. In 2015, Nasdaq gobbled up Dorsey Wright & Associates (better known as DWA) for $225 million in order bolster its growing smart beta index portfolio. DWA's 17 smart beta ETFs, combined with Nasdaq's 69 at the time, allowed Nasdaq to become the leading smart beta index provider. This, in turn, helped pushed index licensing and service revenue up about 32% in the fourth quarter.
Lastly, Nasdaq does a pretty good job of rewarding its shareholders. During 2015, Nasdaq returned $526 million to shareholders via stock buybacks and dividend payments, including $67 million in stock repurchases during the fourth quarter. Stock buybacks help lower the number of shares outstanding, thus boosting EPS and possibly making a company's valuation look more attractive.
Currently sporting a 2% yield ($1.28 paid annually), Nasdaq could be pushing for $5 in EPS by 2020. If it can continue to grow its EPS at a mid-to-high single-digit pace, a doubling in its dividend by 2025 or earlier seems feasible.
Next, income investors (and man's best friend) could wind up with smiles on their faces if they take a closer look at Patterson Companies (NASDAQ:PDCO), a provider of dental supplies and technology, as well as veterinary supplies for companion pets.
Patterson's two segments are more or less similar in size in terms of revenue generation. During the third quarter, dental products accounted for about 46% of sales. Although Patterson alluded to technical services, software, and dental supplies as strong points in its fourth quarter, it's the company's CAD/CAM technology (computer-aided design/computer-aided manufacturing) and collaborations that should really drive its growth within dental labs.
In April of last year Patterson and Sirona Dental Systems (now owned by Dentsply) announced an agreement to provide CAD/CAM technology to dental groups affiliated with American Dental Partners. Just a few months later, Epson and Patterson forged an agreement to create Epson smart glasses that allow CAD software to produce 3D digital models of patient teeth for dental restoration. CAD/CAM is only going to grow in importance in this niche, and Patterson appears set up for success in the market.
Additionally, Patterson is taking advantage of consumers' love for their pets. According to the American Pet Products Association, U.S. pet industry expenditures increased from $17 billion in 1994 to $60.3 billion in 2015. As consumers' willingness to spend more on keeping their pets happy and healthy grows, it plays right into Patterson's strengths.
Patterson also agreed to buy Animal Health International for $1.1 billion last year to bolster its existing animal health business, and also to expand into commercial health products.
As an added bonus, if you like share buybacks and dividends, you'll like Patterson. The company has returned $200 million to its shareholders via buybacks through its first fiscal nine months, and also paid $67 million in dividends to shareholders. Based on its 2.2% dividend yield ($0.96 annual payout), and Wall Street's estimates of Patterson pushing through $3.25 in EPS by 2019, a doubling in its dividend over the next decade seems reasonable.
Finally, we'll end by looking at what could be referred to as a dividend laggard in the utility sector, Ormat Technologies (NYSE:ORA).
What allows Ormat to stand out from its competitors is that it's a leading provider of recovered energy generation. Specifically, Ormat is a leader in creating solutions for harnessing geothermal power. As you might imagine, with prices for natural gas at nearly two-decade-lows and prices for crude oil hitting 12-year lows earlier this year, it has been tougher for Ormat to secure contracts of late. Higher prices for fossil fuels tend to push alternative energy solutions to the forefront.
Despite these concerns, Ormat Technologies' leadership role in geothermal could be just what dividend investors ordered. The company continues to learn as it goes, improving its efficiency and modestly growing its margins. Its solutions have led to more than 2,000 MW of gross capacity coming online throughout the world, and it's currently operating a portfolio capable of nearly 700 MW of generation in the U.S., Guatemala, and Kenya. Looking ahead, Ormat could boost its generating capacity by 160 MW to 190 MW by the end of 2018 as it brings new plants online and grows inorganically.
The other factor working in Ormat's favor is that global energy demand is likely to rise over the long term. This should lead to higher crude and natural gas prices, and provide an in-step increase in the alternative energy solutions that it can offer.
At the moment, Ormat is paying out just a 1.2% yield. However, its EPS could easily grow at a high single-digit percentage throughout the remainder of the decade and beyond. This suggests that a doubling of its dividend within the next 10 years (and a subsequent improvement in yield) is possible.
Sean Williams has no material interest in any companies mentioned in this article. You can follow him on CAPS under the screen name TMFUltraLong, track every pick he makes under the screen name TrackUltraLong, and check him out on Twitter, where he goes by the handle @TMFUltraLong.
The Motley Fool owns shares of Ormat Technologies, and recommends Nasdaq. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.