Finding the dividend payers of the future

Professional investor Ken Wotton of the Baronsmead Venture Capital Trusts picks three small-cap stocks that should generate consistent dividend payments.

The wave of Covid-induced dividend cuts is forcing many British investors to re-evaluate their saving strategies. According to stockbroker AJ Bell, total dividend payments for 2020 are on course to be the lowest in six years – £63bn – with cuts estimated at £31.6bn. With £26.5bn – more than 80% – of the cuts coming from FTSE 100 firms, the current crisis has reminded investors of the importance of diversification. Historically, savers have relied on the blue-chip index, but there are plenty of income-generating small caps with more consistent payout policies.

Many investors assume that smaller companies are always more vulnerable to economic difficulties, but we look for companies dominant in niche markets that are relatively insulated from macro dynamics. Investors’ instinctive aversion to smaller companies means they can be neglected and thus offer us an attractive entry point. They are currently trading at a substantial discount to large caps.

A fantastic record of payout increases

Bioventix (Aim: BVXP), for instance, is a research-and-development company focused on producing antibodies for clinical diagnostics and pharmaceutical research. Thanks to its highly cash-generative business model, the £220m market cap company – which has a dividend yield of 2% – has a fantastic record of dividend increases: a 30% compound annual growth rate (CAGR) over five years. This means if you bought the shares on 1 July 2014, more than 80% of your original cost would have been returned in dividends and your capital would have appreciated by 750%.

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Another little-known consistent dividend growth story is Anpario (Aim: ANP), an £85m market-cap natural animal-feed additive producer for global agriculture and aquaculture markets. The company offers a 2.3% dividend yield and has seen 12% dividend-per-share CAGR over the past five years. The dividend cover is well over two times.

Securing new income streams

While hunting down the market-cap spectrum can unearth dividend payers to alleviate the income drought, investors should not stay fixated on current payouts. Now is the time to focus on high-quality, promising businesses with the capacity to grow and pay dividends in the future.

The Baronsmead venture capital trust portfolios blend earlier-stage unquoted businesses, which provide access to capital growth, with more stable income-generating Aim stocks. This unique approach allows us to identify the dividend payers of the future while maintaining a regular income stream.

By taking smaller initial stakes in a broad range of early-stage companies we can manage downside risk as we assess the business growth potential. We then focus on the best companies, providing further capital and expertise. If a company scales up and becomes a listed reliable dividend payer, we can also invest in it through our other open-ended equity funds.

Ideagen (Aim: IDEA) is one company we have our eye on. The market-leading provider of governance, risk and compliance software already pays a dividend and, as it matures, will form an increasing proportion of our overall return. This is a stock we invested in originally at 19p in 2013. It now costs 172.5p.

Ken Wotton is a fund manager at Livingbridge Equity Funds