Small-cap investing tends to be a bit like shopping in a jumble sale: plenty of bargains, sure, but you have to rummage.
You’ll find the odd hidden gem, but you’ll also come across a fair few items that look better from a distance than they do close up.
So when it comes to finding income stocks in the lower reaches of the market, it pays to be selective.
You want companies that not only pay a decent dividend, but can actually afford to keep doing so. Ideally, they should also be growing earnings faster than the broader market; a rare combination at the best of times.
Using the screening tools on Stockopedia, I set up a screen to identify reliable small-cap income plays: companies listed in the UK with market caps between £50 million and £250 million, a dividend cover ratio above 1.0, a five-year average yield of more than 5 per cent, and forecast earnings growth in the double digits.
The results are in - and they are worth a closer look.
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A surprisingly robust shortlist
Six names passed the test. Three hail from the financial sector, two from basic materials, and one from consumer cyclicals. All boast respectable yields, covered dividends and, crucially, promising growth prospects over the next two years. But what sets this group apart is not just the numbers – it’s the consistency.
Take Personal Group Holdings PLC (AIM:PGH), a small insurance business with a £72m market cap. Its dividend is covered (just about) and it yields a solid 6.4 per cent. What stands out, though, is the forecast earnings growth of 26 per cent. The group’s niche in employee benefits might not sound exciting, but it’s sticky business – once a firm signs up, it tends to stick around.
A more muscular financial outfit on the list is S&U PLC (LSE:SUS), a provider of motor finance that has quietly outperformed much larger rivals. Its £173m market cap gives it a bit more ballast, and while the 5.7 per cent yield may not knock your socks off, it’s comfortably covered and backed by 23 per cent forecast earnings growth. The subprime lending model is not without risk, but the management team is seasoned and has seen off tougher cycles than this one.
Secure Trust Bank PLC (LSE:STB) also makes the cut, offering a lower yield at 5.6 per cent but with the strongest dividend cover in the list at 3.0 times. That’s reassuring. It’s a well-capitalised niche bank that steers clear of the more reckless parts of consumer lending, and it boasts 31.8 per cent forecast EPS growth. Not bad for a £112m company often overlooked by the wider market.
Materials and consumer names with income credentials
In the basic materials corner, Sylvania Platinum (AIM:SLP) delivers a thumping yield of 7.95 per cent, with a healthy cover ratio of 1.9. It’s a play on the recovery in platinum group metals, and while commodity prices can be volatile, the company is profitable and debt-free. With 20 per cent earnings growth forecast, this miner looks more refined than most.
Castings PLC (LSE:CGS) is another stalwart of the income screen, offering a 6.4 per cent yield, decent cover and – here’s the kicker – a stunning 75 per cent earnings growth forecast. The company’s steady, old-school engineering business seems to be hitting its stride, with strong order books and a customer base anchored in commercial vehicles.
The wildcard in the list is Ultimate Products (ULTP), the consumer goods distributor behind homeware and kitchen brands like Salter and Beldray. It’s the smallest company in the screen at just £56m, but it offers a 5.7 per cent yield, respectable cover, and more than 30 per cent earnings growth forecast. For a business that sells to discount retailers, it has kept margins impressively steady.
The bottom line
Of course, screens can’t do due diligence. They don’t account for changing business models, incoming regulation or – let’s face it – management blunders. But they do give us a starting point. And this particular screen has thrown up a tight, diverse group of small-cap income stocks that look unusually well-placed.
Each has its quirks. There are exposure risks to metals prices, subprime credit, the fickleness of retail. But what they share is a combination of strong yields, covered payouts and promising growth forecasts. In other words, they could be some of the safest bets for dividend investors in a part of the market better known for drama than dependability.
For those willing to dip their toes into the small-cap pool, this shortlist is a decent place to start. Just don’t forget to keep an eye on the water level.
If you want to try the screen on Stockepdia or any other, click this link. Proactive readers get a 14-day free trial and a 25% discount. Use coupon code 'PI25'.