Three unloved U.S. dividend-paying stocks

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Dividend-paying stocks are gaining appeal as 2010 approaches.

Investors associate dividends with blue chips, the biggest companies with the most money for quarterly payouts. That type of stock, represented by the Dow Jones Industrial Average, has outperformed small-cap benchmarks over the past two months. But there are smaller, lesser-known companies that offer cheap shares and outsized dividends. Here are three that may exceed indices next year.

1. Universal Corp. purchases, stores and resells tobacco leaves. It mainly deals in flue-cured, burley and oriental tobaccos, primary ingredients of cigarettes. With a market value of $1.1-billion, Universal Corp. is dwarfed by Altria and Lorillard . Its dividend is also smaller.

Yet, Universal Corp. is the world's leading tobacco merchant and processor, operating in more than 30 countries. Consequently, its growth rates trump domestically focused rivals.

Fiscal second-quarter net income increased 26 per cent to $53 million, and earnings per share climbed 28 per cent to $1.77. Revenue fell 18 per cent to $648 million. Universal Corp.'s net margin, a measure of profitability, widened from 5 per cent to 8 per cent. That figure lags behind those of cigarette-selling peers. Excluding Reynolds American(RAI Quote), the big-name tobacco companies posted lower quarterly sales and profit, even Philip Morris International(PM Quote), whose international focus is supposed to ensure superior growth.

At its current share price, Universal Corp. pays a 4.1 per cent dividend yield. That figure is unremarkable relative to competitors' yields. But a payout ratio of 33 per cent indicates room for distribution growth. Universal Corp.'s stock is cheaper than that of the average tobacco company, based on trailing earnings, book value, sales and cash flow. Its price to earnings to growth ratio (PEG), a measure of value relative to expected profit growth, is low at 0.4. The industry average is 1.3. This means one of two things: Investors expect Universal Corp. to grow below-trend or its stock is undervalued.

2. International Shipholding provides marine transport services to commercial and government customers. Dry-bulk shippers, such as Navios Maritime and DryShips , are comparable investments with worse merits.

International Shipholding is TheStreet.com's top-ranked marine company due to its recent stock performance and record of consistent earnings growth. Over the past three years, International Shipholding has more than doubled profit annually, on average. The shares have fallen 22 per cent over the past month, presenting contrarians with a buying opportunity.

Third-quarter net income stalled at $11-million, but earnings per share climbed marginally to $1.55. The company's net margin narrowed from 13 per cent to 12 per cent as growth in voyage expenses exceeded a 9 per cent sales increase. Such deterioration is worrisome. Still, similarly sized marine rival Danaos recorded a 41 per cent profit drop, and Safe Bulkers notched a 43 per cent decrease.

All things considered, International Shipholding is faring well. Its 0.7 debt-to-equity ratio is less than the industry average, indicating conservative leverage. At its current share price, the stock yields 7 per cent, with a payout ratio of 40 per cent. The stock is cheaper than that of the average marine company, based on all of our valuation measures. The shares trade below book value per share, even though the quarterly return on equity tagged 16 per cent, beating the industry average and the S&P 500 Index. The PEG ratio, at 0.2, compares favorably to the marine industry average of 4.1. Shipping stocks are cyclically sensitive, but International Shipholding has a beta of 0.4, noticeably lower than those of competitors.

3. Universal Insurance Holdings is a Florida-focused home insurer. Writing policies in the Sunshine State is a risky endeavor, with hurricane season presenting unique geographic risks. Still, the company has proven its underwriting aptitude, helped by its small stature and regional expertise. Of the 145 insurance stocks evaluated by TheStreet.com's quantitative equity model, only 45 are rated "buy." Universal Insurance Holdings sits near the top of the list, but that doesn't mean it's risk-free.

Third-quarter net income soared 56 per cent to $12-million, and earnings per share jumped 47 per cent to 28 cents. Revenue grew 16 per cent to $55-million. The company's net margin widened from 16 per cent to 21 per cent. Its balance sheet appears well-managed, with $275-million of cash and $45-million in debt. But our insurance model, which takes a more holistic view of the business, gives the company a financial-strength grade of E-plus, implying the quality of assets is low and potential risk is great.

Still, management raised the year-end dividend to 20 cents, giving the stock an eye-catching 14 per cent yield, assuming dividend retention. Its payout ratio is excessive at 120 per cent. Universal Insurance sells at a price-to-earnings ratio of 5.9 and a price-to-cash flow ratio of 3.8. But the shares are expensive relative to insurance peers when considering book value, a metric often used to determine the cost of insurance stocks. A beta of 3.8 and volatility score of 3.5 reflect extreme price swings. Income-oriented investors who can stomach volatility should take a closer look.