Dividend stocks conjure up images of blue-chip names, but Aubrey Hearn sees plenty of appeal in small- to mid-caps, too. Smaller companies have greater growth potential, and that means they can raise their regular payouts faster. Still, he’s picky about stocks that he owns. Investing in profitable businesses with high barriers to entry and structural tailwinds, including some U.S. names, has helped his $1.1-billion CI Canadian Small/Mid Cap Equity Income Fund outperform the S&P/TSX Completion Index since 2005. We asked the 42-year-old portfolio manager, who also oversees the $3.1-billion CI U.S. Equity Fund, why he’s bullish on concert promoter Live Nation Entertainment and likes Cargojet, too.
What changes have you seen in your smaller-company playground?
When income trusts were hot 15 to 16 years ago, many companies aimed to have a high dividend yield when coming to market. Some were very cyclical, and others were not good businesses, so their dividends weren’t sustainable. Today, more companies that go public focus on growth and don’t care about the dividend pitch. It’s more about revenue multiples, and they often don’t have earnings.
Does that mean you don’t look at initial public offerings?
We do, but way less than before. Last year, we bought Softchoice, which pays a dividend. The software company gets big discounts from firms, such as Microsoft, Amazon and Google, and resells their products to smaller businesses. We also added Dentalcorp Holdings, a consolidator of dental offices. Those are extremely profitable businesses because most payments come from insurers. It’s among six stocks in the small-cap fund that don’t pay a dividend, but that’s fine because it generates lots of cash to buy more practices.
Live Nation Entertainment also doesn’t have a payout. What’s the attraction?
It’s a post-COVID-opening play, but it also has a tailwind from a growing appetite for live music. Live Nation’s Ticketmaster has relationships with most of the top artists, such as Bruce Springsteen and Justin Bieber. Artists need to hit the road to do concerts because they can’t rely on selling DVDs and don’t make much money from streaming services. There’s also pent-up demand for live events. When concerts were cancelled due to the pandemic, 86% of its customers as of August 2020 had opted to keep their rescheduled tickets, instead of asking for a refund. I think Live Nation will see double-digit growth over the next five to seven years. We don’t mind that it doesn’t pay a dividend because it’s acquiring other businesses inexpensively and getting high rates of return.
Resource names rarely make your radar. Are you warming up to the sector?
We prefer companies with more predictable earnings that can grow over time. With energy and mining stocks, you need to figure out where the commodity price is going to be. However, we are more bullish on natural gas than oil longer term because it’s a cleaner fuel. We do have two energy dividend stocks, but they are shorter-term plays. We own Pembina Pipeline, which gets paid for transporting gas, and Enerflex, a maker of natural gas compressors.
Cargojet’s shares lost altitude after peaking in 2020. Why do you still like it?
It controls 90% of the overnight cargo in Canada. That’s because cabotage rules prevent foreign aircraft from flying between destinations in this country. It also benefits from the e-commerce and one-day-delivery trend, but the worry is people will go back to physical stores once Omicron dies down. We think e-commerce continues to grow in Canada given its penetration is lower here than in the U.S. or U.K. Amazon has a deal to acquire up to 15% of Cargojet, so that relationship also gives us comfort.
What’s a big risk for equities now?
High inflation is one. Supply chain issues are causing inflation, and there is wage growth because of a war for talent. We try to focus on companies that can pass along price hikes. For instance, we own Waste Connections, a garbage company with inflation metrics built into contracts. We also have companies with pricing power, such as Cargojet. If it raises prices, there is nowhere else to go.
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