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What are we looking for?

My team member, Allan Meyer, and I are highlighting one of our favourite valuation metrics, free cash flow-to-enterprise value, by analyzing Canadian dividend payers using our investment philosophy focused on safety and value. We thought this might be an advantageous time for investors to seek yield and compelling valuations as we enter what some call the “summer doldrums,” a traditionally slow period for financial markets, coupled with forecasts from some economists and strategists for a minor recession.

The Screen

We started with Canadian-listed equities with a market capitalization of $1-billion or more, as a safety factor. Dividend yield is the projected annualized dividend divided by the share price. Some investors have an appetite for income – i.e. dividends – which in the financial market is comparable to collecting rent in real estate. Also, dividends generally reflect safety and stability. All securities listed yield 4 per cent or more.

Dividend payout ratio is the dividend payment divided by earnings. A lower number is better. We’ve capped payout at 100, anything above that could be a warning sign.

Debt/equity is our final safety measure. It is the debt outstanding divided by shareholder equity. A smaller number is preferred.

Free cash flow-to-enterprise value (FCF/EV) is a valuation metric we are particularly focusing on. FCF is the cash left over for investors after all expenses, reinvestments and capex (i.e. the money leftover after the basic needs of running the business are met). EV is a measure of the company’s total value, excluding its cash. The higher the number the better the value.

All securities listed have a FCF/EV of 7 per cent or better and the list is sorted on this metric from highest to lowest. We prefer free cash flow because it is often more difficult to manipulate compared with other accounting and valuation metrics. Follow the money (i.e. cash flow) as some might say.

Earnings momentum is the change in annual earnings over the last quarter. A positive number implies earnings are increasing, which is a proxy over the long term for capital appreciation and dividend hikes. The opposite is true for a negative number. Last, we’ve provided the 52-week total return to track recent performance.

What we found

Which of these 18 Canadian stocks offer safety and value?

Manulife Financial CorpMFC-T47.55.648.026.437.40.617.625.70
Canadian Imperial Bank of CommerceCM-T51.26.164.6210.820.9-1.0-13.656.39
Cardinal Energy Ltd (Alberta)CJ-T1.
Suncor Energy IncSU-T51.65.333.139.717.9-6.7-20.039.35
Great-West Lifeco IncGWO-T36.05.460.936.716.80.024.738.60
Canadian Western BankCWB-T2.45.237.9100.116.1-2.7-11.825.20
Canadian Natural Resources LtdCNQ-T82.64.837.934.015.5-10.5-5.674.47
Russel Metals IncRUS-T2.24.427.527.115.1-6.322.135.63
Freehold Royalties LtdFRU-T2.17.577.616.514.4-2.9-3.814.22
Power Corporation of CanadaPOW-T21.55.975.791.413.90.43.835.10
Peyto Exploration & Development CorpPEY-T1.911.835.241.912.3-2.3-22.111.08
Bank of Nova ScotiaBNS-T78.76.460.6273.510.9-5.9-16.965.89
Gibson Energy IncGEI-T3.17.082.3299.99.517.3-13.422.00
Toronto-Dominion BankTD-T141.64.923.4316.98.7-0.9-13.877.60
CI Financial CorpCIX-T2.55.371.4272.78.1-3.4-8.913.44
Royal Bank of CanadaRY-T170.64.451.3300.48.1-3.1-2.1122.92
Pembina Pipeline CorpPPL-T23.76.256.371.77.4-3.9-13.742.93

Source: Refinitiv Eikon & Wickham Investment Counsel Inc.

Manulife Financial Corp. MFC-T and Cardinal Energy Ltd. CJ-T score well for safety and value. Manulife also boasts the best FCF/EV, while Cardinal Energy has almost no debt and a yield over 10 per cent, second only to Peyto Exploration and Development Corp., which also looks interesting.

Gibson Energy Inc. GEI-T leads the way in earnings momentum and pays a decent dividend, but its debt levels are on the high side. Given the low payout on Toronto-Dominion Bank, one wonders if it’s a candidate for a dividend hike.

It is interesting to note that the list is dominated by energy and financials and there are some very strong FCF/EV numbers, yet the majority of the names have negative earnings momentum.

Investors should contact an investment professional or conduct further research before buying any of the securities listed here.

Sean Pugliese, CFA, is an investment portfolio manager at Wickham Investment Counsel, helping individuals, families and other investors.

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