When it comes to a dividend-seeking investment strategy, most investors not only hunt for companies which pay regular and consistent dividends but also look for what is known as a “dividend champion”. This is a company that is able to increase its dividends consistently over the years.
A perfect example is VICOM Limited (SGX: V01), or VICOM for short, which has seen its dividends rise by an impressive 389% in just 10 years. As a recap, VICOM is a leading provider of technical testing and inspection services in Singapore. It has a dominant market share in vehicle testing and is also growing its non-vehicle testing and inspection services slowly but steadily.
Copious amounts of operating cash flow
As I’ve mentioned before, VICOM is a company that generates a huge amount of operating cash flow. By looking at its capital expenditure (capex) requirements over the years, one should notice that the levels of capex required are far below the amounts of cash flow it generates. This excess allows it to build up its cash holdings, which stands at S$104.1 million as at end-2018.
The table above shows that the capex required in the last six years (2013 to 2018) is around S$3 million to S$4 million, and is significantly lower than the amount of operating cash flow generated, which averages S$30 million. For 2018, there was an acquisition of a new property, in order for VICOM to shift its premises to Bukit Batok, which soaked up S$23.1 million. Stripping this out, the remaining capex would have been just S$3.1 million.
Increasing dividend payout ratio
When companies end up generating excess cash flows which pile up on their balance sheets, management can then choose to increase the dividend payout ratio (the percentage of profits paid out as dividends). By doing this, the company is able to steadily increase its total dividend per share (DPS) over the years. And this is exactly what VICOM has done, as you can see below.
Back in 2008, VICOM’s dividend payout ratio started at 50%, a fairly common ratio for growth companies – given they also want to reinvest profits into the business. As more cash piled up over the years, the payout ratio was hiked to 70% in 2013, then 80% in 2014 and 2016. As the cash continued to pile up, the payout ratio was eventually raised to 120% in 2017 and 2018. It stands out as a business that not only has a compelling dividend yield but also growing dividends.
VICOM has stated that it intends to pay out at least 90% of its profits as dividends, as it does not have much use for its excess cash. Though a payout ratio of 120% may seem unusual, I believe this is sustainable because the company has a very large cash balance of S$104.1 million which is can tap on for future dividends, it still continues to generate healthy levels of free cash flow and it has no intention to invest the excess cash for mergers or acquisitions.
Growing dividends over the long term
It’s important to note here that revenue had not increased significantly in the last 10 years. Revenue for VICOM was S$73.8m in 2008, and ten years later it was S$100m in 2018. This amounted to a compound average growth rate (CAGR) of just 3.1%.
Dividends, on the other hand, increased by 389% cumulatively, which represented a CAGR of 17.2%. Investors should, therefore, look out for companies that are generating excess free cash flow as this increases the chances of the company hiking its dividend payout ratio over the years.
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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Royston Yang owns shares in VICOM Limited. The Motley Fool Singapore has recommended shares of VICOM Limited.