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Two slick LICs

Peter Rae
Thursday, September 13, 2018

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The reporting season just ended was a good one for the listed investment company sector, with most LICs reporting growth in earnings. Of the 31 LICs we cover that paid dividends during the FY2018 period, 26 reported increased earnings whilst only five reported lower earnings. The results reflected the strong 12 months to 30 June 2018 for both the domestic and international markets. During this period, the S&P/ASX 200 Accumulation Index rose 13% and the MSCI World Total Return Index, AUD was up 15.3%. The strong earnings results saw 18 LICs increase their final dividends and 11 hold dividends flat. Two LICs paid lower final dividends. 

The LICs that largely rely on dividends from their underlying portfolios to generate profits (primarily the Australian large cap focused LICs) rather than realised and unrealised gains, all delivered earnings growth due to increased dividend income from their portfolios. 

This reflected increases in dividends by a number of companies including those in the healthcare and resources sectors. There 
were generally modest increases in dividends from the Australian large cap focused LICs, although Australian Foundation Investment Company (ASX:AFI), Argo investments (ASX:ARG), BKI Investments (ASX:BKI) and Djerriwarrh (ASX:DJW) all paid steady final dividends. Yields across the Australian large cap focused LICs generally range from 3.5% to 4.5% and in our view dividends from this sector are mostly sustainable in the absence of a severe and prolonged market correction. 

The majority of small cap focused LICs in our coverage reported higher earnings due to strong portfolio gains. Six of these LICs increased dividends, five held dividends flat and two paid lower dividends. Yields in this LIC sector are, on average, higher than those available from the large cap focused LICs. The two highest yielding LICs in our coverage both offer yields in excess of 7%, fully franked: 

1. Sandon Capital (ASX:SNC) at 7.4% 

2. Contango Income Generator (ASX:CIE) at 7.2%. 

We take a closer look at these two LICs below. 

Contango Income Generator (ASX:CIE) 

CIE is suitable for investors looking for a portfolio of stocks outside the top 30 ASX-listed companies. It seeks to pay a dividend equal
to 6.5% of NTA and has been able to achieve this to date, although we would like to see dividend reserve cover a little higher than the current level. Dividend franking is 50%, but the dividend yield of 7.2% is well above the market yield. 

The portfolio (pre-tax NTA plus dividends) has significantly underperformed since its inception in August 2015 with the portfolio returning 5.9% p.a to 30 June 2018 compared to the benchmark index (ASX All Ordinaries Accumulation Index) return of 11.1%p.a. The performance of the portfolio has reflected the underperformance of the investment universe as defined by the Manager’s investment parameters. The company has achieved its objective of providing an above market dividend yield and pays dividends on a quarterly basis providing a regular income stream for shareholders. The company was trading at a discount to pre-tax NTA of 6.9% at 31 July 2018.
 We would recommend an investment in this company to those investors seeking an above market yield but note that the strategy has resulted in an underperforming portfolio to date. Our rating for CIE is Recommended. 

Sandon Capital Investments(ASX:SNC) 

SNC is a LIC managed by Sandon Capital, a deep-value Australian equities manager that uses activism as a tool to preserve or enhance the value of its investments. The Manager has a history of outperformance, although since listing in December 2013 SNC has underperformed on a pre-tax NTA basis partly due to the impact of fees and dilutive share issues. Successful activist investing requires skills and capabilities that, in our view, most professional investors do not possess. We believe the Manager has proven itself capable in this regard. SNC is a genuinely differentiated LIC and
one that provides genuine diversification benefits. The Manager takes high conviction positions and is index agnostic and therefore not concerned with the weighting of a stock in the index. This is highlighted by the top ten holdings, which account for 31.1% of
the portfolio, compared to the relevant weighting in the ASX All Ordinaries Index of 3.7%. SNC offers a high dividend yield, currently at 7.4% fully franked, and the Manager has a commitment to pay a stable and growing dividend. We recently initiated coverage of SNC with a Recommended rating. 

We continue to remind investors that it is important to focus on total returns from LICs, not just dividends. 

Published: Thursday, September 13, 2018


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