There are a number of shares currently available with low PE ratios but offering higher yields for the dividend. That is normally regarded as a winning combination for any dividend stock. However, there are also other factors that weigh while taking a decision on buying a dividend stock. For instance, a company might be having heavy debts or witnessing a falling trend in profits. That might suggest that stocks are available for a bargain whereas the surface look is totally different. Similarly, there are some stocks with a solid track record of paying a dividend but are currently facing some speed bumps. Buying such stocks would provide twin opportunities. One is dividend yield if the business continues to face bumps, and the other is that if the turnaround happens, its share price too will grow. Let’s discuss three such stocks, International Business Machines Corp. (NYSE:N:IBM), United Technologies Corporation (NYSE:N:UTX) and Gap Inc. (NYSE:N:GPS).
Opportunity To Grow
One of the stocks Warren Buffett preferred was International IBM, though the stock has yet to repay the confidence reposed in it. However, Buffett did not bother about the near-term and looked for long-term gains. For that, he is ready to bear the short-term pain of losing value. The company took steps to divest most of the less profitable hardware, as well as chip-making businesses. The tech firm reinvested them in technology services and more profitable software businesses. However, it has yet to see the effects of such exercises. Its revenue is predicted to fall to $83 billion in the current year from $106.9 billion recorded four years back. The next two years are expected to remain flat as far as sales are concerned.
If IBM's valuation is taken into consideration, its PE is just nine times the projected EPS for the next one-year period. That is below the PE ratio of 16 for the S&P 500. In the last one year, shares of the company dropped 25%. As far as the yield is concerned, it was 3.5% compared to the broader index’s 2.2%.
Investing In New Technologies
International Business Machines is investing in promising new technologies like digital security, social media, data analytics, and cloud computing. Last year, the company was able to generate $25 billion in revenue from these divisions. This is estimated to reach $40 billion by the year 2018. As a comparison to the total revenue, these segment contributions will increase to 40% of sales from 27% in the last year. The company expects these divisions to boost the overall profitability and margins.
While the Street expects the profit of IBM to drop 4.8% in the current year, they are confident of growth resuming next year. As a result, its EPS will grow to $16.12 next year from $15.73. Also, the company has been able to generate solid cash flow to fund any additional share repurchase program or pay higher dividends. Fort Pitt Capital’s investment advisor, Kim Forrest, said that IBM is a misunderstood and unloved stock. However, it has a good story. Buffett too said that he would rather buy when the shares go down rather than get panic.
Promising Turnaround Candidate
United Technologies Corporation is another stock that is looking to be a promising candidate for a turnaround. One of the problems it faces now is that over 60% of sales happen in the overseas markets, and sales in China and the European Union have slumped due to their market conditions. Added to it was the strong Greenback in the last several quarters. Its dependence on foreign markets has hurt its profit since converting to the dollar has become expensive. A strong currency has been a big issue for export and was one of the reasons for the Fed to delay the interest rate hikes. Any increase in rates would strengthen the Greenback, thus impacting companies dependent on overseas sales.
However, UTX has a strong line-up of products, and remaining patience would be rewarded in the future. Most recently, the company divested its Sikorsky helicopter business for $9 billion. As a result, profits will take a hit as analysts estimate EPS to fall to $6.20 in the current year from $6.82 achieved last year. However, analysts expect the company to turn towards reporting profit growth in the following years. The company made its intentions clear that it would use most of the cash proceeds to repurchase its shares, which would boost its EPS.
There is also $5 billion cash available on its balance sheet, and UTX might involve in acquisitions to increase growth pace. It has PE of 15 based on next year earnings, which is modestly lower than the broader index. The shares provide a dividend yield of 2.7%, which is above average.
Another Potential Turnaround Firm
Gap is a clothing retailer that witnessed 26% fall in the current year. Sales were not growing as it was losing to ‘fast-fashion’ retailers like Zara and H&M. In the current fiscal year, analysts expect 1.3% fall in sales to $16.2 billion. Only four out of 32 analysts have assigned the stock as a ‘Buy’ or ‘Strong Buy’ rating. The company’s CEO, Art Peck, said that the company is working on a fix. As a result, it would shut down 175 poorly performing stores and focus itself on more profitable outlets. The company also appointed a new chief designer to give a new look to its clothing lineup.
Significantly, Gap is responding to the trends more quickly. It has a promising lineup for women that are racking up robust sales. The company’s actions could be reflected in fiscal year 2017 results only. Currently, the stock is trading at 11 times the projected year-ahead EPS, which is 30% less than the broader index PE. Shares of the company provided a yield of 2.9%. That provides an opportunity for investors to earn dividends while waiting for revival to take a strong hold. Morningstar analyst, Bridget Weishaar, said that the stock has upside potential.
Conclusion
The three stocks, namely International Business Machines, United Technologies, and Gap offer enough opportunities. That is for both dividends, as well as stock price.