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Companies whose earnings easily cover their dividend payments might offer strong future growth opportunities

There is a theory that a company intent on fast growth should resist paying out dividends and instead preserve its cash to fund the planned expansion of its activities. That might suit an enterprise at a reasonably early stage of its growth but a company entering the dividend list for the first time is normally still far from mature and should have plenty of scope to increase those pay-outs on the back of increasing profits.

Companies that pay

Roughly a third of the 920 companies on AIM are profitable but only 150 currently pay dividends. If you want to find decent long-term growth opportunities though, concentrate on those whose dividend payments are covered at least three times, and hopefully four times, by their earnings. These will tend to be either companies whose profits are growing quickly or else those declaring a dividend for the first time.

This decision is a momentous one in a company's life. A chief executive going down this path will tend to be cautious and propose a payout he is sure he will be able to repeat in succeeding years. At the time their shares may seem expensive, with heady p/e ratios and low dividend yields. But no chief executive wants to reduce or, even worse, withdraw the dividend once it has been declared for the first time.

Take support services outfit MacLellan. The fast-growing group has seen its turnover rise from £34.4 million in 1999 to £153 million last year, principally thanks to a series of prescient acquisitions. Throughout this five-year period MacLellan has been consistently profitable. However, only in 2002 did the group propose a maiden dividend of 0.5p, covered ten times by the 5p of earnings per share made that year.

Last year the payout was lifted by 50 per cent to 0.75p, still covered 7.4 times by earnings. Admittedly this means the shares, at their current price of 72.5p, only offer a yield of around one per cent. However, if the business continues to grow as planned – and it should do with a forward order book of £485 million – then the dividend will no doubt be lifted rapidly as well, giving shareholders a decent return.

A cautious approach

Two of AIM's faster-growing financial businesses have a similarly cautious approach to paying out dividends. Investment bank Numis, which initially started as an insurance specialist before branching out into more general corporate finance work, has more than trebled its turnover over the past five years to £24 million.

In line with the stock market though, pre-tax profits have fluctuated – dipping from £5.96 million to £310,000 in the year to September 2001, before recovering to £7.2 million and £9.4 million in the past two years respectively.

However, chief executive Oliver Hemsley has steadily increased the dividend during this period from the initial payout of 3p in 1999 to 7.5p a share last year. In 2002 earnings did not match the payout but in every other year they have covered the dividend at least four times. The shares have risen fivefold over that time. If you had bought in 1999 at 137p, you would now be enjoying a dividend yield of 5.5 per cent.

Generous cover

Meanwhile property bridging loan specialist Bristol & West is even more conservative, ensuring its rising dividend has always been covered at least five times by its earnings. Nevertheless property price jitters have meant the shares stand at 9.75p, offering a yield of 2.6 per cent on next year's forecast 0.26p dividend.

Other AIM companies offering relative high yields, whose dividends are generously covered by earnings, include East London housebuilder Telford Homes, offering a potential four per cent payout covered four times, and caravan park operator Parkdean Holidays, which is predicted to pay a three per cent yield, at least three times covered.

Others that have recently declared maiden dividends and look likely to up these significantly include confectioner Glisten, bus operator Tellings Golden Miller, traffic light supplier Transport Systems and business software outfit Systems Union.