A spinoff happens when a parent company “spins off” a subsidiary or business unit into a standalone public company. When this happens, shareholders of the parent company receive shares of this newly spun-off entity.

Often, many of the institutional investors who receive these new shares don’t want them. They invested in the much larger parent company, not the smaller subsidiary.

Other times, the institutional investors aren’t even allowed to own shares of the smaller company. This is because their investment guidelines sometimes don’t allow them to own companies under a certain size or with less liquidity.

Regardless of their reasoning, what happens next is that the institutions sell. And they sell quickly.

This is our opportunity.

Anytime a widespread sell-off happens due to something other than underlying business performance, there is a very real chance that a stock can become undervalued.

Long-term studies back up the outperformance of investing in spinoffs.

Purdue University looked at 311 different spinoffs over a 36-year period between 1965 and 2000.

The results were amazing.

In the first 12 months following the spinoffs, the new businesses outperformed their benchmark companies by a whopping 20%.

That isn’t modest outperformance… That is outperformance by a huge margin.

Another study at Penn State University found similar results.

Penn State found that spinoff companies outperformed both their peers and the overall market by 10% annually in their first three years.

Wow, wow, wow!

A recent spinoff that I think is set up for outperformance is Corebridge Financial (NYSE: CRBG).

Corebridge is a life insurance and retirement services company that was recently spun off from American International Group (NYSE: AIG).

Corebridge Financial has four major operating segments:

• Individual retirement, representing 53% of earnings
• Group retirement, representing 25% of earnings
• Institutional markets, representing 11% of earnings
• Life insurance, representing 10% of earnings.

As you can imagine, selling retirement products and life insurance isn’t an exciting business.

But it is a good business, and it is very, very cheap.

The consensus analyst view for 2023 is for Corebridge to earn $3.72 per share.

With Corebridge’s current trading price of about $20, that puts its price-to-earnings ratio at a measly 5.3.

This valuation is very low, even by the insurance industry standards.

Corebridge’s peers trade closer to eight times earnings, which is 50% higher than where the stock trades today.

On top of this cheap valuation, Corebridge also pays a juicy dividend, which is currently set at $0.23 per quarter. That equates to a stout 4.6% yield at the current stock price.

To me, that makes this a spinoff worth owning today.

The Value Meter rates this steady Corebridge business as “Slightly Undervalued.”

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The culprit is the fact that Uniti’s largest customer, Windstream (Nasdaq: WIN), filed for Chapter 11 bankruptcy protection.

Uniti Group provides infrastructure and capital to the telecommunications industry, and it is set up as a REIT.

Uniti was spun off from Windstream in 2015. Its CEO is the brother of Windstream’s CFO. And Windstream makes up about 60% of Uniti’s revenue.

So there’s that.

Prior to the Windstream bankruptcy, Uniti’s dividend wasn’t in terrible shape.

Funds from operations (FFO), a measure of cash flow for REITs, has risen each year since the spinoff. In 2018, Uniti is expected to log $392 million in FFO while paying out $425 million in dividends.

That’s not great, but FFO had been expected to rise to $430 million in 2019, which would have covered the dividend.

Uniti has consistently paid a $0.60 per share quarterly dividend since 2015 – so it has a very short track record but no cuts.

Normally, this would add up to a “C” rating. But this isn’t “normally.”

Normally, your largest client doesn’t declare bankruptcy.

Uniti’s management delayed the fourth quarter earnings release while it tries to figure out the effect of the Windstream bankruptcy. It expects to announce results by March 18.

On Monday, Uniti announced that it would lower its dividend. In an SEC filing, the company stated that its 2019 dividend would be “limited to approximately $250 million,” down from more than $400 million last year.

It also said that it may agree to new limitations under its credit agreement as to how much it is allowed to pay in dividends. The new restrictions would almost certainly lower the dividend further.

Prior to the Windstream bankruptcy, Uniti’s dividend had some risk to it. Now a dividend cut is a sure thing, and another one is quite likely.

Uniti is a good example of why companies need diverse revenue streams. When one company is responsible for the majority of another’s revenue and that first company runs into problems, the dividend of the second will almost surely be lowered.

Dividend Safety Rating: F

If you have a stock whose dividend safety you’d like me to look at, please leave the ticker symbol in the comments section.

Good investing,

Marc

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It pays a strong 6.5% yield based on its most recent quarterly dividend declaration of $0.18 per share.

BGC Partners has a policy of paying out at least 75% of its earnings in the form of dividends. Through the first nine months of the year, the company earned $0.64 per share while paying out $0.54.

However, I always look at free cash flow, not earnings, to determine a company’s ability to pay its dividend. That’s because earnings have all kinds of noncash items in their calculation. And dividends are paid with cash, not accounts receivable and depreciation.

BGC’s free cash flow has been all over the place. Last year, it generated more than $1 billion in free cash flow after a 2016 where it bled gobs of cash. This year, free cash flow is expected to be lower than in 2017.

SafetyNet Pro issues a penalty for declining free cash flow, which will be the case this year – even when free cash flow still covers the dividend, which it easily will. BGC Partners will likely pay $211 million in dividends this year.

However, BGC has an unusual situation – one that will likely result in a dividend cut.

BGC Partners is spinning off its real estate business Newmark Group (Nasdaq: NMRK), which had an IPO in December. The spinoff is expected to be complete by the end of the year.

As of the end of the third quarter, BGC Partners’ post-spinoff business would have generated a dividend of $0.14 per share.

Newmark also pays a dividend of $0.09. BGC’s shareholders will receive shares of Newmark once the spinoff occurs, though the exact amount has not yet been determined. So shareholders who elect to keep shares of Newmark will receive dividends on both stocks.

The company expects earnings to grow at least 29.5% next year. Remember, even though I base the dividend safety grade on free cash flow, BGC’s management uses earnings to determine the amount of the dividend.

If it keeps the payout ratio on earnings the same (about 84%), the dividend would remain $0.18 (assuming it hits its 29.5% growth rate).

Though that’s hardly guaranteed. Management could lower the payout ratio to its minimum threshold of 75%, or it could fail to reach its growth rate.

Additionally, BGC Partners cut its dividend once before. In 2012, the quarterly dividend fell to $0.12 from $0.17. Once a company “breaks the seal” and cuts the dividend, it is more likely to do so again.

BGC Partners is “a complicated piece of merchandise,” as my analyst Kristin calls it. There are a lot of moving parts when looking at the dividend.

The dividend isn’t in dire jeopardy, but a lot of things will have to go right post-spinoff for the dividend to remain intact.

Dividend Safety Rating: C

If you have a stock whose dividend safety you’d like me to look at, leave the ticker symbol in the comments section.

Good investing,

Marc

The post A 6.5% Yield That Could Get Cut appeared first on Wealthy Retirement.