News Analysis date published New: 
Friday, July 6, 2012 - 13:00
New Date created: 
Wednesday, August 22, 2012 - 11:43
New Date last updated: 
Friday, July 6, 2012 - 13:00

Now's Your Chance to Pick up a 10% and 12% Dividend Yield for a Dirt-Cheap Price

Friday, July 06, 2012 1:00 PM

The debt crisis in Europe is dominating the headlines this summer, roiling the world financial markets and keeping investors in a perpetual state of fear. The news focuses mainly on a handful of countries that have huge debt loads such as Greece and Italy, but stock markets on both sides of the Atlantic are made volatile by panicked investors seeking safer ports.

But it doesn't have to be this way.

Where there is fear and pessimism, there is often also opportunity. Widespread panic has resulted in bargain prices for some fundamentally sound euro-zone stocks, creating a chance for investors who know how to separate the wheat from the chaff.

These two stocks are great examples. Both of these companies, although headquartered in Europe, derive most of their profits from Latin America. Both have solid fundamentals, great long-term growth prospects and generous yields. Best of all, investors can purchase these stocks today for prices that are less than the amount of cash per share on their balance sheets.

1. Portugal Telecom (NYSE: PT)
Forward Dividend Yield: 10%

This company has a monopoly on Portugal's telecom market and a sizable presence in Brazil and Africa. Portugal Telecom serves 2.7 million fixed line customers, 7.4 million wireless subscribers, 1.1 million broadband subscribers and 974,000 pay television subscribers.

Last year, the company acquired a 25% stake in Oi, Brazil's largest fixed-line carrier. As a result, Portugal Telecom now derives more than half of its revenue from Brazil. This year, Brazil is positioned to surpass France as the world's fifth-largest economy, and its telecom sector is poised for more than 30% growth in the next four years.

Portugal Telecom produced $2.3 billion in cash from operations in 2011 and spent $1.6 billion on upgrades and expansion of its network, leaving more than $724 million of free cash flow for debt repayment and dividends. The company has a high debt load of $11.9 billion, or 76% of its market capitalization, but no need for additional financing through 2015. As a result, Portugal Telecom has no risk exposure to a short-term freeze in Europe's credit markets.

The company is expanding aggressively in Brazil, which Portugal Telecom plans to fund by halving its dividend for fiscal years 2012-2014. However, even at the reduced $0.41 per share annual rate, the dividend yield on Portugal Telecom is almost 10%.

The company's 12% operating margin is higher than industry peers, yet Portugal Telecom trades at a price-to-earnings (P/E) ratio of 12 and below the telecom industry P/E of 13. At a current price of $4.50, investors can purchase these shares for less than balance sheet cash ($6.07 per share) and at roughly book value ($4.12 per share).

Portugal Telecom shares have fallen 47% in the past 12 months due to euro-zone fears, yet analysts say this company could produce nearly five-fold earnings growth this year and better than 14% growth in each of the next five years.

2. Banco Santander (NYSE: SAN)
Yield: 12%

Another casualty of the European debt crisis, Banco Santander is Spain's largest bank. Despite an independent credit analysis of Spain's banking industry that concluded Banco Santander has more than enough capital to survive even a worst-case scenario, shares of this bank have plummeted 37% in the past year.

Banco Santander has more than 100 million customers and the largest branch network in international banking. And here's what investors are likely forgetting: This global bank derives more than 50% of its profits from Latin America and only 12% from Spain. Banco Santander is also exceedingly well diversified, with a presence in 10 major markets.

Because of increases to the company's provision for loan losses, Banco Santander's first-quarter 2012 earnings declined 27% to $2.1 billion, from $2.9 billion in the same quarter a year earlier. More important, however, the bank strengthened its balance sheet by increasing its cash position 30% to $145.7 billion. This bodes well for the bank's ability to manage risk and maintain the current dividend.

In addition, Banco Santander's nonperforming loan ratio of 3.98% is significantly better than other Spanish banks as well as U.S peers such as Bank of America (NYSE: BAC) and Citigroup (NYSE: C), which reported nonperforming loan ratios of 4.88% and 4.5% respectively, last quarter.

Banco Santander's chairman promised to maintain the $0.79 annual dividend and, so far, is keeping his promise. The company paid a first-quarter 2012 dividend of $0.29. ADR holders can choose to take the quarterly dividend as either cash or stock. (The advantage of the stock dividend is that foreign investors avoid paying the 21% Spanish withholding tax.)

Banco Santander is performing better than some U.S. banks, but because of its euro-zone affiliation, trades at a P/E of 7, which is less than half the banking industry average of 18. At a current share price of $6.50, the stock is trading at less than one-third of book value ($22.66 per share) and at roughly one-fifth of balance sheet cash (nearly $30 per share).

Risks to consider: Maintaining the current dividend lifts Banco Santander's payout ratio from 50% to more than 100% this year. However, the payout ratio should quickly return to a sustainable level in the future. Analyst forecasts look for 34% earnings growth next year and 17% growth for each of the next five years.

Action to take --> My top pick overall is Portugal Telecom. This company is using its robust cash flow to capitalize on untapped growth opportunities in Latin America, which will likely enhance future earnings growth. Portugal Telecom has aspects of a growth and value stock, whereas Banco Santander is more of a pure value play. Both companies have great transparency around the dividend and very attractive yields.

P.S. If you want truly high yields, looking overseas could be your best bet. My colleague Paul Tracy, the Chief Investment Strategist behind High Yield International, has identified 200 of the safest, highest-yielding investments based outside the US... and they all yield 12% or more. For details about these stocks, including several names and ticker symbols, click here.

Lisa Springer does not personally hold positions in any securities mentioned in this article.
StreetAuthority LLC owns shares of C in one or more of its “real money” portfolios.