3 High-Yield Stocks Growing Free Cash Flow Fast

A look at 3 names with double-digit free cash flow growth rates over the last 5 years

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Jul 05, 2022
Summary
  • Mercury General's nearly 14% free cash flow growth rate has helped to extend the company's dividend growth streak to more than 3 decades
  • Rent-A-Center's double-digit free cash flow growth rate has enabled the company to reinstate its dividend even during the pandemic.
  • Whirlpool's free cash flow growth rate has been close to 30% for the past 5 years.
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Companies that can grow free cash flow by a significant amount are often those that can both maintain and increase their dividends. Investors looking for high yields need to be certain that the company can produce sufficient free cash flow to cover payments.

This article will examine three stocks that fit the following criteria:

  • Five-year free cash flow growth rate of at least 11%.
  • Dividend yield of at least 4.4%.
  • Free cash flow payout ratio below 40%.
  • Trading at a double-digit discount to GF Value.

Mercury General

First up is Mercury General Corporation (

MCY, Financial), a leading insurance company. Mercury General offers insurance policies in the areas of auto, home, renters and business. Two-thirds of premiums written are for private passenger policies and a fifth is for homeowners, with commercial auto and other contributing the remainder.

The company has been in business since 1961 and writes the vast majority of its policies in California, but has operations in a dozen additional U.S. states, including Arizona, Florida, New York and Texas. The company is valued at $2.5 billion and generates revenue of nearly $4 billion per year.

Mercury General’s five-year free cash flow growth rate is 13.9%. The company has raised its dividend by just 1 cent per share year for much of the last decade. That said, Mercury General has a dividend growth streak of 33 years.

The company’s free cash flow growth has helped to protect the stock’s high yield of 5.7%, which is considerably higher than the average yield of 1.6% for the S&P 500 index. The current yield is above the stock’s 10-year average yield of 5% and is one of the highest yields in the last decade.

Mercury General has distributed $140 million in dividends over the last year while generating free cash flow of $392 million for a payout ratio of 36%. This is slightly above the average free cash flow payout ratio of 30% that Mercury General has averaged since 2018, but still an extremely low ratio.

According to the GF Value chart, the stock is trading well below its intrinsic value estimate.

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Mercury General closed Friday’s trading session at $44.56. With a GF Value of $52.18, the stock has a price-to-GF-Value ratio of 0.85. Reaching the GF Value would result in a 17% return in the share price. Inclusive of the dividend yield, total returns could push into the low 20% range. Mercury General is rated as modestly undervalued by GuruFocus.

Rent-A-Center

Next up is Rent-A-Center Inc. (

RCII, Financial), one of the largest rent-to-own companies in the U.S. The company is valued at $1.7 billion and produced revenue of $4.6 billion in 2021.

Rent-A-Center provides a wide variety of products to customers, including appliances, computers, electronics and furniture. Customers pay monthly rental payments, with the option to own the product following the fulfillment of rental agreements.

Rent-A-Center’s dividend history has been erratic. The company has cut its dividend before, even suspending it for the entirely of 2018 and most of 2019. However, Rent-A-Center did reinstate its dividend in 2019 and then maintained and raised it through the beginning of the Covid-19 pandemic. Since 2012, the dividend has a compound annual growth rate of 6.7%.

Shares currently offers a dividend yield of 6.9%, which is more than four times the average yield of the S&P 500. For additional context, the stock has an average yield of 2.7% since 2012.

Rent-A-Center’s high yield is supported by free cash flow, which has a growth rate of 11.4% over the last five years. The company has paid out $75.5 million of dividends over the last 12 months while producing free cash flow of $394 million for a payout ratio of just 19%. This is below the average payout ratio of 25% for the 2020 to 2021 time period, which are the last two full years that the company has distributed dividends.

The stock looks to be deeply undervalued relative to its GF Value.

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With a recent trading price of $19.75 and a GF Value of $47.75, Rent-A-Center has a price-to-GF-Value ratio of 0.41. Total returns could be immense for the stock, though there is certainly more risk for the company considering its small size and volatile dividend growth history. Shares are rated as significantly undervalued.

Whirlpool

The final stock for consideration is Whirlpool Corporation (

WHR, Financial), one of the best-selling home appliances companies in the world. The company is valued at almost $9 billion and generated revenue of close to $22 billion last year.

Whirlpool maintains a portfolio of more than a dozen well-known brands, such as Whirlpool, Maytag and KitchenAid. The company’s business is fairly diversified, with 31% of sales coming from refrigerators and freezers, 29% from laundry-related appliances, 25% from cooking appliances and 15% from other.

Whirlpool has enjoyed a 29.7% free cash flow growth rate over the last half-decade, which has led to a dividend CAGR of 11.8% since 2012. The company has increased its dividend for 12 consecutive years. Share yield 4.4%, almost 200 basis point above the 10-year average yield of 2.5%.

And thanks to a very healthy free cash flow payout ratio, it is likely that Whirlpool’s dividend growth streak could continue. The company has distributed a total of $362 million of dividends over the last year while free cash flow totaled $1.1 billion for a payout ratio of 33%. This is below the average payout ratio of 38% since 2018.

Shares appear to have plenty of upside potential as well based on GF Value:

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Whirlpool closed the most recent trading session at $158.59. The stock has a GF Value of $206.98, giving Whirlpool a price-to-GF-Value ratio of 0.76. The stock could return more than 31% if it were to reach its GF Value. Adding in the stock’s yield could push total returns into the mid-30% range. The stock is rated as modestly undervalued.

Final thoughts

Free cash flow is the life blood that allows for companies to raise dividend. Stocks with high yields need ample free cash flow to cover their generous dividends.

Mercury General, Rent-A-Center and Whirlpool are three examples of companies with double-digit free cash flow growth rates over the last five years. Each stock offers a generous yield that comes with a very low free cash flow payout ratio. All three are also trading at a double-digit discount to their GF Value.

Disclosures

I/we have no positions in any stocks mentioned, and have no plans to buy any new positions in the stocks mentioned within the next 72 hours. Click for the complete disclosure
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