A Canadian Dividend Aristocrat in the Making?!

A Canadian Dividend Aristocrat typically refers to a TSX stock that has increased its dividend for at least five years. Ever wonder what a Canadian Dividend Aristocrat must be like before it actually becomes one?

Let’s rewind a bit. The stock must pay its first dividend and after that, be able to continue increasing its dividend year after year. Therefore, it should generate stable (ideally growing) earnings. 

I believe I have a stock here that is a Canadian Dividend Aristocrat in the making. However, I’m probably way ahead in this thinking because it’ll likely take years before it will pay its first dividend.

Why do I hold shares of this stock now if it pays no dividend? …because if I’m right, this stock is going to give me a whole lot of capital gains before it initiates a dividend. 

Right now, this small-cap stock has better places to allocate its capital. It was no April Fool’s joke when it announced another acquisition on Thursday, which drove the stock price 13% higher. 

Source: Yahoo Finance – TSX:CTS’s April 1, 2021 price action

Converge completed five acquisitions in 2020. Dasher Technologies is Converge Technology Solutions’s (TSX:CTS) 19th acquisition so far. This speaks a lot as Converge itself is a very young company that was founded just five years ago in 2016 and made its first acquisitions in 2017.

I first noticed Converge when it was still on the TSX Venture Exchange because the tech stock was doing very well. Further research indicated that it was still undervalued despite it trading at an all-time high at the time. (I’ll have you know that the small-cap space is the best place to look for value.) So, I got my hands on some shares even before it graduated to the TSX in February this year. 

To be clear, Converge is allocating all its capital in growing its business. A big part of that is finding well-valued, fitting acquisitions that complement or expand its business. 

Since 2018, Converge has doubled its revenue to $949 million. And it’s expected to turn a profit as soon as this year. Here are its recent results. Its 2020 revenue was 38% higher year over year, its gross profit of $233 million was 44% higher, while its adjusted EBITDA, a cash flow proxy, of over $60 million climbed 92%.

Currently, the small-cap stock trades at a super cheap valuation of 0.9 times last-12-month (“LTM”) enterprise value (“EV”) to sales. 

If Converge ever trades at Enghouse Systems’s (TSX:ENGH) valuation, the stock could trade about seven times from here. (Enghouse is another tech company that relies heavily on M&A for growth.) 

Of course, it doesn’t trade at Enghouse’s valuation right now because it doesn’t have the track record that Enghouse has. Additionally, Enghouse became a Canadian Dividend Aristocrat in 2013. Any stock that pays a healthy and growing dividend naturally commands a premium valuation to peers that don’t.

According to the data I’m looking at, Enghouse took 23 years to pay its first dividend. So, don’t get your hopes high about Converge paying a dividend soon. 

In Summary

Converge can potentially start a dividend and become a Canadian Dividend Aristocrat down the road. Just note that it could take years. But that’s really beside the point. Buyers of Converge are looking for growth — that is, total returns.

The small-cap stock’s total returns will depend on its ability to acquire and integrate companies. It needs to find acquisitions that fit its business for a good price. 

Don’t take my word for it. Do your due diligence and decide if you think the small-cap growth stock has a bright future ahead of it. 

Notably, small-cap stocks can be much more volatile than large caps. For example, it tends to raise capital from equity offerings that are usually below the public market stock price, which will cause a temporary selloff. So, size your position accordingly if you do decide to take a position. (The sell-offs are not a problem as long as the company uses the capital raised smartly.)

Share Your Thoughts

Are there companies that you think will become Canadian Dividend Aristocrats? Let me know below.

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Disclosure: As of writing, we own shares of CTS and ENGH.

Disclaimer: I am not a certified financial advisor. This article is for educational purposes, so consult a financial advisor and or tax professional if necessary before making any investment decisions.

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