The most reliable dividend-paying companies are those with a steady income stream to pass on to customers. There are even special types of businesses created for this purpose: REITs are designed to efficiently pass along rent payments and MLPs are special purpose entities that channel fees from assets like pipelines. But there are plenty of “regular” businesses that fit this model as well.
The latest Dividend Digest featured two of these reliable cash generators from the same sector: privatized government services.
Utility companies have long been favored by income investors for their consistent, predictable cash flows, which they pass on to investors as dividends. As the sole legal providers of essential services in the areas they serve, they’re immune to competition and insulated from economic factors. But utility services aren’t the only thing state and local governments contract out to private companies. In fact, as state and local government budgets get squeezed from every direction (lower tax revenues, less money from the Federal government and higher demand for government services), privatizing and outsourcing some government services is more popular than ever. And companies with the ability to take over these services—everything from trash pick up to running the jails—are growing faster than ever.
The best part for income investors: once these privatizers win a government contract, they begin receiving a nearly guaranteed income stream. Or, as Ian Wyatt wrote in his recent recommendation of a company that provides school busing services:
“The kids have to get to school rain or shine, sleet or snow—recession or expansion. In fact, in most cases, it’s the law. A business insulated from the business cycle tends to produce reliable cash flow, and cash flow that’s able to sustain a high dividend payout.”
In this case, the stock’s current dividend payout is a whopping 8.9%!
This company’s name is Student Transportation, Inc. (STB), and it’s growing all the time, as more and more municipalities get creative to cut their budgets. Ian Wyatt told the story of one of these cities in his recent recommendation of STB in his income-focused newsletter, High Yield Wealth. Here’s part of the recommendation, from the latest Dividend Digest:
“Dr. Ronald E. Meade, superintendent of Kings School Transport Authority in Lemoore, Calif. had a problem. One not unlike the problem many superintendents across the country confront today. How to cut costs without compromising service? It’s a confounding problem, to be sure. The housing crisis—the drop in housing prices specifically—has decreased property tax revenue for many public school districts. … Dr. Meade set a goal of reducing transportation expenses by $100,000 per year. He knew it couldn’t be done in-house, but he suspected it could be done by contracting out the buses and transportation service to a private transportation company—one whose core competency is providing public school transportation services. Studies backed Dr. Meade’s suspicions. A study by economists at Ball State University estimated that the costs for public ownership of school bus services can be as much as 12% more than if one contracted with a private vendor. Another study published in the Policy Studies Journal found that savings averaged 27% among 15 of 19 Tennessee school districts that outsourced their busing needs. Outsourcing transportation services was an obvious solution, so Dr. Meade decided to outsource the Lemoore school district’s bus services to a contract firm. The school district (and taxpayers) realized its goal to shave $100,000 annually without reducing service quality. ”—Ian Wyatt & Stephen Mauzy, High Yield Wealth, 8/6/12
In the case of school busing, there are obvious economies of scale available by privatizing: one company can service multiple communities, sharing resources like buses, drivers and back-office operations. And local governments avoid the unpredictability having to deal with bus maintenance and replacement expenses, instead paying a regular, predictable amount to the private company.
In other areas, though, the cost savings to the taxpayer aren’t always so clear-cut.
Privatizing prisons, for example, is controversial in part because it’s unclear how a private company can cut costs without compromising conditions. But in the latest Dividend Digest, Unconventional Wealth Editor Andrew Snyder explained why privatizing prisons saves taxpayers money in the long-run… and recommended the number-one company in the industry:
“A decade ago, just 10% of the nation’s civil detention centers were in the hands of private investors. Ninety percent of the beds were owned and operated by the government. [And] Corrections Corp. of America (CXW) was on the edge of bankruptcy. It faced lawsuits. It had bad management. And contracts were hard to come by.
“[A decade later,] things have changed. Government contracts make up 43% of this company’s annual revenues. Corrections Corp. has a capacity of more than 91,000 beds spread throughout 66 facilities in 20 states. …
“Upfront costs are not the reason so many state and local governments are signing on with Corrections Corp. The key to this stock’s long-term return potential is understanding that privatization removes one very heavy burden: pension liabilities. Pension costs are the top threat to governments of all levels. … Twenty-one states could not afford to pay the full costs of their yearly pension contributions for corrections personnel in 2010. [And] 30 states did not pay the full costs of retiree health care obligations for corrections employees in 2010. And the future burden will only compound with time. That’s why we’re seeing officials do anything they can—like privatizing their prison systems.” —Andrew Snyder, Unconventional Wealth, September 2012
Snyder recommends buying CXW, which currently yields 2.4%, anywhere under $35.
Wishing you success in your investing and beyond,
Editor of Dick Davis Dividend Digest