When buying smaller companies, one characteristic I look for is the involvement of founders. Indeed, the majority of my holdings are managed by their founders. This usually means that the manager-founder is also a major shareholder. In my view, the head of a company needs to own at least 20% of the shares on issue (or more) for their interests to be highly aligned with shareholders.
When the CEO or MD owns the vast majority of the shares, there is some risk that they can behave with impunity. However, in many instances founding leadership simply means that the boss is emotionally as well as financially invested in the company, and that is usually a good thing for shareholders. High-performing founders who have shown a concern for all shareholders drive these two companies.
1300 Smiles (ASX: ONT) was founded by Dr Daryl Holmes and is a company that runs dental practices. Some 1300 Smiles branded practices are owned by the dentists, who pay 1300 Smiles a proportion of their earnings. Others are owned by the company, which pays the dentists to see patients, but takes responsibility for all the other aspects of the practice.
The company has been rolling out a program that it calls Improving Smiles. Basically, this program allows the patient to see the dentist twice a year, for about $1 a day. Improving Smiles patients receive a discount if they need follow-up procedures. If 1300 Smiles can win patients with this service (and early signs are positive), then it will be even more attractive for dentists to join.
At the current price of $6.50, 1300 Smiles is priced for growth, and trades on a lofty P/E ratio of almost 23. The company yields 2.8%, fully franked, at current prices. Historically, the company has grown its dividend payment, although dividend growth may temporarily stall in the wake of the closure of the Chronic Dental Disease Scheme. It would make sense for the company to conserve funds for the acquisition of distressed practices. Shares are not heavily traded, so the share price can be quite volatile, but 1300 Smiles definitely deserves a spot on your watch list.
Servcorp (ASX: SRV) is another company that is guided by its founder, Mr Alfred Moufarrige. Motley Fool contributor Peter Andersen mentioned Servcorp in this article, and I've been covering Servcorp lately because I believe it is reasonably priced in an increasingly overheated market.
The company leases floors in buildings all over the world for use as serviced offices. It seeks to differentiate itself from the competition by providing superior support services and communications technology. Its current expansion into the USA will probably pay off in the coming year, barring macro-economic mishaps. At any rate, the balance sheet is strong and the company trades on a trailing dividend yield of 3.65%, fully franked, at today's price of $4.10. Investors should note, however, that although the dividend is expected to grow, it may not remain fully franked in the future.
Foolish takeaway
Both these companies have impressive histories behind them, and both have grown from a tiny base thanks to the ingenuity of their founders. In the case of Servcorp, the second generation of the Moufarrige family may take the reigns when the founder retires. 1300 Smiles is a smaller company, and I believe it has plenty of growth ahead of it.
At current prices the dividends are significant but not compelling. In the last six months both companies are up about 13%, about twice as much as the broader market, but share price volatility may provide further opportunities for investors. In my opinion these companies will deliver market-beating returns in the long term, even at current prices.
