2 undervalued dividend stocks for the bargain hunter

Credit: zehhhra

One great thing about dividends is that the return on your investment rises as the value of the stock the dividends are attached to decreases.

This can be a nasty surprise if you bought a company like Metcash Limited (ASX: MTS) or Origin Energy Ltd (ASX: ORG) for huge trailing yields only to realise that the dividend has been suspended or reduced.

For companies with a healthier underlying business, however, falls in value can be a blessing – especially if the company is still growing its earnings and dividends.

Collection House Limited (ASX: CLH) recently disappointed investors when it announced that growth would be substantially slower this year – in the low single digits compared to the 10%+ shareholders are used to – as a result of an increasingly competitive collection market.

Shares dropped almost 20% on the news before recovering, now down 7% in the past three months. Collection House subsequently announced a significant two-year contract with the Australian Tax Office that will ‘certainly’ contribute to earnings in financial years 2017 and 2018.

Over the longer term, management has indicated that they foresee additional opportunities to lift earnings in the collections space. With a 4.5%, fully franked yield and a still-growing business, Collection House looks like a strong buy right now – in fact I would buy more, if it wasn’t already one of my largest positions.

While the slowing profit growth might make some investors nervous, Retail Food Group Limited (ASX: RFG) faces no such headwinds, with ongoing same-store sales growth and expansion into international markets.

Retail Food Group has hitched its wagon to coffee for the time being – it is one of the largest coffee roasters in Australia – with that mildly addictive beverage making an excellent first choice for luring customers to stores.

However, a wide variety of franchises in its stable gives the company plenty of room to expand its footprint over time – just look at how well Domino’s Pizza Enterprises Ltd (ASX: DMP) has done with just one franchise.

Retail Food Group’s share price has been knocked down recently as investors grow nervous regarding its ‘Organisational Evolution’ (renewing brand menus, focussing on digital, etc) and the establishment of an International Division and joint-venture in China.

There is also likely some nervousness given the recent wage scandals at Pizza Hut and 7-11.

On the plus side, Retail Food Group is generating loads of cash, has plenty of room for growth, and offers a whopping 5.6%, fully franked dividend that I believe is highly sustainable and likely to increase in the future. I recently bought shares, and am considering buying more very soon.

However, before diving into Collection House or Retail Food Group, you should know that The Motley Fool's top stock for 2015 is an outstanding ASX tech company with a stunning track record and plenty of room to run. Discover our analysts' hands-down favourite bet for 2015 in this brand-new FREE report!

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Motley Fool contributor Sean O'Neill owns shares of Collection House Limited and Retail Food Group Limited. Unless otherwise noted, the author does not have a position in any stocks mentioned by the author in the comments below. The Motley Fool Australia owns shares of Collection House Limited. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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