These Asian countries are gearing up to pay out

Companies in Japan and South Korea offer among the lowest dividend yields on the planet. The table below compares the indicated yield of large cap stocks there to those of other developed countries:

Despite their low yields, Japan and South Korea may soon have much to offer dividend investors. Consider Japan. Japanese companies have a reputation for being less than shareholder friendly, perhaps even shareholder oblivious. That is in part because shareholders rarely pressured Japanese companies to improve performance or increase their paltry dividend payouts. As a result, much of the Japanese market was known for low profitability, low dividends, and loads of cash sitting idle on the balance sheet.

That is changing. The policies of Prime Minister Shinzō Abe now include a stewardship code for institutional investors. The code encourages big investors to more closely monitor corporate performance and to demand more from managements. The policies are also designed to bolster efficiency, for example, by encouraging companies boost returns on equity.

To encourage improvement, Japan’s huge pension fund is rewarding more efficient companies by investing in them. A new index of Japanese stocks includes only the 40% most profitable on the Tokyo Stock Exchange. The government pension fund recently doubled its investment in Japanese stocks, targeting these more efficient companies. This may be a clever approach. One Japanese manufacturer, unhappy at not making the list, subsequently increased its dividend and announced a share buyback program.[1]

The prospect of faster earnings growth and rising payout ratios could turn low yields into attractive and growing yields in a few short years. Some investors, however, are unwilling to wait. In February activist investor Daniel Loeb announced a stake in Japanese industrial robot maker Fanuc Corp., indicating that the company’s capital allocation was far from ideal. Days after the announcement, Fanuc said they would spend $1 billion on new factories and research facilities and return more cash to shareholders. The company’s December dividend was twice last year’s payment.

But Japanese payout ratios, for the most part, remain low. According to Bloomberg data, the median payout ratio of Japan’s TOPIX 100 companies has remained around 28% for the last three fiscal years.

This comparison admittedly excludes companies yet to end their fiscal year. And like Fanuc, some high profile companies are rapidly increasing dividends. Toyota recently increased its November dividend per share by one-third.

Last summer the Nikkei Asian Review compiled a list of companies with market caps greater than 100 billion yen (about $800 million) that were expected to increase their payout ratios. The magazine listed 40 companies expected to bump payout ratios by anywhere from 8 to 82%.[2]

Even if earnings growth falters, Japanese companies are sitting on record amounts of cash. These idle funds, in part, prompted the reforms, but they also provide Japanese companies with flexibility as they ratchet dividends higher.[3] Despite some positive action on increasing payouts, Japan is still early in its transition to a more dividend-oriented culture. But for those willing to kick the tires on individual stocks, there is ample potential to find decent yields that could grow rapidly for years to come.

South Korea starting to pay up

South Korea is similar to Japan in that the government is encouraging companies to increase their stingy payouts. One subtle approach is being taken by the South Korean finance ministry which pledged to invest in companies with higher payout ratios. Specifically, by 2020, the ministry expects companies in which the state has a stake to offer a payout ratio of at least 40%. Apparently the government is weary of slim dividend returns on its huge investment in public companies.

The less subtle approach is South Korea’s imposition of a tax on “excess cash” held by large corporations. Much like Japan, South Korea is prodding large companies to spend the cash accumulating on their balance sheets. To reduce the tax owed, South Korean companies can pay larger dividends and/or make certain investments.[4]

Much like Japan, South Korean payout ratios have yet to increase meaningfully, at least judging by the last three reported fiscal years. But again, some large high profile companies are delivering big dividend increases. Samsung Electronics, Korea’s largest company, doubled its interim August dividend. Hyundai increased its 2014 annual dividend by 54% and instituted an interim payment in 2015. LG Electronics doubled its annual April payment. But dividends still account for a fraction of earnings for these companies. The payout ratios for Samsung, Hyundai and LG Electronics are 13%, 11%, 12% respectively.

Much like Japan, South Korea should provide plenty of opportunities for bottom up investors to find companies with growing earnings and increasing payout ratios – a tough combination to beat for rapid dividend growth.

Equity screen

To better understand the opportunities in Japan and South Korea, we screened Japanese and South Korean companies with markets values greater than $800 million. We limited the results to companies with a yield above 1.5% and a payout ratio below 20%. We ranked the remaining companies by the percentage of cash on the balance sheet to total assets. The table below presents the results, excluding those companies with negative dividend growth.[5]

Ticker	Name	Payout Ratio (%)	Cash to Assets (%)	Indicated Yield (%)	P/E	3-Year Dividend Growth (%)
2121 JP Equity	MIXI INC	20.0	62.8	2.7	7.4	301.0
1983 JP Equity	TOSHIBA PLANT SY	7.3	30.8	2.0	12.6	18.6
7313 JP Equity	TS TECH CO LTD	18.5	29.2	2.1	9.5	34.3
8036 JP Equity	HITACHI HIGH TEC	19.3	28.7	1.7	14.6	35.7
6395 JP Equity	TADANO	14.9	27.5	1.8	8.9	35.7
6816 JP Equity	ALPINE ELEC INC	16.3	26.6	2.0	5.3	20.5
6724 JP Equity	SEIKO EPSON	18.1	24.4	3.2	9.2	75.3
6807 JP Equity	JAPAN AVIAT ELEC	14.4	22.0	1.6	10.1	44.2
7279 JP Equity	HI-LEX CORP	16.0	21.5	1.5	9.7	12.2
6103 JP Equity	OKUMA CORP	19.6	20.4	1.8	11.7	17.0
6448 JP Equity	BROTHER INDS LTD	14.5	19.0	2.5	12.2	11.2
9678 JP Equity	KANAMOTO CO LTD	13.0	17.7	1.5	10.9	20.5
6135 JP Equity	MAKINO MILL MACH	13.6	17.5	1.8	7.3	26.0
000720 KS Equity	HYUNDAI ENG&CONS	13.3	13.8	1.8	7.6	0.0
7240 JP Equity	NOK	18.5	13.6	1.7	9.8	50.8
1662 JP Equity	JAPAN PETROLEUM	9.7	12.6	1.6	9.7	7.7
8331 JP Equity	CHIBA BANK LTD	19.0	9.5	1.8	12.1	8.4
6474 JP Equity	NACHI-FUJIKOSHI	20.0	9.3	1.8	12.2	18.6
6479 JP Equity	MINEBEA CO LTD	11.2	9.2	1.8	10.5	31.7

While we did not look closely at any of these companies, the results suggest that opportunities for significant dividend growth exist in the region. The predominance of Japanese companies also suggests that these companies have more potential to significantly improve their capital allocations. However, there are also far more Japanese companies in the universe of companies screened.

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