The Two Dividend Powerhouses I Bought With My 2024 TFSA Contribution

Even though I’m retired from traditional work, I still make sure to max out my TFSA each and every year.

In fact, my TFSA contribution is the first major financial move I make each year. I set money aside in December, wait for the calendar to turn over, and transfer that money over to my TFSA by about January 5th.

That’s the easy part. The hard part is deciding what to invest in.

I find a great first step whenever I’m struggling to find an investment is to start big picture and then work gradually towards from there. It helps organize my mind, and it’s a nice reminder of what’s really important.

So I started with the following question(s). What are my goals here? What do I want to get out of the investment?

My TFSA goals are simple. In fact, they’re same as the goals for the rest of my portfolio. I want to create a portfolio of dividend-paying securities that generates enough income to cover my living expenses and a reasonable amount of wants. I believe if I choose these stocks correctly, they will generate enough capital gains that they generate solid, albeit unspectacular total returns.

A TFSA that spits out heaps of tax free income can be incredibly powerful. My TFSA currently generates about $8,000 per year in income, which is all reinvested. If the dividend income doubles every seven years — a reasonable assumption considering I’m adding to my TFSA every year, reinvesting the dividends, and the underlying companies are hiking their payouts — then my TFSA income will see the following progression between now and age 65:

• Today, age 40: $8,000 per year

• Age 50: $16,000 per year

• Age 60: $32,000 per year

• Age 65: $48,000 per year

And remember, that income won’t be subject to a nickel of tax.

Not bad for a product that didn’t exist until I turned 26, and I didn’t really take seriously until I turned 30. And, to be completely honest, I think those expectations are a little light. I think my TFSA income will be closer to $55,000 or even $60,000 per year by the time I hit a traditional retirement age.

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By identifying my goal, suddenly I eliminated approximately 90% of North American publicly-traded companies from my search. I’m not looking to speculate on some obscure gold company or can’t-miss tech name. I want steady, stable, and boring dividend-paying companies I can hold over the long-term.

From there, I turn to my watchlist. I keep track of approximately 100 Canadian dividend stocks, grouping them into baskets ranging from undervalued (the buy list), fairly valued (the hold list) and overvalued (the ‘don’t buy’ list). I’m happy to hold an overvalued stock until it gets to ridiculously valued territory, but I don’t choose my buys from that list.

Note: I share my watchlist with paid subscribers of this newsletter.

Related: here’s the thought process I go through when selling a stock.

Now that I’ve used these two easy moves to manage my investing universe, suddenly an overwhelming decision is much easier. I narrowed down my choice from thousands of names to just a couple dozen.

So without further adieu, let’s take a closer look at the two stocks I bought with my TFSA contribution back in January. I shared these buys with paid subscribers back in January, and I share all my buys and sells with them. If you’d like to see my portfolio updates as they happen, upgrade your subscription.

Stock 1: Capital Power

I split 2024’s TFSA contribution in two this year, adding to two solid stocks I felt were undervalued.

The first investment was in Capital Power (TSX:CPX), an independent power producer with its headquarters in Edmonton. The company owns a fleet of mostly natural gas-fired power plants that generate more than 9,000 MW worth of energy.

The company has transformed itself pretty spectacularly over the last decade. In 2015, the then-ruling NDP government in Alberta told power producers in the province they’d have to move away from coal by 2030. Capital Power used this as an excuse to really supercharge its diversification efforts, embarking a growth-by-acquisition path that has seen it more than double revenues and profits.

These days, as investors put more and more emphasis on renewable sources of energy, Capital Power is able to purchase gas-fired power plants for incredible bargains. Take its most recent purchase, natural gas fueled plants in California and Arizona. The company paid under 5x EV/EBITDA for its new prize. That’s a great price for two assets that should still have decades of life left.

Despite a demonstrated growth path and potential for additional acquisitions over the long-term, Capital Power trades at under 7x adjusted funds from operations (AFFO). That’s a ridiculously low valuation that this analyst thinks goes up over time, especially as interest rates go down. Combine that with the company’s ability to grow AFFO over the long-term, and it could be a winning combination.

Capital Power’s high earnings power translates into one of the best dividends on the entire Toronto Stock Exchange. The company pays a 6.4% dividend today, with potential to grow that dividend by 6% per year through at least 2025. A 6.4% dividend usually isn’t considered affordable, but Capital Power’s payout is less than 50% of AFFO. That leaves it plenty of cash flow available to put towards acquisitions, pay down debt, or repurchase stock.

Including reinvested dividends, Capital Power has generated a return of 10.76% annually from 2014 through today, a solid return that has beat the TSX Composite Index. The company projects even better returns going forward, telling investors its goal is to generate 12-14% annual total returns — a goal I think is achievable via the generous dividend, earnings growth, and just a little bit of multiple expansion.

I paid approximately $37 per share for my Capital Power shares, adding to a position I’ve been accumulating since 2019.

Stock 2: Quebecor

The other investment I made in my TFSA this year was Quebecor Inc. (TSX:QBR.B).

Canada’s telecom sector is firmly in the doghouse. Quebecor’s 2023 acquisition of Freedom Mobile from Shaw (a deal mandated by the feds to ensure wireless affordability in Canada) fueled a price war in the wireless space as Quebecor undercut its competition to gain market share. It’s a strategy the company is very familiar with, using something very similar to take on the incumbents in its home province starting in 2010.

This action, combined with high interest rates, lackluster results, and still elevated capex spending from Quebecor’s larger peers, hit the telecom industry hard in 2023. Telecom shares fell hard as investors digested the short-term issues and moved away from the sector.

I viewed this as a buying opportunity, and I’ve been loading up. I picked Quebecor specifically in January because it offered a compelling growth story, a cheap valuation, and a solid balance sheet.

The growth story is simple. As Quebecor expands Freedom into more markets, it will grow the company’s top line. And since Quebecor has a history of undercutting its peers and making money doing so, I’m confident its management will grow profits over time. The company isn’t just looking to gain market share at any cost; it’ll grow profitably.

Analysts tend to agree with me, with consensus estimates projecting earnings will increase from $2.91 per share in 2023 to $3.46 per share in 2025. Free cash flow is expected to surpass $1B in 2025 (or about $4.35 per share) and increase to $1.2B in 2026, which would easily surpass $5 per share.

Not bad for a stock trading at $30.45 today, a hair under my buy level, which was right around $32 per share.

Quebecor also has a much better balance sheet than most of its peers. The company has a trailing net debt to EBITDA ratio of 3.8x EBITDA today, better than Telus (4.5x trailing EBITDA), Rogers (4.9x trailing EBITDA, although it is paying down its debt quickly), and about the same as BCE (3.8x trailing EBITDA.

Quebecor also trades at less than 10x forward earnings and at just over 7x forward free cash flow. It pays a generous dividend, with shares yielding approximately 4%, and it offers dividend growth potential as well. With a 39% payout ratio — one of the best payout ratios in the sector in Canada — and what should be steady earnings growth over time, look for the dividend to keep marching higher.

As you can see by these two choices, I like solid dividends today that have the potential to grow much larger in the future.

Finally, Quebecor has consistently repurchased its shares in the last decade, decreasing the share count from a peak of 287M shares to just over 237M shares today. That’s a decrease of approximately 17%.

One more thing…

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