Is this Neil Woodford-owned 7% dividend stock today’s top FTSE 250 buy?

This FTSE 250 (INDEXFTSE:MCX) turnaround stock could provide a generous income for long-term investors, says Roland Head.

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With Brexit more uncertain than ever, where should you be putting your cash? I don’t pretend to have all of the answers. But one valid option is to focus on companies with a long history and a good track record of profitability.

One business held in high regard by fund manager Neil Woodford is subprime lender Provident Financial (LSE: PFG). Woodford’s funds have a 25% stake in this firm, which can trace its history back to 1880.

Although the company has diversified into online lending and credit cards, doorstep lending remains at the core of the business. This division went through a difficult period in 2017, when plans to bring self-employed collection agents in-house went badly wrong. But the firm’s recovery seems to be going well and chief executive Malcolm Le May has promised a return to regular dividends in 2019.

The market remains cautious about this business and Provident’s share price is still nearly 70% lower than it was two years ago. As a result, the shares offer a forecast dividend yield of almost 7% for 2019. I think this could be a buying opportunity.

High returns, low valuation

Provident is expected to generate earnings of 51p per share in 2018, rising by 26% to 64p in 2019. This puts the stock on a 2018 forecast price/earnings ratio of 11.9, falling to a P/E of 9.4 in 2019.

That seems cheap to me for a business that has historically generated a return on equity of more than 30%. This measure of profitability is widely used for financial stocks and compares a company’s profit with its net asset value. A high return on equity (RoE) generally indicates good cash generation, supporting dividends and growth.

Using analysts’ forecasts as a guide, my sums suggest an RoE of 17% for 2018, and a higher figure for 2019. At current levels, I’d rate the shares as a long-term buy.

This small-cap is beating forecasts

Shares of education services supplier RM (LSE: RM) are up by 10% at the time of writing after the firm said that full-year profits should be “slightly ahead of expectations.”

RM’s share price has fallen by more than 15% since early July as the Brexit sell-off has hit the stock market. But the company’s performance has remained strong, as today’s statement confirms.

The business has three main divisions: Resources, Results and Education. These supply teaching aids and curriculum resources, electronic testing services, and IT systems for schools.  

Chief executive David Brooks says that all three divisions have delivered a “positive performance” and that the group’s net debt fell by £7m to just £6m last year.

The group’s interim results in July showed that sales rose by 33% to £94.9m during the six months to 31 May, while adjusted operating profit climbed 27% to £8.3m. These figures were boosted by the acquisition of The Consortium, a rival educational supplies business formerly owned by Connect Group.

This deal seems to have worked out well, so far. However, this autumn’s sell-off has left RM stock trading on just 8.5 times 2018 forecast earnings, with a dividend yield of 3.8%. I think that may be too cheap to ignore, and would rate the stock as a buy.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Roland Head has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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