Eaton Corporation plc (NYSE:ETN) operates as a power management company worldwide. This dividend company has paid dividends since 1923, but is the type of company that does not raise them every year. For example, in the past two decades the company kept annual dividends unchanged in 1999, 2000, 2002 and 2009. While you would not find the company covered by most other dividend investors, I believe that it has some great prospects for those willing to take the time and study this business. I recently added to my position in the company, and decided to update my analysis on the company.
The most recent dividend increase was in February 2015, when the Board of Directors approved a 12.20% increase in the quarterly dividend to 55 cents/share.
The company's competitors include Johnson Controls (NYSE:JCI), Parker Hannifin (NYSE:PH) and ITT Corporation (NYSE:ITT).
Over the past decade this dividend growth stock has delivered an annualized total return of 11.50% to its shareholders. Future returns will be dependent on attractive entry price, growth in earnings and dividend yields obtained by shareholders at the time of purchase.
The company has managed to deliver a 6.10% average increase in annual EPS over the past decade. Eaton is expected to earn $4.45 per share in 2015 and $5.03 per share in 2016. In comparison, the company earned $3.76/share in 2014.
The company's business model is somewhat more cyclical than the type of dividend growth companies I have traditionally focused on. Due to the cyclical nature of the segments, it is understandable that dividends fail to get increased during recessions.
Future growth would be derived from several components, mostly acquisitions, and growth in emerging economies. The company recently acquired Cooper Industries, which increased capabilities and geographic reach of the combined new company. This combination significantly expands the ability to better serve customers with their demands for critical energy saving technologies as they address the impact of the world's growing energy needs. In addition, after the deal closed, Eaton moved its headquarters to Ireland, which lowered its corporate tax rate on income derived outside the US. Luckily, they managed to do that before corporate tax inversions became a hot topic.
After the acquisition, the company's business units are more evenly balanced through the economic cycle. Approximately 30% benefit in the early cycle, another 30% benefit during a mid-cycle, while another 30% benefits during a late cycle of an economic expansion. The remainder is non-cyclical business units. The company is also making investments in emerging economies, and expects larger growth going forward. The share of sales derived from emerging markets was 25% in 2010, and is expected to rise to 30% by 2015. Longer term, the developing worldwide infrastructure will be a positive trend that Eaton can capture and profit from.
The company has a strong competitive position in all four of its business segments, and is one of the market leaders in all of them. Achieving the necessary scale in operations makes a company more competitive by keeping costs low and making it more competitive. In addition, when it comes to trade catalogues, it is more likely to have the larger participants in a given market listed, as opposed to the smaller ones. Therefore, it is easier for the larger ones to compete against the smaller members.
Eaton will also manage to grow because it taps onto powerful megatrends. For example, utilities need to upgrade to meet stricter regulations. In addition, there is a demand for energy-efficient technologies and demand-management services, and the move for utilities to the smart grid. The need for fuel efficiency will also help the company's aerospace, truck and automotive business units.
I really like the fact that company is not just focusing on growth for growth's sake, but is carefully vetting its opportunities. The company is targeting a return on invested capital of 15%, which to me shows that they are focusing on return on investment above cost of capital.
The annual dividend payment has increased by 13.70% per year over the past decade, which is higher than the growth in EPS. I would expect the dividend growth rate to be closer to 10% for the near future.
A 14% growth in distributions translates into the dividend payment doubling every five years on average. If we check the dividend history, going as far back as 1972, we could see that Eaton has last managed to double dividends every eight and a half years on average.
In the past decade, the dividend payout ratio has increased from 23.70% in 2005 to 52.10% by 2014. A lower payout is always a plus, since it leaves room for consistent dividend growth, minimizing the impact of short-term fluctuations in earnings.
The return on equity has been on the decline, falling from 21.80% in 2005 to 11.10% in 2014. This is one of the negative factors I didn't like about the company. I generally like seeing a high return on equity, which is also relatively stable over time.
Currently, Eaton is attractively valued at 13.10 times forward earnings, and has a dividend yield of 3.80%. I recently added to my position in the company in the past month. I would be looking forward to further build out my position in the company in the coming years, subject to availability of funds, opportunity cost and valuation.
Full Disclosure: Long ETN
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