For my retirement, I am planning on relying exclusively on income from my dividend portfolio. In order to achieve the dividend crossover point, I would need to be prudent about saving and then investing the cash in quality income stocks at attractive valuations. The valuation part is generally easy to convey using simple numerical equations such as:
1) A ten year record of annual dividend increases
2) Annual dividend growth exceeding 6%
3) A Price/Earnings ratio below 20
4) A dividend payout ratio below 60%
5) A minimum yield of 2.50%
I usually run this screen on the dividend champions list once a month and come up with ideas for further research or with alerts that stocks I like are attractively priced. The more difficult task is evaluating quality when it comes to stocks. It is often said that beauty lies in the eyes of the beholder. When assessing quality in income stocks, I am often finding that what I identify as quality might be trashed by someone else.
In general, a quality company is the one that has strong brand name products and services that customers are willing to pay top dollar for. The products/services associated with this brand name represent quality, and offer something of value to consumers that is only offered by this company. When a company is offering something that is uniquely distinguished, and is not a commodity, it can then charge a premium and can pass on cost increases to consumers if input costs increase.
For example, you can purchase Cola products from many companies including PepsiCo (PEP), RC Cola and Coca-Cola (KO). However, for many consumers throughout the world, Coca-Cola offers a refreshing taste that is unique to the product they like. Even if someone was able to reverse engineer Coke, they would not be hugely successful because they would offer a largely untested product that the consumer is not familiar with. The company has managed to increase dividends for 52 years in a row, and pays an annual dividend of 3%. Check my analysis of Coca-Cola.
The same is true for PepsiCo (PEP), which is a close rival of Coke in the Cola Wars. PepsiCo however is much more than a soft drinks company. It also sells snacks to consumers such as Lays potato chips. The food business is incredibly stable, as consumers are typically used to buying the brands they trust on their trips to the grocery store. In addition, it is much easier to charge higher prices for your product that the customer likes.The company has managed to increase dividends for 42 years in a row, and pays an annual dividend of 2.70%. Check my analysis of PepsiCo.
Another quality company is Wal-Mart Stores (WMT), which is used by 100 million shoppers every week. The company is offering the lowest prices for everyday items that shoppers ultimately purchase. Wal-Mart has been able to distinguish itself as the lowest price store as a result of its massive scale in the US. That has allowed it to dictate terms for its suppliers, many of which feel lucky to have their products on display at the largest retailer in the US. For a competitor to replicate this success, it would take an enormous amount of capital and years of experience. The company has managed to increase dividends for 41 years in a row, and pays an annual dividend of 2.50%. Check my analysis of Wal-Mart Stores.
International Business Machines (IBM) is a quality technology company that I have always found to be slightly over valued for my taste. I like the fact that the firm has been able to successfully transform itself into essentially what is now a global consulting company, from the pure hardware behemoth it once was in the 1980’s and early 1990’s. The firm has achieved that by building relationships with clients, gaining their trust and offering them services that provide them great value. In business, relationships are very important. Technology is one aspect of the business, where companies are less likely to venture with an unknown firm simply to save a few bucks. It would be much easier to justify selecting a company like IBM for an important technology implementation, than a little known firm. Plus, if the IBM consultants have a working knowledge of a company or industry, they would be much better at delivering value for their clients. The company has managed to increase dividends for 18 years in a row, and pays an annual dividend of 2%. Check my analysis of IBM.
Philip Morris International (PM) sells its Marlborough brand of cigarettes all over the world. Phillip Morris International has a high exposure to emerging markets, where number of smokers is increasing, along with their disposable incomes. Plus, it is not exposed to ruin if one country decides to ban tobacco outright. PMI has a wide moat, because it would be extremely difficult for a new company to start and compete against the long established brands like Marlboro. Consumers generally stay with the brands they are used to buying. Cigarettes are an addictive product, which spots very good pricing power. In addition, PMI has the economies of scale which ensure that its costs stay low relative to the competition. The company has managed to increase dividends for 6 years in a row, and pays an annual dividend of 4.50%. This is why this is the security I like best.
Another firm I like is Kinder Morgan Partners (KMP). This master limited partnership has the longest network of oil and gas pipelines in the US. It also has pipelines transporting oil and gas in Canada as well. The beauty of pipeline business is that it is federally regulated, and that companies that build pipelines seldom have competition. In essence, they are natural monopolies that connect the operators of oil and gas wells with the refineries and other end users, while receiving a toll charge. The amounts of oil and gas consumed in the US is remarkably stable, which is why a company with little competition that manages to charge toll type rates that are indexed with inflation seems like a good idea. The company has managed to increase dividends for 18 years in a row, and pays an annual dividend of 7%. Check my analysis of Kinder Morgan.
The last company on the list is McDonald's (MCD). There are over 35,000 restaurants world-wide, which bear the name McDonald's. Over 80% of those restaurants are franchised, which means that McDonald's is earning a boatload of royalties off those restaurants merely for their right of using the strong brand name, without taking the risk and significant capital expenditures associated with restaurants. These franchise agreements last several decades, which all but ensures a regular stream of cash being sent to the headquarters. In many cases however, the company also owns the real estate under the restaurants ( both company and franchised), which is a hidden asset on the balance sheet, since many locations are on busy intersections and therefore extremely valuable. Plus, consumers like McDonald's, who is always quick to look for new opportunities for growth such as drive-through windows, new markets, change in menus, expanding store hours or drive-through lanes, etc. The company has managed to increase dividends for 38 years in a row, and pays an annual dividend of 3.20%. Check my analysis of McDonald's.
What makes this investments sleep well at night ones is the fact that their income is produced by a diverse set of divisions, geographies and products. Plus, I find them to be fairly valued in today's market, and I believe they have bright futures that would bring in more earnings and dividend income for shareholders in the decades ahead.
Full Disclosure: Long MCD, PM, KMR, KMI, KO, PEP, IBM, WMT
- How to be a successful dividend investor
- When to sell your dividend stocks?
- How to monitor your dividend investments
- How to deal with new cash from dividend payments
- How to Manage Your Dividend Portfolio
Monday, April 21, 2014
For my retirement, I am planning on relying exclusively on income from my dividend portfolio. In order to achieve the dividend crossover point, I would need to be prudent about saving and then investing the cash in quality income stocks at attractive valuations. The valuation part is generally easy to convey using simple numerical equations such as:
Tuesday, March 4, 2014
Back in 2013, I opened a SEP IRA account, in an effort to minimize my tax liabilities for 2012. I realized in 2012 that my largest household expense was for taxes. As a result, I have been maxing out all tax deferred accounts I could get my hands on today, in an effort to minimize amount of taxes I am paying today. Once I retire, my goal is to convert those funds into a Roth IRA and pay a minimal if any amount of taxes on the conversion process.
In early February, I made a contribution to my SEP IRA for 2013 income, in order to reduce those taxable liabilities. I purchased shares in the following four companies, and tweeted about it:
General Mills, Inc. (GIS) produces and markets branded consumer foods in the United States and internationally. This dividend achiever has managed to increase dividends for 10 years in a row. Over the past decade it has managed to boost dividends by 9.90%/year. Currently, the stock is attractively valued at 18.50 times earnings and yields a safe 3.10%. Check my analysis of General Mills.
Diageo plc (DEO) produces, distills, brews, bottles, packages, and distributes spirits, beer, wine, and ready to drink beverages. This international dividend achiever has managed to increase dividends since 1998. Over the past decade, Diageo has managed to boost dividends by 6.40%/year in British currency. Currently, the stock is fairly valued at 19 times earnings and yields 2.30%. Check my analysis of Diageo.
ConocoPhillips (COP) explores for, produces, transports, and markets crude oil, bitumen, natural gas, liquefied natural gas, and natural gas liquids on a worldwide basis. This dividend achiever has managed to increase dividends for 13 years in a row. Over the past decade ConocoPhillips has managed to boost dividends by 15.70%/year. Currently, the stock is attractively valued at 9 times earnings and yields a safe 4.30%. Check my analysis of ConocoPhillips.
McCormick & Company (MKC), Incorporated manufactures, markets, and distributes spices, seasoning mixes, condiments, and other flavorful products to retail outlets, food manufacturers, and foodservice businesses. This dividend champion has managed to increase dividends for 28 years in a row. Over the past decade McCormick has managed to boost dividends by 11.40%/year. Currently, the stock is overvalued at 22.50 times earnings and yields a safe 2.20%. Check my analysis of McCormick.
Dividend paying stocks are the most practical means to put money to work for individual investors. It is not that difficult to comprehend that if you put your money to work in quality dividend machines that manage to simultaneously grow earnings and send a growing stream of income to shareholders, you have a high chance of achieving your financial goals. It is also not difficult to understand that companies that manage to deploy their cash at high rates of return, send excess cash flows to dividends, and still grow the bottom line, will become more valuable over time to investors. Therefore, those investors who manage to snag those quality dividend growth companies at fair valuations in their diversified portfolios will be able to leverage the power of compounding at its fullest. Therefore, dividend growth stocks are ideal not only for current retirees who desire an inflation proof source of income, but also for those who are in the process of accumulating their nest egg.
In my interactions with ordinary investors, I have come to realize that there are two groups out there. One of them instantly gets the benefits of dividend growth investing, while the other group spends their time debating against this strategy. The second group debates against dividend growth investing largely by focusing on outliers or academic knowledge which works on theory, but is short on providing results in the real world that all of us operate under.
At some point, debating just for the point of debating becomes pointless and actually dangerous, because it prevents investors from starting their investment journey. At the end of the day the most important thing for investors is to actually get started and learn the rules of the game along the way. If someone always keeps looking for the strategy that only produces best case results, and they are not comfortable taking any risk, they would never launch their investing career and possibly never earn enough to retire.
My goal is to make money in the real world, and find the way that would ensure a stream of income that grows above level of inflation, which is stable, and recurring, and would make living off my nest egg easy with the least amount of complications. I have found that the perfect method for monetizing my assets is by living off dividends in retirement.
Full Disclosure: Long COP, DEO, GIS, MKC
- Six Dividend Paying Stocks I Purchased for my IRA
- My Retirement Strategy for Tax-Free Income
- Six Compounding Machines for Long Term Dividend Investors
- The Warren Buffett Argument Against Paying Dividends
- Why Dividend Growth Stocks Rock?
Monday, March 3, 2014
When most investors watch share prices fluctuate on a screen, it is easy for them to forget there are real businesses behind those share quotes, and not lottery tickets. It is also very easy to forget that price is what you pay, while value is what you get. Just because everyone is willing to pay only $56 for a share of Target, that doesn't mean that the value of the business in a going private transaction is $56. In reality, it could be much higher than that.
An investor should ask themselves the following questions, in order to better understand the business they are thinking of getting into:
1) What does the business do
In order to learn about a business, the logical first step is to realize what this business does. In the case of Target (TGT), you know that the company is a retailer, that sells things in retail stores with various formats and sizes. In the case of Exxon Mobil (XOM), the company owns fully or fractionally oil and gas wells, refineries and carbon transportation assets. Obviously, you need to understand the business and the industry the company is operating in, and take that into account when analyzing companies. When you evaluate Exxon Mobil you want to make sure that the company is able to replace existing reserves, in order to continue production and earn money. All Target cares about is bringing in traffic to its stores, staying relevant and keeping customer loyalty. Thus, always be mindful of industry specifics, when you try to choose between two businesses.
2) Who are the competitors? Are they relying too much on single customer or supplier?
In the case of Target, there are retail competitors all over the place. Wal-Mart (WMT) is a larger competitor, although Target appeals to individuals who earn more than the typical Wal-Mart client. Target also outspends Wal-Mart in the advertising front, in order to create a unique image that appeals to shoppers. The company also competes with the likes of Amazon.com (AMZN). This is one uncertainty that lies ahead for retailers – would their business model become obsolete by the emergence of the web. I think it is doubtful that physical store locations would not be used in the future, but the internet has brought a new threat to traditional retail. Target definitely has potential on the Target.com front however, which can mitigate some of those risks.
3) At what price can I snag the business?
It is rare that a business like Target would sell at irrationally depressed price to a private owner. In a manic depressive stock market however, it is entirely possible. As an investor, your goal is to buy shares as cheaply as possible. I usually try to avoid paying more than 20 times earnings, and also look into sustainability and growth prospects when I have to decide between companies. It also helps to acquire positions in businesses when few participants are excited about their prospects. Currently, it seems that many are not so optimistic about Target, given the stolen credit and debit card numbers, and the failure in Canada. While it is quite possible that business deteriorates from here, or that the stock price falls further, I think that now is the time to start acquiring Target for my portfolio. I have been nibbling my way into the stock, and would keep averaging down by adding to my stake approximately in 2014, depending on prices for other securities and prices for Target stock of course. I chose to dollar cost average by making 10 - 12 smaller investments throughout the year, rather than 2- 3 larger ones.
If I can purchase Target at 15.20 times earnings and a yield of 3.10%, that could be a good entry price. Earnings and dividends would likely increase from here, and could easily end up doubling every 9 - 10 years. The fact that Target is smaller than Wal-Mart (WMT) actually creates an opportunity for better future growth, since international is still untapped. This assumes that you are a buyer with strong hands, who is not going to be scared away from stock price volatility or temporary business problems. If you think that the business will not be around in 20 years, then obviously it would not make sense to buy. I believe Target will learn from its mistakes, and will succeed, hence I am willing to put my money where my opinions lie.
Another quality dividend paying stock that many investors own is Coca-Cola (KO). If you buy Coca-Cola at $38, and keep getting a $1.12 in annual dividends that grow by 7%/year, would it matter if market price goes down to $20 or up to $60 in the next 5 years? Unless you plan on putting the dividend and any fresh capital back in the stock, you should pretend like the stock market is closed for the next five years, and spend your time with family, on your day job or your hobby instead. I recommend going to bars or the movies also.
4) What are business competitive advantages
With companies like Wal-Mart Stores (WMT), the competitive advantage is the scale of operations. The company is spending a lot of time with suppliers in order to negotiate lowest prices, and it is continuously investing in infrastructure such as distribution centers and technology, in order to bring costs to the lowest levels possible.
On the other hand, Target stores are cleaner than those of Wal-Mart, and provide a more enjoyable experience to the shopper. This comes at a price however, as prices for the same item are usually slightly more expensive at Target. However, if you want to get fresher fruit and vegetables, do not want to wait in lines that have more than 2 customers, and want a better shopping experience, Target is the place for you. Target delivers on a great store experience and a product that is exciting and unique. Target tries to create excitement in shoppers, and position its products on basis of innovation, on design, and on quality. If you are frugal like me, you would keep going to Wal-Mart to save a few bucks however. However, if you can afford to pay slightly more for a better and friendlier customer experience, faster checkout times, then Target is the place for you.
Customer loyalty is strengthened through the Red Card, which offers discounts to shoppers who frequent the store. It is a win-win for both customers and Target. Target also manages to keep customer loyalty with special discounts and deals from time to time.
Another item that appeals to some shoppers is the fact that Target is active in communities, and provides money to non-profits. Compare this to all the negative publicity that Wal-Mart gets for ruining mom and pop stores.
For companies like Exxon Mobil (XOM) for example, their strength is in their integrated scale of operations. Furthermore, the company is very wise on capital allocation decisions, and tries to generate an adequate return on invested capital for all projects, whether drilling for oil and gas wells, making acquisitions or returning money to shareholders through buybacks. This is an important quality for management to have, because it lowers the risk that they would do something to jeopardize shareholder profits by getting in a bidding frenzy and replacing reserves by paying top dollars for it.
5) Can the business earn more over time - what factors will drive it
The thing is that Target’s market is the US is close to its saturation point. Future growth in the US is still likely, but it won’t be as robust as in the past. Therefore, if it wants to generate more growth in the future, the company needs to expand internationally. The company is eyeing Canada and Latin America as its near term base for expansion. It actually seems to have not done so well with the launch of its Canadian operations, which has led investors to discount future growth prospects through a more skeptical lens. I believe that the company would learn from this experience, and hopefully use that in their future expansion plans abroad.
Full Disclosure: Long TGT, WMT, XOM, KO
- How to choose between dividend stocks?
- Two Dividend Machines I Purchased Last Week
- Dividend Investors Should Ignore Price Fluctuations
- Coca-Cola: A wide-moat dividend growth stock to buy and hold
- How to retire in 10 years with dividend stocks
Tuesday, February 25, 2014
In a previous article I discussed several compounding machines that are currently attractively priced. In this article, I will discuss a few world class companies, which have wide moats, pricing power, and strong brands, that would likely keep growing for years to come. Unfortunately, investors have realized how awesome these companies are, which is why they are overvalued today.
I do not blindly purchase companies, just because I find them to have strong qualitative characteristics. I also want to purchase them at attractive valuations, which provide me with some margin of safety in case my investment thesis is incorrect, and growth does slow down. I am monitoring these companies closely, in order to be quick to capitalize on any significant weakness in stock prices. Companies do not grow in a straight line, and often face roadblocks on their way to greatness. Sometimes the declines are company specific, while other times the declines are based on the overall economic cycle. The companies I am waiting for declines in include:
McCormick & Company (MKC), Incorporated engages in the manufacture, marketing, and distribution of spices, seasoning mixes, condiments, and other flavorful products to retail outlets, food manufacturers, and foodservice businesses. This dividend champion has rewarded shareholders with a dividend increase for 28 years in a row. Over the past decade, earnings per share have increased by 9.20%/year, while dividends were raised by 11.40%/year. Currently, the stock is trading at 22.70 times earnings and yields a very sustainable 2.30%. I initiated a small position in the company at the beginning of the month during the dip, in order to be able to better monitor the progress. Check my analysis of McCormick for more information.
Colgate-Palmolive Company (CL), together with its subsidiaries, manufactures and markets consumer products worldwide. This dividend champion has rewarded shareholders with a dividend increase for 51 years in a row. Over the past decade, earnings per share have increased by 8.90%/year, while dividends were raised by 11.40%/year. Currently, the stock is trading at 25.90 times earnings and yields a very sustainable 2.20%. I have built my position in the company between 2008 and 2012. Check my analysis of Colgate-Palmolive for more information.
Automatic Data Processing, Inc. (ADP), together with its subsidiaries, provides technology-based outsourcing solutions to employers and vehicle retailers and manufacturers worldwide. This dividend champion has rewarded shareholders with a dividend increase for 39 years in a row. Over the past decade, earnings per share have increased by 4.90%/year, while dividends were raised by 13.70%/year. Currently, the stock is trading at 26.10 times earnings and yields a very sustainable 2.50%. I have built my position in the company between 2008 and 2012. Check my analysis of ADP for more information.
Brown-Forman Corporation (BF.B) engages in the manufacturing, bottling, importing, exporting, marketing, and selling alcoholic beverages. This dividend champion has rewarded shareholders with a dividend increase for 30 years in a row. Over the past decade, earnings per share have increased by 10.30%/year, while dividends were raised by 10.20%/year. Currently, the stock is trading at 28.40 times earnings and yields a very sustainable 1.60%. I purchased a small position in the company back in 2010. Check my analysis of Brown-Forman for more information.
The Hershey Company (HSY), together with its subsidiaries, engages in manufacturing, marketing, selling, and distributing various chocolate and confectionery products, pantry items, and gum and mint refreshment products worldwide. This dividend paying company has rewarded shareholders with a dividend increase for 5 years in a row. Over the past decade, earnings per share have increased by 7.10%/year, while dividends were raised by 15.30%/year. The company froze dividends in 2009, which ended its 33 year streak of consecutive dividend increases. Currently, the stock is trading at 29.80 times earnings and yields a very sustainable 1.60%.
Friday, February 14, 2014
Brown-Forman Corporation (BF.A) (BF.B) engages in the manufacturing, bottling, importing, exporting, marketing, and selling alcoholic beverages. It provides whiskey, ready-to-drink products, vodka, tequilas, champagnes, wines, liqueur, and other distilled spirits. This Dividend Champion has paid dividends since 1960 and has increased them for 30 years in a row.
The company’s latest dividend increase was announced in November 2013 when the Board of Directors approved a 13.70% increase in the quarterly annual dividend to 29 cents /share. The company’s peer group includes Diageo (DEO), Beam (BEAM), and Constellation Brands (STZ).
Over the past decade this dividend growth stock has delivered an annualized total return of 14.80% to its shareholders.
The company has managed to deliver an 11% average increase in annual EPS over the past decade. Brown-Forman is expected to earn $2.96 per share in 2014 and $3.26 per share in 2014. In comparison, the company earned $2.75/share in 2012.
In addition, between 2004 and 2013, the number of shares decreased from 229 million to 215 million.
The company has several strong brands such as Jack Daniels Tennessee Whiskey, which accounts for a large portion of its revenues. Other brands include Finlandia and Southern Comfort. There is strong customer loyalty for company’s products, particularly for its Jack Daniels line of whiskeys, which results in strong pricing power. If you want Jack Daniels, and the store doesn’t sell it, you will likely go to another store. This is an example of a wide-moat. Another example include the high returns on equity and capital that the company has been able to generate over the past decade.
Besides growth in Jack Daniels whiskey, which has recorded 21 years of consecutive volume increases, the company grows sales through brand extensions, such as Gentleman’s Jack.
Another venue for growth includes international expansion. Currently 59% of sales come from international versus 15% that were generates 20 years ago. About 30% of sales were generated in Europe, 14% Australia, and 15% in other countries such as Mexico and Japan. As a result, I believe there is plenty of room for growth in emerging countries such as China, Brazil, and Russia, to name a few obvious opportunities.
The company owns its distribution in many markets such as Australia, Brazil, Canada, China, Mexico, Turkey etc. In other markets such as Russia ,Japan, South Africa, it operates under fixed term contract with distributers. In the UK,which accounted for 9% of sales in 2013, Brown-Forman has a cost sharing agreement with Bacardi. The company is focused on investing in its distribution network, which allows it to focus on its brands and improve margins. In 2014, it will start operating its own distribution network in France.
Other room for growth could include strategic acquisitions. Previous acquisitions include Finlandia Vodka, Southern Comfort, Casa Herradura and Chambord Liqueur Brand. Interesting enough, Jack Daniel's Tennessee Whiskey was acquired in 1956 for $20 million.
Management has been very shareholders friendly, as it has deployed capital intelligently, in order to maintain high returns on capital invested. In addition, they distributed special dividends in 2010 and 2012, when preferential tax treatments on qualified dividends were set to expire. They rank each of the company's brands according to its return on investment. The adherence to intelligent capital allocation means that they pour dollars only into their most promising brands.
There are a couple risks that I see with Brown-Forman. The first risk is that the Brown family exerts a lot of control over the company through the dual-class shareowner structure. For example, the A shares have voting rights, while the B shares have no voting rights, although they do share same proportionate amounts of dividends. The Brown Family has over 66% of the voting power, through its ownership of A shares either directly or through family controller entities. Hence the company is classified as a “controlled company”.
The other risk is that there is too much reliance on Whiskey sales, which could be bad for revenue growth if consumer tastes change. Jack Daniels category accounts for over half of product volumes.
The annual dividend payment has increased by 10.20% per year over the past decade, which is slightly lower than the growth in EPS. The growth in distribution payments over the next decade will likely be equal to or slightly higher than the growth in earnings per share.
A 10% growth in distributions translates into the dividend payment doubling every seven years on average. Since 1988, Brown-Forman has been able to double dividends every eight years on average.
Not included in the chart are special dividends of $4/share in 2012 and $0.67/share in 2010.
The dividend payout ratio has largely remained in a range between 32% and 39% over the past decade. 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 company has a really high return on equity, which is common for most high quality dividend payers that do not require a lot of equity to operate the business. Rather than focus on absolute values for this indicator, I generally want to see at least a stable return on equity over time.
Currently, the stock is overvalued, as it trades at a P/E of 27.20 and yields only 1.60%. I am analyzing the company because I believe it is a quality dividend growth company, which will be a very good addition to my portfolio on dips below $60. I will still keep holding onto my existing shares, which I believe have a value of approximately 30 times earnings to a private owner. As earnings will increase over time, that value should increase as well. To put it in Warren Buffett terms, this is an excellent business, but unfortunately the price is too rich to justify an investment at present terms.
There has recently been M&A activity in the industry, as Beam Inc (BEAM) is in the process of being acquired by Japanese company Suntory at 30 – 32 times earnings. It is possible that Brown-Forman shares could have been bid up because they could be a potential acquisition target by a larger competitor. However the dual-class shareholder structure, and the fact that voting power is concentrated in the Brown family, makes a successful acquisition of Brown-Forman by someone like Diageo (DEO) highly unlikely. This could be a plus however, as acquisitions of quality dividend companies rob shareholders of the acquisition target from the dividend growth potential they could have enjoyed, had the company not been bought out. If earnings per share double every decade, and dividend payout ratios are maintained, long-term investors will do just fine.
I currently find Diageo (DEO) to be a much better value, at 18.70 times earnings and yield of 2.40%. Therefore, I recently purchased Diageo shares.
Full Disclosure: Long BF.B, DEO
- How to read my stock analysis reports
- My Entry Criteria for Dividend Stocks
- Ten Dividend Stocks with High Returns on Equity
- Why Dividend Growth Stocks Rock?
- These Dividend Growth Stocks Increased Distributions to Shareholders
Tuesday, February 11, 2014
In the past couple of weeks, I added to my positions in four companies, and initiated a position in two more. It is exciting to see stock prices starting a descend to more attractive values. I am starting to get excited about the possibility of further downside for share prices in 2014, if I am lucky of course. As an investor in the accumulation phase, I get to buy more dividend paying shares when my retirement income is on sale.
I view every stock that I purchase as essentially buying time. Every dividend check represents money I earned that I didn't have to exchange my labor for. This is the beauty of having your money work for you, invested in compounding machines that design and sell products and services around the world, make profits, reinvest in the business and send you a growing pile of excess cash to your brokerage account.
The five companies I purchased are listed below. I also purchased McCormick & Co (MKC) last week, but won’t discuss it here, because I already analyzed it in detail on Friday.
I added to my position in Target (TGT), as part of my intent to dollar cost average my way into the company throughout 2014. Target has suffered from breaches into the credit and debit card accounts of millions of customers in the US. In addition, Target seems to have mismanaged its expansion in Canada. As a result, the stock price has been on a slow slide since the middle of 2013. I find the stock to be a very good value at 15.10 times earnings and a yield of 3.10%. The company has also managed to increase dividends for a cool 46 years in a row. Check my analysis of Target.
Another company I added to was Wal-Mart Stores (WMT). Wal-Mart Stores, Inc. operates retail stores in various formats worldwide. The company has increased dividends for 39 years in a row. Over the past decade, Wal-Mart has managed to increase dividends by 18%/year. This dividend champion trades at 14.20 times earnings and a yield of 2.50%. Check my analysis of Wal-Mart.
For a second month in a row, I also added some McDonald’s (MCD) as well. McDonald’s Corporation franchises and operates McDonald's restaurants in the United States, Europe, the Asia/Pacific, the Middle East, Africa, Canada, and Latin America. This dividend champion has rewarded shareholders with a dividend raise for 38 years in a row. Dividend growth has been slowing down however, from 22.80%/year over the past decade all the way to 13.90%/year over the past five years. Currently, the stock is attractively priced at 17.30 times earnings and yields 3.40%. Check my analysis of McDonald’s.
I purchased shares of Diageo (DEO) for both my taxable and Roth IRA account. Diageo plc produces, distills, brews, bottles, packages, and distributes spirits, beer, wine, and ready to drink beverages. I had previously owned a token position in Diageo, which I sold in early 2013 to simplify my portfolio. This international dividend achiever trades at 18.30 times earnings and a yield of 2.40%. Diageo has managed to increase dividends for 16 years in a row. When competitors such as Beam (BEAM) were acquired at 30 times forward earnings, companies like Diageo look much cheaper. Of course, Diageo is 4 – 5 times larger than the likes of Beam of Brown-Forman (BF.B), so they are less likely to be an acquisition target. Check my analysis of Diageo.
I also added to my shares of General Mills (GIS) in the Roth IRA account. General Mills, Inc. produces and markets branded consumer foods in the United States and internationally. The company has paid dividends for 115 years and never reduced them. In 1995 it lost its status of a dividend champion of 29 years, after freezing distributions following spin-off of Darden Restaurants (DRI). In addition, General Mills has increased dividends for the past 10 years in a row. Over the past decade, General Mills has managed to increase dividends by 9.90%/year. Currently, this dividend achiever is trading at 17.90 times earnings and yields 3.20%. Check my analysis of General Mills.
I almost added to my position in Philip Morris International (PM), but I stopped myself, since it is the second or third largest position in my portfolio by weight. While I really like the company, its fundamentals and the possibilities for growth in earnings and dividends, I do want to be diversified and not overly reliant on a single security for my dividend income in retirement. However, if it drops to $75 and below, I might add some more to the position there. It is very rare that you can find a company with growing earnings, dividends , cheap valuations and a fat current yield, which is sustainable.
What securities did you buy over the past couple of weeks?
Full Disclosure: Long TGT, WMT, DEO, GIS, PM, MCD, BF.B, MKC
- Your Retirement Income is on Sale!
- Six Compounding Machines for Long Term Dividend Investors
- Dividend Champions - The Best List for Dividend Investors
- Roth IRA’s for Dividend Investors
- The Security I Like Best: Philip Morris International
Monday, February 10, 2014
In a previous article I discussed the positive and negative sides of stock buybacks. In general, I am interested in dividends paid to me in cash, rather than the potential for a capital gain that share buybacks might deliver. The issue with buybacks is that managements quite often have terrible timing with execution of programs. For example, when times are good and companies are flush with cash, managements start repurchasing stock at high prices. However, when times are bad, managements conserve cash and not only fail to take advantage of repurchasing stock at depressed values, but might even issue more stock to bolster liquidity. General Electric (GE) is a prime example of this phenomenon, as it spent billions repurchasing stock at prices between $35- $39/share prior to the financial crisis, only to sell half a billion shares at $22 when things got tough. This is not an example of intelligent capital allocation.
However, if management can consistently buy out other shareholders at attractive prices, and buybacks don’t mask the eroding effects of share compensation, I can view them somewhat favorably. I am particularly favorable towards companies which consistently perform share buybacks, and do not overpay for those shares. I went through the list of the top 20 buybacks for the past three years, and identified several companies which have managed to repurchase a significant amount of stock each year for the past five years.
Exxon Mobil Corporation (XOM) engages in the exploration and production of crude oil and natural gas, and manufacture of petroleum products. The company has raised dividends for 31 years in a row. Over the past decade, this dividend champion has managed to increase dividends by 9.60%/year. Currently, Exxon Mobil trades at 12.20 times earnings and yields 2.70%. Check my analysis of Exxon Mobil.
International Business Machines Corporation (IBM) provides information technology products and services worldwide. The company has raised dividends for 18 years in a row. Over the past decade, this dividend achiever has managed to increase dividends by 19.40%/year. Currently, IBM trades at 11.70 times earnings and yields 2.20%. Check my analysis of IBM.
Wal-Mart Stores, Inc.(WMT) operates retail stores in various formats worldwide. The company has raised dividends for 39 years in a row. Over the past decade, this dividend champion has managed to increase dividends by 18%/year. Currently, Wal-Mart trades at 14 times earnings and yields 2.60%. Check my analysis of Wal-Mart.
Philip Morris International Inc. (PM), through its subsidiaries, manufactures and sells cigarettes and other tobacco products. The company has raised dividends for 5 years in a row. Quarterly dividends increased from 46 cents/share in 2008 to 94 cents/share by the end of 2013. Currently, Philip Morris International trades at 14.80 times earnings and yields 4.80%. Check my analysis of Philip Morris International.
Microsoft Corporation (MSFT) develops, licenses, and supports software, services, and hardware devices worldwide. The company has raised dividends for 11 years in a row. Over the past decade, this dividend achiever has managed to increase dividends by 15%/year. Currently, Microsoft trades at 13.40 times earnings and yields 3%. Check my analysis of Microsoft.
These companies also return profits to shareholders through regular dividend increases as well. In general, I view those managements as some of the most shareholder friendly ones in the US. This is because they are able to grow underlying profits through careful capital allocation, and only accepting projects that have a high likelihood of hitting internal rates of return. These cash machines then shower shareholders with more cash in the form of dividends, and buy out weak hands in the share buyback process as well.
When companies reduce number of shares outstanding, this also reduces the total amount of cash they need to pay to shareholders. Therefore, if total amounts spent on buybacks and dividends stay constant each year, this would lead to an almost automatic dividend increase for the limited partners in those consistent share repurchasers. If companies also manage to boost net income over time, stock buybacks can essentially turbocharge earnings per share growth.
Now, there are probably more companies with consistent buybacks out there as well. However, I only focused on the largest ones for 2011, 2012 and 2013, and made sure that these were not one time events. I would still prefer a bird in the hand through a cash dividend payment however, although I am not opposed to managements who consistently buy out other shareholders, thus making my shares more valuable in the process. The important thing is for these managements to avoid overpaying for these shares, which is a very rare thing in corporate America.
Full Disclosure: Long XOM, IBM, PM, WMT
- The Security I Like Best: Philip Morris International
- Dividends versus Share Buybacks/Stock repurchases
- Dividend Achievers Offer Income Growth and Capital Appreciation Potential
- Dividend Champions Index – Five Year Total Return Performance
Friday, February 7, 2014
McCormick & Company (MKC), Incorporated engages in the manufacture, marketing, and distribution of spices, seasoning mixes, condiments, and other flavorful products to retail outlets, food manufacturers, and foodservice businesses. It operates in two segments, Consumer and Industrial. This dividend champion has paid dividends since 1925 and has increased them for 28 years in a row.
The company’s latest dividend increase was announced in November 2013 when the Board of Directors approved an 8.80% increase in the quarterly annual dividend to 37 cents /share.
Over the past decade this dividend growth stock has delivered an annualized total return of 11.60% to its shareholders.
The company has managed to deliver a 9.20% average increase in annual EPS over the past decade. McCormick is expected to earn $3.13 per share in 2013 and $3.45 per share in 2014. In comparison, the company earned $3.04/share in 2012.
In addition, between 2003 and 2013, the number of shares decreased very slightly from 142 million to 134 million. Given the fact that shares are frequently overvalued, I would not want management to be repurchasing stock at rich prices.
This wide-moat company is the leader in global spices and seasonings with over one fifth of the market, which ensures advantages of scale. It is four times larger than its next competitor. Besides scale, the company also has strong brand names such as McCormick and Lowry, which face limited pricing threats. Almost 60% of revenues are from the US, with 20% from Europe, Middle East and Africa and the remainder from the rest of the world.
Revenues are derived from two segments, Consumer with 60% and Industrial with 40%. The Consumer segment offers spices, herbs, seasonings, and dessert items directly, as well as through distributors or wholesalers to various retail outlets, including grocery stores, mass merchandise stores, warehouse clubs, and discount and drug stores, as well as supplies private label items. The Industrial segment provides seasoning blends, natural spices and herbs, wet flavors, coating systems, and compound flavors directly, as well as through distributors to food manufacturers and foodservice customers. The largest customers are Wal-Mart Stores (WMT) and PepsiCo (PEP) with 11% of McCormick’s sales each. Other major customers include McDonald’s, Sysco, General Mills, Kraft Foods, Yum! Brands etc.
Most of the company’s revenues are derived from its branded spices. Private label spices account for a low amount of revenues, but can solidify relationships with retailers, and provide a foot in the door for the company.
Future growth in earnings per share can be generated through organic growth, acquisitions, innovation, and cost saving initiatives. McCormick invests in its brands and has pricing power in them and also has the scale to be the lowest cost producer in its market. While spices are expensive, their cost relative to the price of a meal. The goal of the company is to grow sales by 4%- 6%/year in the long run. The company also wants to increase earnings per share by 9 – 11%/year.
The company has been active in the acquisitions front, in order to generate sales and expand its product and geographical reach. For example it purchased Chinese company Wuhan in 2013, Polish company Kamis in 2011, and started a joint venture with Indian company Kohinoor Ltd. The company is targeting faster growing regions with these acquisitions, and it is also trying to capitalize on difference in tastes in different countries.
McCormick also invests in innovation, in an effort to bring new products to the marketplace. In its 2014 product pipeline includes grill mates steak sauce, Zatarain’s microwaveable rice in the US.
The annual dividend payment has increased by 11.40% per year over the past decade, which is higher than the growth in EPS.
An 11% growth in distributions translates into the dividend payment doubling every six and a half years on average. Future dividend growth would have to track growth in earnings per share, and would likely be in the 9%-11% range annually.
The dividend payout ratio increased from 33% in 2003 to almost 48% in 2006, before decreasing to 41% in 2012. 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 company has a high return on equity, which has decreased slightly over the past decade. This indicator seems to have bottomed out and is on the rebound as of recently. Rather than focus on absolute values for this indicator, I generally want to see at least a stable return on equity over time.
Currently, the stock is slightly overvalued, as it trades at a P/E of 20.10 and yields only 2.30%. I am analyzing the company because I believe it is quality dividend growth stock, which will be a very good investment on dips below $63, which is equivalent to a P/E of 20 and a current yield above 2.50%. If the stock price remain around $69/share however throughout 2014, rising earnings per share would eventually result in a P/E of 20 simply by waiting. A wonderful business like McCormick will compound earnings and dividends for its investors over time, which is why it is frequently overvalued. I always want to have some margin of safety in case things do not turn out as expected, as I try to avoid getting overly excited about any individual security.
I initiated a half position in McCormick & Co, after the market dropped on Monday. While entry yield is lower than my criteria of 2.50%, I bought this compounding machine because I believe it will be able to grow and provide sustainable dividend growth in the future. I have also found it helpful to monitor quality companies I am interested in much better, when I have skin in the game. If the stock price keeps sliding down, I will keep adding.
Full Disclosure: Long MKC
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Wednesday, January 22, 2014
One of the common misconceptions about dividend growth investing is that investors who follow the strategy are only focused on dividends. While a growing dividend over time is the ultimate goal, it is not the only factor to focus on. For example, I always look for companies which can deliver growth in earnings per share over time. The common characteristic of companies that are able to increase earnings per share include strong brands, some sort of competitive advantages, as well as products or services which have some pricing power. Of course, it doesn't hurt if the company is expected to benefit from a tailwind such as increased exposure to emerging market consumers, increase in number of locations, adding innovative new products to the marketplace, making strategic acquisitions, and increasing margins by focusing on cost containment and productivity. Another common characteristic of those companies also includes consistent share buybacks as well, in an effort to take out the holdings of weak hands.
Rising earnings per share are very likely to result in dividend growth, which provides the inflation protection to your passive portfolio income. Because dividends are always positive, and do not fluctuate too much, they are an ideal source of income for retired investors.
As a passive investor, my goal is to essentially purchase a stake in a quality business, and sit back while they quietly compound my capital. It is paramount to purchase these companies at attractive valuations, and avoid overpaying for future growth. In general, I am not going to pay over 20 times earnings ever for the best dividend companies such as Coca-Cola (KO) for example. I try to have some margin of safety, in the event that future is much different than the past.
For the purposes of this exercise, I have outlined a few compounders which I believe are attractively priced today, and will grow your wealth for several decades.
The Coca-Cola Company (KO), a beverage company, engages in the manufacture, marketing, and sale of nonalcoholic beverages worldwide. This dividend king has rewarded shareholders with a dividend increase for 51 years in a row. Over the past decade, earnings per share have increased by 12.30%/year, while dividends were raised by 9.80%/year. Currently, the stock is trading at 20.40 times earnings and yields a very sustainable 2.90%. Based on forward earnings of $2.09/share for 2013, the stock is fairly valued below $41.80/share. Check my analysis of Coca-Cola for more information.
Philip Morris International Inc. (PM), through its subsidiaries, manufactures and sells cigarettes and other tobacco products. This dividend machine has rewarded shareholders with a dividend increase since being spun-offs from Altria Group (MO) in 2008. Earnings per share have doubled over the preceding 7 years to $5.17 in 2012. Quarterly dividends increased from 46 cents/share in 2008 to 94 cents/share by the end of 2013. Currently, the stock is trading at 15.80 times earnings and yields a very sustainable 4.50%. I find current valuation to be a steal for this security. Check my analysis of PMI for more information.
Chevron Corporation (CVX), through its subsidiaries, engages in petroleum, chemicals, mining, power generation, and energy operations worldwide. This dividend champion has rewarded shareholders with a dividend increase for 26 years in a row. Over the past decade, earnings per share have increased by 12.20%/year, while dividends were raised by 10.60%/year. Currently, the stock is trading at 9.80 times earnings and yields a very sustainable 3.40%. I find current valuation to be attractive. Check my analysis of Chevron for more information.
Target Corporation (TGT) operates general merchandise stores in the United States. This dividend champion has rewarded shareholders with a dividend increase for 46 years in a row. Over the past decade, earnings per share have increased by 9%/year, while dividends were raised by 19.80%/year. Currently, the stock is trading at 16.10 times earnings and yields a very sustainable 2.90%. I am planning on dollar cost averaging my way into Target in 2014, by putting equal dollar amounts every month. Check my analysis of Target for more information.
McDonald's Corporation (MCD) franchises and operates McDonald's restaurants in the United States, Europe, the Asia/Pacific, the Middle East, Africa, Canada, and Latin America. This dividend champion has rewarded shareholders with a dividend increase for 38 years in a row. Over the past decade, earnings per share have increased by 22.60%/year, while dividends were raised by 22.80%/year. Currently, the stock is trading at 17.10 times earnings and yields a very sustainable 3.40%. I find the current valuation to be attractive. Check my analysis of McDonald's for more information.
Exxon Mobil Corporation (XOM) engages in the exploration and production of crude oil and natural gas, and manufacture of petroleum products. This dividend champion has rewarded shareholders with a dividend increase for 31 years in a row. Over the past decade, earnings per share have increased by 19.70%/year, while dividends were raised by 9.60%/year. Currently, the stock is trading at 13 times earnings and yields a very sustainable 2.50%. I would be more excited about ExxonMobil if it dips below $90, as I find current valuation to be a stretch relative to peers due to Buffett's investment in the company. Check my analysis of Exxon Mobil for more information.
I did not use a quantitative screen to get to this list. This group of stock is a result of my following 200 – 300 dividend growth companies over the past six years, screening for value every couple of weeks, researching individual companies, and using my judgment to pick those that are compounders.
I believe that successful investing is all about protecting your downside first, and avoiding big mistakes, rather than trying to hit homeruns. If you take care of the downside, the upside will take care of itself for the long-term buy and hold investor. I expect to buy and hold dividend compounders for life, although I do monitor my positions regularly. Therefore, if one of my holdings fails to live up to my expectations and does something like cutting the dividend, I would be putting my hard earned money somewhere else. In addition, I try to dollar cost average my way into positions over time, and attempt to build out a diversified portfolio of income producing securities. In an equally weighted portfolio of 40 individual securities, my compounding won’t suffer if one or two companies fail.
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Tuesday, January 14, 2014
Over the past week, I purchased shares in two quality dividend paying companies. I made those purchases in my Loyal3 account, which lets you buy stock in over 50 well-known companies without paying any commissions, with investment amounts as little as $10 per transaction and as much as $2,500 per transaction. I believe these companies to be good values today, and would be happy to add more over the next year, especially if we get the correction that every dividend investor is anxiously waiting for.
McDonald’s Corporation (MCD) franchises and operates McDonald's restaurants in the United States, Europe, the Asia/Pacific, the Middle East, Africa, Canada, and Latin America. This dividend champion has rewarded long-term investors with a dividend raise for 38 years in a row. Over the past decade, McDonald’s has raised dividends by 22.80%/year. Over the past five years however, dividend growth has slowed down to a more reasonable 13.90%/year. The company is expected to earn $5.56 in 2013 and $5.93 in 2014. Earnings growth seems to be slowing down to about 6 – 7%/year. I am not worried about temporary slowdowns in earnings and dividend growth, because these things are to be expected. Growth in dividends varies from year to year, and goes in cycles. When your investment timeframe is 30 years, you will see periods where dividend growth slows down. This scares off the weak and impatient holders, who sell. For example, in 2001 and 2002 dividend growth at McDonald’s slowed down to 5%/year. Since then, the annual dividend paid is up by a factor of 13.
However, even if the days of 6-7% growth are here to stay, all is not bad. This would likely mean slowing down of dividend growth to the rate of earnings growth. This is not bad for a company with annual sales of over $28 billion. Annual earnings growth at 7%, plus a healthy 3.40% dividend yield can compound capital at 10%/year for the patient investor with a long-term timeframe. The stock also trades at P/E of 17 times earnings. Check my analysis of McDonald’s for more detail on the company.
Target Corporation (TGT) operates general merchandise stores in the United States. This dividend champion has managed to reward loyal shareholders with dividends raises for 46 years in a row. Over the past decade, Target has managed to boost distributions by 19.80%/year.
The year 2013 was a very challenging one of the retailer. First, its expansion into Canada did not go as smoothly as expected. I do believe this issue is a temporary one in nature, and the company would use the lessons learned in its further international expansion abroad. So far, most of its stores have been based in the US, so a large portion of future growth would likely come from international expansion. The second issue with Target in 2013 was the fact that 70 million customer credit and debit cards have been compromised in the November – December period. The biggest issue is that the real truth is slowly being uncovered, and not surprisingly the real impact is getting larger with any new discovery. Initially, the number of compromised accounts for 40 million, then debit cards were added to the list of compromised accounts. This could mean that the company might still not know the full impact of hacker breaches.
However, I believe that the best time to buy stock I when there is blood on the streets. Growth in earnings, dividends and share prices is never linear. Big companies stumble from time to time. If you assess the issues currently faced by a business and determine problems are temporary in mature, you might get interested in the company. Your next point is to determine if the price adequately compensates you for the risk you are taking. The thing is that unfortunately all retailers, whether brick and mortar or on the internet, are exposed to the problems that Target is experiencing. While the current breach is an issue, I believe it will pass in a few months, without destroying the brand that so many shoppers enjoy.
I am slowly moving my way into accumulating a decent position in the retailer, by adding a small amount every month into the stock in taxable accounts, and one or two small purchases in tax-deferred accounts. That way, if the stock continues going down in price, I would be able to average my cost basis down.
Currently, Target sells at 16.70 times earnings and yields a very sustainable 2.70%. Check my analysis of Target for more information on the company.
I have broken those transactions, and instead of putting the usual amount I put per each investment at a time, I am going to separate that into four purchases. Basically I am going to spread purchases over three – four months, in an effort to take advantage of any corrections. Particularly in Target’s case, I might be value hunting too early, as prices could easily fall into the low to mid $50s, especially if investors get particularly pessimistic about the company. Lower prices would be very welcome in general however. These were a partial lot purchases, as I am conserving resources in case my Coca-Cola (KO) January puts I sold are exercised. I also like to build my share positions slowly.
The bull market of 2009 – 2013 has trained investors to put money to work as soon as possible. Otherwise, they witnessed steep increases in prices for quality dividend stocks while waiting in cash, and had to pay those higher prices later in order to get a piece of the action. As a contrarian investor, I try to do the opposite of what everyone else is doing. As a result, I never chase rising prices, but try to rationally allocate my capital in the best values at the moment. I also try not to get excited too much even for the best dividend paying stocks. This could be expensive, as I would end up overpaying for the future stream of dividend payments. My goal is to buy future dividend income growth at reasonable prices today. If I get in on a 7 – 10% dividend growth at 2% and a P/E of 20, rather than at 3% at a P/E of 20, I will generate lower future dividend incomes over time.
Full Disclosure: Long MCD, TGT
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