Friday, December 13, 2013

Kellogg Company (K) Dividend Stock Analysis

Kellogg Company (K), together with its subsidiaries, manufactures and markets ready-to-eat cereal and convenience food products primarily in North America, Europe, Latin America, and the Asia Pacific. The company has paid dividends since 1925 and has increased them for nine years in a row. Between 1960 and 2001, the company had raised annual dividends every year. However it kept dividends unchanged between 2002 and 2004, this ending the long streak of consecutive dividend increases.

The company’s last dividend increase was in April 2013 when the Board of Directors approved a 4.50 % increase in the quarterly annual dividend to 46 cents /share. The company’s peer group includes Nestle Group (NSRGY), General Mills (GIS), Campbell Soup (CPB) and Hershey (HSY).

Over the past decade this dividend growth stock has delivered an annualized total return of 8.40% to its shareholders.

The company has managed to deliver a 3.70% average increase in annual EPS between 2003 and 2012. The company is expected to earn $3.77 per share in 2013 and $4.06 per share in 2014. In comparison, the company earned $2.67/share in 2012. The low earnings were the result of a one-time accounting hit of 85 cents/share, related to a change in accounting for pensions.

The board of directors authorized a $1 billion stock repurchase program in April 2013, which expires in April 2014. At current prices, it can result in the retirement of as much as 4% of shares outstanding.

An interesting fact about Kellogg is that the Kellogg WK Foundation Trust owns approximately 20.60% of shares outstanding. This is a great example of a trust fund, which has been “living off dividends” for several decades. In fact, the trust is projected to earn over $136 million in annual dividend income from their ownership of Kellogg shares.

I also found another hidden dividend millionaire after researching Kellogg. Agnes Plumb inherited Kellogg stock from her father, who was one of the early investors in the company. When she died in 1996,she left almost $100 million worth of Kellogg stock to charity.

The company has strong brand names like Special K, Frosted Flakes, Corn Flakes, Pop-Tarts, Pringles etc, and it continuously invests to strengthen them. Another source of growth could include product innovation. The firm has invested approximately 2% of sales on R&D over the past two years.

Kellogg can increase earnings through new acquisitions, such as the purchase of Pringles from Procter & Gamble (PG) in 2012 for almost $2.7 billion in cash. This purchase could be a strong platform for international growth that Kellogg’s snack business can definitely benefit from. Other historical acquisitions include Kashi in 2000.

The US accounts for 2/3rds of sales in 2012. A potential opportunity for growth could materialize in emrging markets, where the company is lagging behind competitors right now. In 2012, Kellogg also announced a joint venture with Wilmar International, which would make snack foods in China. Wilmar will contribute infrastructure, supply chain scale, an extensive sales and distribution network in China, as well as local China market expertise to the joint venture. Kellogg will contribute a portfolio of globally recognized brands and products such as Kellogg and Pringles, along with deep cereal and snacks category expertise.

Kellogg has a very high return on equity at 46%. Over the past decade, the returns on equity have stayed between 43% and 67%. I generally want to see at least a stable return on equity over time. I use this indicator to assess whether management is able to put extra capital to work at sufficient returns.

The annual dividend payment has increased by 5.60% per year over the past decade, which is higher than the growth in EPS. This has been achieved mostly due to the expansion of the dividend payout ratio.

A 6% growth in distributions translates into the dividend payment doubling almost every 12 years on average. If we look at historical data, going as far back as 1959, one would notice that the company has managed to double distributions every eight years on average.

The dividend payout ratio has increased from 52% in 2003 to almost 65% in 2012. Looking at estimated earnings for 2013 however, the forward dividend payout ratio is 49%. A lower payout is always a plus, since it leaves room for consistent dividend growth minimizing the impact of short-term fluctuations in earnings.

Currently Kellogg is attractively valued at 16.10 times estimated 2013 earnings, yields 3% and has a sustainable distribution. The company has stable revenues, which are relatively recession resistant. However, growth has been rather slow in the past decade. I am planning to add to the stock in the next year, subject to availability of funds. However, if a faster growth company like General Mills is available at comparable valuations at the time I have available funds, I would choose General Mills instead.

Full Disclosure: Long K, GIS, NSRGY

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