General Mills Delivers a Consistent Dividend Raise to Shareholders

General Mills, Inc. (GIS) produces and markets branded consumer foods in the United States and internationally. Over the past week, the Board of Directors approved an 8% increase in the quarterly dividend to 41 cents/share. This marked the 11 consecutive annual dividend increase for this dividend achiever. Check my analysis of General Mills (GIS).

Chairman and CEO Ken Powell said, "General Mills and its predecessor firm have paid dividends without interruption or reduction for 115 years. This track record is testimony to the strong and steady operating cash flows generated by our consumer food brands. We expect dividends to grow with earnings over time, and we see this dividend growth as a key component of our long-term shareholder return model."

I generally view dividend increases as indication by management that they expect positive developments in the business in the coming year or two. This is because management only commits to an increased dividend payment amount, if their conservative estimates show business will pick up in the foreseeable future. If the business is unable to deliver the expected growth, and management has to cut the dividend, many share-owners would be unhappy. In contrast, share buybacks can be announced but not fulfilled if projects do not turn as expected. Therefore it is quite surprising that share buybacks are viewed by many on Wall Street as a superior to dividends as a way to return cash to shareholders.

General Mills has managed to pay dividends without cutting them for 115 years in a row, which is impressive. General Mills raised its dividends for 29 years in a row through 1995. However, after it spun-off Darden Restaurants (DRI) to shareholders, the dividend was frozen. General Mills raised dividends again between 1996 and 1999, but then kept them unchanged until 2004.

Over the past decade, General Mills has managed to increase dividends by 9.90%/year.
The company has managed to increase earnings per share from $1.22 in 2003 to $2.79 in 2013. Analyst estimates call for an increase to $2.88 in 2014 and $3.10 in 2015.

The stock fell on Friday, because it missed quarterly forecasts. However, I generally consider quarterly misses to be more of short-term noise than anything else. If the company is unable to grow earnings per share however in the next two years, it would likely be unable to grow the dividend as well. Therefore, that would be an indication that something has changed and your dollars might be better off somewhere else. Until then, I would not focus too much on quarterly misses or beats. Of course if a company I am watching dips after missing a few cents/share, it could create a decent opportunity to initiate or add to positions on the dip.

Currently, this dividend achiever is attractively priced at 18.50 times earnings and yields 3.30%. I recently added to my position in General Mills, in one of my tax-deferred accounts. I like the strong portfolio of quality brands, the stability of earnings and dividend growth, and the recession resistant type nature of the industry that General Mills operates in. With companies like General Mills, the big money is made by buying a patiently holding for decades, and letting the power of compounding do its work for your wealth accumulation.

Full Disclosure: Long GIS

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Clorox Company (CLX) Dividend Stock Analysis

The Clorox Company manufactures and markets consumer and professional products worldwide. It operates in four segments - Cleaning, Household, Lifestyle and International. This dividend champion has paid dividends since 1968 and has increased them for 36 years in a row.

The company’s latest dividend increase was announced in May 2013 when the Board of Directors approved a 10.90% increase in the quarterly annual dividend to 71 cents /share. The company’s peer group includes Procter & Gamble (PG), Colgate Palmolive (CL), and Kimberly Clark (KMB).

Over the past decade this dividend growth stock has delivered an annualized total return of 10.10% to its shareholders.

The company has managed to deliver a 6.40% average increase in annual EPS over the past decade. Clorox is expected to earn $4.46 per share in 2014 and $4.77 per share in 2015. In comparison, the company earned $4.31/share in 2013.

In addition, between 2004 and 2013, the number of shares decreased from 214 million to 132 million. The reason for the steep decline in shares is because in 2004 the company exchanged of its ownership interest in a subsidiary for approximately 61.4 million of its shares held by Henkel KGaA, which represented about 29% of CLX's outstanding common stock prior to the exchange. Since then, the company’s owners’ equity is negative, which throws off many novice dividend investors. There is a major difference between owners’ equity on the balance sheet and the value of the business to a private buyer. The reality is that while accounting is the language of business, it has certain limitations. The value of a high margin consumer staple business like Clorox is based mostly on earnings power, and not on the value of its assets as reported on the balance sheet.

Clorox has a portfolio of products with strong brand names, that are number one or two in their respective product lines, which helps in having pricing power. As a result, it should be able to pass on commodity price increases to customers. Future earnings growth could be driven by innovation, new product launches, cost containment initiatives, as well as international expansion.

As part of the company’s recently introduced 2020 Strategy, Clorox aims to continue delivering total stockholder returns in the top third of Clorox's peer group by driving economic profit (EP). In addition, the company's long-term financial goals include:

• Growing net sales 3-5 percent annually
• Expanding earnings before interest and income taxes (EBIT) margin 25-50 basis points annually
• Generating free cash flow of 10 percent to 12 percent of sales annually

The three pillars of the strategy include expansion in a geographic, category and channel direction, continued reinvestment in its brands as well as cost containment initiatives. A key driver of the strategy is to accelerate sales by growing existing brands, including expanding into adjacent categories, entering new sales channels and increasing penetration within existing countries. Increased exposure to emerging market economies could further drive increase in sales through 2020. The company also anticipates using its strong cash flow to pursue growth opportunities and increase shareholder returns. In addition to that the company will be targeting sales growth through product innovation, which helps its pricing power. Clorox will also target margin expansion and maximizing cash flow through implementation a continued robust cost-saving program and maintaining price increases the company has taken. The strong focus on cost, has provided the company with a relative cost advantage versus competition. In addition, Clorox continuously reinvests money in its brands, which helps it maintain its market position.

One of the risks behind Clorox is that it generates a large portion of revenues from the US – 78%. It is more exposed to the US economy than other global consumer staples companies, which could also be an opportunity as well. The other risk I see is that Wal-Mart (WMT) accounts for a quarter of sales for Clorox. Wal-Mart is notorious for trying to keep costs low, by squeezing vendors to sell at lower prices. This is bad for pricing power, and could impact profitability. This over reliance on Wal-Mart could be mitigated through continued international expansion.

The annual dividend payment has increased by 10.70% per year over the past decade, which is higher than the growth in EPS. This was accomplished through the expansion of the dividend payout ratio. Future growth will be limited by any growth in earnings per share.

An 11% growth in distributions translates into the dividend payment doubling every six and a half years on average. Since 1986, Clorox has been able to double dividends almost every seven years on average.

The dividend payout ratio increased from 42% in 2004 to almost 59% in 2013. 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’s Return on Assets has decreased slightly over the past decade. Rather than focus on absolute values for this indicator, I generally want to see at least a stable return over time.

Currently, the stock is fairly valued, as it trades at 19.50 times forward 2014 earnings and yields 3.30%. I am analyzing the company because I believe it is quality dividend growth stock, which will be a very good investment on dips below $86-$87.

Full Disclosure: Long CLX, PG, KMB, CL

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I admire Investors with Skin in the Game

Anytime I study companies for a potential investment, I always try to do plenty of research on the company, reading annual reports, analyst reports and articles on the firm. Many times I end up reading very positive articles where owning company’s shares is mentioned as a no-brainer decision. After reading the articles however, I am always surprised when authors are not owning shares in this otherwise slam-dunk investment.

That being said there are valid reasons for not owning a company's stock, such as waiting for a pullback or due to conflict of interest. Either way however, I prefer to listen to an investor who has skin in the game. Authors who are good at writing articles, have very little to teach me about investing, where the major part of success is based on investor psychology, rather than neatly organized content. I believe in learning from those who practice their skills, not those who claim to have knowledge of it. After all, if you went for a surgery, would you go for the person that has all the theoretical knowledge, or would you go for the person who has actually practiced their skill?

I do not trust financial advisers whose goal is to sell you products you do not need. I cannot trust a college kid with a degree who has never dealt with psychological dilemmas of investing decisions. I enjoy reading articles written by authors who talk about their own experiences as investors.

I also prefer books from authors who have made it in the investing game, or at least discuss a particular topic from their own experiences. If they failed that is fine with me as well. Sometimes you increase your chances of success and gain more knowledge on a given topic when you learn what not to do, rather than what you should be doing. If you narrow down investing books to only those based on personal experience, rather than the academic ones describing your hypothetical returns, you are only left with a handful.

The reason why I prefer following investors with skin in the game is because you view situations differently when money is on the line, rather than using statistics and pie in the sky models. That is why I respect individuals with stake in the game. Warren Buffett for example, the world’s most renowned investor and the chairman of Berkshire Hathaway (BRK.B) is the epitome of an individual with a stake in the game, who have always treated investors that have trusted him with their money as partners, and looked after their best interests. He made a lot of money for himself in the process as well.

Richard Kinder, the CEO of Kinder Morgan Inc. (KMI) is another individual that I greatly admire. His interests are aligned with the interests of Kinder Morgan (KMI) shareholders and Kinder Morgan Energy (KMP) limited partners. The higher the distributions that Kinder Morgan Energy Partners achieves, the higher the dividends that this CEO with the sky-high salary of $1/year will receive. Compared to Richard Kinder, even Buffett's $100,000/year salary looks excessive.

Compare this to the typical CEO compensation however, which runs into the millions of dollars, no matter what the financial performance of the company they are heading. Some CEO's spend more time gaming the system, and wasting shareholders' money on ill-timed ego boosting acquisitions or share buybacks, while collecting big paychecks. For example, in 2009 I posted a chart of the CEO's that collected enormous bonuses, while their companies were struggling and had to cut distributions to shareholders.

Full Disclosure: Long KMI and KMR

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How to invest for dividends when markets are overvalued?

As someone who been dedicated to my dividend investing since 2008, I get to interact with a lot of individual dividend investors. Since the beginning of last year, many of those investors have been unhappy that stock prices on many quality companies are overvalued. As a result, some investors are accumulating cash, waiting for lower prices. Others are expanding their search, and leaving no stone unturned, in their quest for dividend bargains.

In a previous article, I explained why I am not in the camp of accumulating cash and waiting for lower prices. That is because I am in the camp of leaving no stone unturned looking for quality bargains. While the stock market is slightly overpriced, I am not too worried. This is because I focus on evaluating the valuation of individual companies rather than make evaluation decisions on the overall US stock market. I am lucky that I buy individual dividend paying stocks in my taxable accounts, because I only purchase securities when I find them to be fairly priced. I believe that one can always find enough quality dividend paying companies in almost any stock market environment. Plus, I always keep a list of companies to accumulate on dips.

Every month, I add new funds to my portfolio. In addition, I also let dividends accumulate in cash. I prefer to invest my funds as soon as I reach my minimum lot size. Luckily however, I always find several quality dividend stocks to purchase. In fact, I can always find anywhere between 15 – 20 companies that are attractively valued and I like, that are competing for my investment dollars. I then have to check my portfolio allocations, and pick one or two that I like best. As a result, I typically end up purchasing the same stock mostly once or twice a year.

Finding quality dividend stocks on sale is not that difficult, even during periods of market excess such as the 1990’s. Despite the fact that markets were overvalued in 1999 for example, there were some pockets of opportunity. There had actually been some great bargains such as REITs, Financials and many old economy stocks, which otherwise were perceived as boring. Despite this perception, those companies managed to grow profits and distributed higher dividends every year since then. It is important that the investor maintains a regular screening process, and develops a list of companies that would be attractive to consider on dips. It is also important that the investor thoroughly analyzes as many companies as possible, in order for them to be able to pull the trigger at a moments notice.

I also keep a dividend wishlist, where I list out companies I would like to purchase on dips. During the next market correction or if any of these companies misses earnings projections by a quarter of a penny, I might get lucky and snap up some shares to increase my position. Throughout my tenure as a dividend investor, I have had my fair share of wins and losses. One manages to learn from both outcomes, and manage those risks when outcomes are unfavorable. Some of my best winners have been companies which have been overvalued forever, but through careful monitoring, I had been able to buy a small stake in them. Companies like Yum! Brands (YUM), Family Dollar (FDO), Visa (V) come to mind. Unfortunately, my position in each of these companies is really low, because I tend to build my positions slowly.

Dividend investors are lucky, because most of them tend to focus on growing their passive income stream. They ignore short-term price fluctuations, and focus on selecting the fundamentally sound corporations, that will deliver the profits growth that would ultimately lift stock prices and annual distributions. Dividend investors do not purchase a market index, but focus on building a portfolio of quality income stocks by patiently allocating funds every month. By layering their portfolio brick by brick, these investors are creating a solid foundation for long-term results.

So to summarize, no matter what environment you are in the stock market for shares, a dividend investor should not worry because they are purchasing individual businesses. Investors are not purchasing pre-determined baskets of securities, regardless of valuation. A dividend investor shouldn't abandon their approach, especially when speculators are temporarily making a lot of money with riskier investments. The reality is that there are always dividend bargains out there, which require some good work to be identified. In addition, one needs to closely monitor companies on their wishlist, in order to capitalize on any short-term weakness caused by short-term noise, such as an analyst downgrade for example.

Full Disclosure: Long V, FDO, YUM

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Why do I use a P/E below 20 for valuation purposes?

Long time readers know that I use a price earnings ratio of 20 as one of the parameters in my set of screening criteria. In addition, anytime I analyze a company, I always end up with a conclusion of whether I find it overvalued or undervalued in terms of P/E relative to the benchmark of 20.

A common question in my mailbox concerns the reasoning behind using this variable, and the reason why I don’t look at historical P/E ranges or industry P/E ranges when looking at companies.

A P/E of 20 implies an earnings yield of 5% by the way. I set this parameter back in 2007- 2008, when yields on treasury bonds were about 5%. If yields on treasury bonds increase above 6 – 7%, I would likely require a P/E of about 15 for screening purposes.

The reality is that I use that P/E of 20 as a way to screen out companies that trade at a higher P/E than 20. I am not willing to pay for a high valuation above 20 times earnings, especially for mature dividend growth companies. However, I do not use this P/E in a vacuum to select companies. Instead I use it as one of the tools to compare individual companies that are valued attractively at the present.

I use this criterion for screening purposes, as a way to narrow down the list of qualified opportunities to a more manageable level. I also use other criterion in my screening, such as requirements for minimum yield (2.50%), 5 and 10 year annual dividend growth (6%/year), and dividend sustainability (payout ratio below 60%). However for the purposes of this exercise, I am not going to go into much detail on those.

I applied those results to the list of dividend champions, and received the following output:

After I narrow down the list of prospect to a more manageable level, then I compare companies listed in the output. I try to determine which one/ones to buy – based on valuation, earnings stability, growth prospects, portfolio weight. I analyze each company on the list for qualitative factors as well, such as moats, competitive advantages, brands, pricing power etc. For me earnings stability and opportunities for future earnings growth are paramount. You cannot simply look at yield or P/E ratios without gaining some comfort on stability of earnings and dividend payments, and prospects for future growth in both.

As you can see, I try to allocate my funds in what I believe to be the best ideas at the time. I do not believe in the strategy of accumulating cash, and waiting for lower prices from there. I try to balance obtaining the most earnings yield, with the highest probability of growth, for every dollar I put to use today. However, I also face the constraint that I can make only 24 – 36 purchases per year, and that I want to have a diversified portfolio of securities.

If you look at the screen, Chevron (CVX) is on the top of the list by valuation. Therefore, if I was just starting out, I would analyse and potentially buy Chevron in the first month, then maybe analyse and buy some Exxon Mobil (XOM) the next, followed by some Helmerich & Payne (HP) in the third month. If I had not analyzed Helmerich & Payne (HP) and Weyco Group (WEYS) before, I would need to add them to my list for further research, before I allocate any capital to them. I have done what I describe in this article for the past 6 years, and it has worked fine for me.

I do not look at P/E ratios for industry and in terms of historical ranges. To understand why, let’s walk through an example where you have two companies, one which typically sells at 8 – 12 times earnings and another which sells at 18 – 24 times earnings. Both grow dividends at 7%/year, and both yield 2.50%. We would also assume that earnings are relatively stable in both, there is an equal history of dividend growth, and both companies have some sort of durable competitive advantage. Company A trades at the top end of its P/E valuation range (P/E of 12), while company B trades at the low end of its valuation range (P/E of 18). If I was just getting started investing, I would choose company A any time over company B. This is because I am getting more earnings yield for each dollar I invest. This also provides the company with certain options such as share buybacks to boost earnings per share. This could be more accretive to shareholders of company A than for those of company B. It doesn't matter that the P/E is at the top of the range for company A, because I am getting more value for my dollars invested.

Of course if I already have exposure to company A, I would then start allocating funds to company B, which is the next best thing to put my money in. I will also do it because I like to be diversified and not keep all my eggs in one basket.

So as you can see, my method of screening provides a very good launching pad for evaluating opportunity cost, and selecting the most optimal investments at the time. It is superior to looking at past P/E ratios and industry P/E ratios, because it focuses on finding value today, relative to the rest of the market opportunities of the day.

To summarize, I use the P/E as one of the tools to narrow down list of prospects to a manageable level, and then help me to choose between dividend stocks. This low P/E, coupled with my qualitative and quantitative analysis of companies, helps me identify and purchase shares in the best bargains at the present moment. I have money to invest every month, so this P/E of 20 helps me avoid overvalued securities, and helps me to find the best bargains in the market at the time I have to allocate my capital.

Full Disclosure: Long CVX, XOM, WMT, MCD, PEP, JNJ, KMB & TGT

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