Thursday, May 21, 2009

TROW – Stock Analysis for Dividend Growth Portfolio

T. Rowe Price Group (TROW) is a publicly owned corporation, a holding group, and an investment manager. The firm provides its services to corporations, corporate, public, and Taft-Hartley retirement plans, foundations, and endowments. It is modeled as an asset manager.

TROW is a dividend achiever and has been paying growing dividends for last 10 years. In one of my earlier post, I listed few companies that may have potential for dividend growth investments. TROW was one of them I had shortlisted for more analysis. Keeping with that, my objective here is to analyze if TROW is a good dividend growth stock and risk of dividends associated with it.


Risk Parameter Calculation
Here I use the corporation’s financial health to assign a risk number for measuring risk-to-dividends. I have discussed this in more detail at Dividend Tree. The risk number for risk-to-dividends is 2.14. This is a medium risk category as per my 3-point risk scale.

Quality of Dividends
This section measures the dividend growth rate, duration of growth, consistency over a period of past five years.
  • Dividend growth rate: The average dividend growth of 25.2% (stdev. 8.34%) is more than average EPS growth rate of 17.8% (stdev. 22%). The two years where EPS were negative, has effect this calculation. If we remove the two negative years, the dividends seem to be well covered. The low payout factors allow for this flexibility and help cover for dividends.
  • Duration of dividend growth: In recent times, dividends have grown only since last 10 years.
  • 4 year rolling dividend growth rate for past ten years: More than 10%.
  • Payout factor: In the past 10 years, it has been consistently less than 50%. In 2008 it increased to 53%. This is an indicator to keeping watch for dividends reduction.
  • Dividend cash flow vs. income from MMA: Here, I analyze how the dividend cash flow stacks up against the income from FDIC insured money market account. The baseline assumption is (a) stock is yielding 2.6%; and (b) MMA yield is 3.4%. Considering the last 10 year average dividend growth rate of 25.2%, the stocks dividend cash flow at the end of 10 years is 4.27 times MMA income. However, with my projected dividend growth of 15.3%, the dividend cash flow is equal to 2.04 times MMA income.

Fair Value Calculation
This section determines what price I should pay to buy a given stock
  • Net present value (NPV) price based on 15 year DCF: $20.4
  • Average high yield price calculated based on past 10 years: $48.5
  • Pricing based on past 10 year relative price-to-earnings ratio. $45.6
  • Pricing based on price-to-earnings ratio of 12: $24.5
  • Graham number: $19.1
The range of fair value is calculated as $24.5 to $31.6. This is determined by taking average (for high value) of above five parameters and then subtracting it with half the standard deviation (for low value).

Qualitative Analysis
TROW’s strength is its business model of asset managements. It manages money for individuals, high net worth individuals, pension funds, corporate funds, and endowments’. It is considered as one of the conservative asset management company.
  • The company does not have any debt, does not need for credit for its operations, or does not need credit for its growth. This is a significantly good characteristic.
  • Since it operates as an asset manager, it is relatively a stable industry i.e. less cyclic.
  • It is likely to be beneficiary of the baby boomer driven demographic shift needing money management services. It has an excellent positioning to reap benefits from this segment.
  • Current financial turmoil does not seem to have had a game changing effect on its businesses. However, it has experienced slow down.
  • I expect it to face short-to-intermediate term challenges due to recession driven slow down.


Conclusion
The dividend cash flow is twice that of MMA income based on current yield of 2.6% and conservative estimate of dividend growth (15.3%). The stocks current risk-to-dividend number is 2.14 (medium risk category). TROW is a dividend achiever and has been raising dividends for last 10 years. In addition, this analysis is showing that TROW continues to be potentially good dividend growth stock with medium risk to dividends. I will be open to initiate a long position when the stock price falls within my fair value range.

Full Disclosure: No position at the time of writing. I may open long position in near future.

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