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Stock Analysis: WW Grainger Inc. (GWW)

Linked here is a detailed quantitative analysis of WW Grainger Inc. (GWW). Below are some highlights from the above linked analysis:

Company Description: Grainger (W W) Inc. is the largest global distributor of industrial and commercial supplies, such as hand tools, electric motors, light bulbs, and janitorial items.

Fair Value: I consider four calculations of fair value, see page 2 of the linked PDF for a detailed description:

  1. Avg. High Yield Price
  2. 20-Year DCF Price
  3. Avg. P/E Price
  4. Graham Number
GWW is trading at a discount to 1.) and 2.) above. The stock is trading at a slight discount to its calculated fair value of $88.65. GWW earned a Star in this section since it is trading at a fair value.

Dividend Analytical Data: In this section there are three possible Stars and three key metrics, see page 2 of the linked PDF for a detailed description:
  1. Free Cash Flow Payout
  2. Debt To Total Capital
  3. Key Metrics
  4. Dividend Growth Rate
  5. Years of Div. Growth
  6. Rolling 4-yr Div. > 15%
GWW earned one Star in this section for 2.) above. GWW earned a Star as a result of its most recent Debt to Total Capital being less than 45%. The company has paid a cash dividend to shareholders every year since 1965 and has increased its dividend payments for 38 consecutive years.

Dividend Income vs. MMA: Why would you assume the equity risk and invest in a dividend stock if you could earn a better return in a much less risky money market account (MMA)? This section compares the earning ability of this stock with a high yield MMA. Two items are considered in this section, see page 2 of the linked PDF for a detailed description:
  1. NPV MMA Diff.
  2. Years to > MMA
GWW earned a Star in this section for its NPV MMA Diff. of the $678. This amount is in excess of the $500 target I look for in a stock that has increased dividends as long as GWW has. If GWW grows its dividend at 11.1% per year, it will take 7 years to equal a MMA yielding an estimated 20-year average rate of 3.9%.

Other:GWW is a member of the S&P 500, a Dividend Aristocrat and a member of the Broad Dividend Achievers™ Index. GWW has a excellent record of growing both earnings and dividends. In the near-term GWW will likely face tough markets due to slow economic conditions. Long-term initiatives to enhance their distribution should help the company increase market share. Risks include economic conditions, pricing pressures and an adverse ruling from the Department of Justice related to compliance issues on a U.S. government contract.

Conclusion:GWW earned one Star in the Fair Value section, earned one Star in the Dividend Analytical Data section and earned one Star in the Dividend Income vs. MMA section for a total of three Stars. This quantitatively ranks GWW as a 3 Star-Hold.

Using my D4L-PreScreen.xls model, I determined the share price could increase to $95.89 before GWW's NPV MMA Differential fell to the $500 that I like to see for a stock with 38 years of consecutive dividend increases. At that price the stock would yield 1.86%.

Resetting the D4L-PreScreen.xls model and solving for the dividend growth rate needed to generate the target $500 NPV MMA Differential, the calculated rate is 10.4%. This dividend growth rate is lower than the the 11.1% used in this analysis, thus providing a margin of safety. GWW has a risk rating of 1.25 which classifies it as a low risk stock.

For GWW, the difference between a 3-Star Hold and a 4-Star buy is negative cash flow in 1999. I could look beyond the negative cash flow 10 years ago if that were the only thing keeping me from buying GWW. Even though GWW is trading slightly below my calculated buy price of $88.65, I will pass for now since the 2% dividend yield is below the 2.75% I am currently looking for. For additional information, including the stock's dividend history, please refer to its data page.

Disclaimer: Material presented here is for informational purposes only. The above quantitative stock analysis, including the Star rating, is mechanically calculated and is based on historical information. The analysis assumes the stock will perform in the future as it has in the past. This is generally never true. Before buying or selling any stock you should do your own research and reach your own conclusion. See my Disclaimer for more information.

Full Disclosure: At the time of this writing, I held no position in GWW (0.0% of my Income Portfolio).

What are your thoughts on GWW?


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Weekend Reading Links - August 30, 2009

For your weekend reading pleasure, the articles listed below contain some of the best dividend and value investing insights found on the web. They were written by various members of the Dividend Investing and Value Network (DIV-Net) over the past week:

Articles From DIV-Net Members

There are some really good articles here, please take time and read a few of them.

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5 Facts About Benjamin Graham

Benjamin Graham is known as the father of value investing and is probably one of the most well read and studied investor of the 20th century. Not much is known about the man behind the writing so I present to you these 5 facts about Benjamin Graham:

  1. Graham is known to have been a patient teacher with his students at Columbia Business School. Graham had such a profound influence on these students that two students, Buffett and Kahn, both named children after him. Howard Graham Buffett, and Thomas Graham Kahn. Howard Graham Buffett went on further to name his first child Howard Graham Buffett Jr.

  2. In early years Graham had a number of financial issues which may have helped to shape his defensive portfolio style. in 1916 Graham became financially involved in his brother's phonograph business, this commitment handcuffed Graham resulting in him missing several margin calls and moving him considerably into the red. Graham was later hit heavily by the stock market crash of 1929. His family was under such financial pressures at the time that his wife was forced to take a job as a dance instructor so that they could continue paying the bills.

  3. Graham while often referred to as the great American investor was actually not born in the US he was born May 8, 1894 in London and only moved to the US when he was one.

  4. Benjamin Graham was actually born Benjamin Grossbaum but his family changed its last name in the wake of world War I due to anti-German sentiment.

  5. Graham was first published at a meager 20 years old when the New York Times published a letter he had written. Graham's first major article was carried in the Magazine of Wall Street Sept 1, 1917 just a few years later. He continued to publish for most of his life and was active in writing both in magazines, periodicals, news papers and most famously his two books Security Analysis and The Intelligent Investor. In total Graham wrote 6 books, 7 major articles and over 125 opt ed pieces in his career.

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Sherwin-Williams Stock Analysis

The Sherwin-Williams Company engages in the development, manufacture, distribution, and sale of paints, coatings, and related products. It operates in three segments: Paint Stores Group, Consumer Group, and Global Finishes Group. The company, which has raised dividends for 31 consecutive years, is a member of the S&P Dividend Aristocrats index. Back in February 2009 Sherwin-Williams announced a 1.40% dividend increase.

Over the past decade this dividend growth stock has delivered an average total return of 5.70% annually. Sherwin-Williams’ stock price is currently trading almost 20% lower from its all-time highs set in 2007.

The company has managed to deliver a 9.30% average annual increase in its EPS between 1999 and 2008. Sherwin-Williams is expected to earn $3.60 share in FY 2009, followed by $4.10/share in FY 2010. Despite the housing crisis, and expectations of 10% declines in sales for Sherwin-Williams, homeowners would still need to use paint in order to freshen the look of their houses. Home renovation and remodeling projects could be a driver for growth even in a slow economy. Residences are typically the largest investment for homeowners, who tend to spend regularly on maintenance and improvement projects in order to increase their values.
I believe that the company has a strong cash flow generation ability, which should serve it well in the longer term. Strategic acquisitions could add to growth, as could new store openings abroad.

The Return on Equity has generally trended upwards, and has stayed above 20% over the past 7 years. Rather than focus on absolute values for this indicator, I generally want to see at least a stable return on equity over time.

Annual dividends have increased by an average of 12.60% annually since 1999, which is higher than the growth in EPS. The company has also managed to decrease the number of dillluted shares outstanding from 168 million in 1999 to 117 million in 2008 through share repurchases. In 2008, the Sherwin-Williams purchased 7.25 million shares of its common stock in the open market, and continued its policy of paying out approximately 30% of the previous year’s diluted net income per share in the form of a cash dividend.
A 12 % growth in dividends translates into the dividend payment doubling every six years. If we look at historical data, going as far back as 1989, Sherwin-Williams has actually managed to double its dividend payment every seven years on average.


The dividend payout ratio has largely remained under 40% over the past decade, with the exception of 2000. 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 Sherwin-Williams is trading at 16.70 times earnings, yields 2.40% and has an adequately covered dividend payment. I would be looking forward to adding to my position in Sherwin-Williams (SHW) on dips below $48.

Full Disclosure: Long SHW


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Dividend Stocks for Hedging against Dollar’s Long Term Fluctuations

In general, ability of the companies to pay dividends depends upon its profitability, cash flows, earnings, prudent money management (think debt!). With the ongoing recession many have started expressing concerns about long term prospects of US economy. Among many issues, one aspect that has been gaining momentum is the strength of dollar and its status as world currency. It is widely discussed (probably rightly so) that the continued infusion of printed dollar will dilute its value. Further the US government’s debt will cause a credibility issue in longer term. All this will reduce the value of the dollar. In one of his recent interviews, even Buffett acknowledged the concern. However, there is not much analysis on how the master investor plans on addressing this issue in BRKs portfolio.

In the context of dividend investing, I believe any effect of change in dollar value will be much more profound and will affect the real total return. Dividend investors need to look at the macro economic scenario and understand how it will play out in long haul over a period of next 10 years, 20 years, or 30 years. There are folks on both sides of the aisle who make compelling argument. On one side of the aisle the argument centers on supply and demand. The flooding of printed dollar into the market will cause inflation and hence reduce its value. On other side of the aisle, the argument is that governments of many other countries are doing same for their currency. Therefore, the net affect will be practically zero. There is also another argument that printed dollar will only offset trillions of dollar lost in markets in 2008, and hence it is not likely to affect inflation. Although, I think trillions of dollars lost in market were paper money (not physical dollar), while the dollar is being pumped into the economy is physical money.

In these arguments, what do we individual investors do? Which side do we take? Or does it even really matter to take sides? Unlike physicist and engineers, economists cannot predict or control what will happen to economy. Economist can only justify afterwards why things happened that way (rather than what will happen). Honestly, I do not think anybody knows how economies will evolve. Being a dividend investor one does not need to take any sides (pun intended!). All we need to do is go back to basics. Dividends come from earnings and cash flows. Look for dividend companies that get its earnings and cash flow from global operation. This is the best hedge against dollar value.

I continue to believe there are (and will be) quite a large number of US and other multinational corporations that will profit from global operations. List below are companies that generate their revenue (and hence earnings) from all types of economies. Most of these corporations have paid growing dividends in last five years as measured in their native currency. Figures in bracket indicate approximate percentage revenue from emerging markets.

  • Proctor and Gamble (33%)
  • Unilever (33%)
  • The Coca Cola Company (approx. 60%)
  • Pepsico Inc. (approx. 50%)
  • Cadbury PLC (20%)
  • Nestle (25%)
  • Johnson and Johnson (58%)
  • Qualcomm Inc (61%)
  • Intel Corporation (52%)
  • International Business Machines (46%)
  • Exxon Mobil Corporation (60%)

Summary is…
Investing is simple if we go back to basics. Invest in dividend growth companies that have notable presence in all markets. Dividend investors continue to have array of companies which can be used as a hedge against dollar value reduction. After that, the discussion of dollar devaluation becomes on inconsequential.

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Reward vs Risk

Orsus Xelent (ORS) is a Chinese cell phone maker that trades for $22 million on the AMEX. The company has a ton of risks:

  • Almost all of its sales are to one distributor. Having one customer is always a risk, though this risk is somewhat tempered by the fact that many consumers purchase Orsus' phones.
  • As a foreign-owned entity in China, its taxes are about to double.
  • The company prides itself on being innovative and meeting end-user needs, yet its R&D budget was about $11,000 in the latest quarter.
  • It has guaranteed a $17 million bank loan to one of its suppliers.
In many cases, these risks would be enough to turn a value investor away from a company like this. But as Mohnish Pabrai notes, value investing is about investing in companies with upside potentials larger than the downside risks. Clearly, there is some risk with Orsus Xelent, so what possible upside is there that can trump these risks? The answer is the company's low price on several levels.

First of all, Orsus trades for a P/E of around 2! Companies normally trade at such levels if earnings are expected to fall drastically. For Orsus, however, earnings and revenue this year are expected to be even higher than they were last year, as the company continues to supply more and more of rural China with mobile phones.

The company also trades for about half of its liquid assets. While those assets do include a ridiculously large sum due from its main distributor, that number has come down in the last quarter. Furthermore, the company has taken out a 3rd party insurance policy on the overdue receivables, which should provide some protection. The distributor is also guaranteeing a portion of Orsus' outstanding loan, whatever that's worth.

Orsus can hardly be considered a risk-free stock. Nevertheless, despite a huge number of risks, the upside potential of this company was too high for this value investor to ignore. This penny stock trades at a massive discount to its earnings and to its assets. Time will tell if that discount is justified.

Disclosure: Author has a long position in shares of ORS

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4 Tips for Choosing the Right Discount Broker for You

Most investors I run into these days use online discount stock brokers to manage their portfolios. This has been a great boon for individual investments because we went from +$100 stock trades to approximately $5 trades (or even free). In my opinion, there is absolutely no reason anyone should be spending more that $10 per trade given the huge competition available. My experience has shown that the extra "services" provided by online brokers with higher trade prices are not worth the additional fees and in most cases are available online.

With that in mind, I have compiled what I believe to be four good tips that will help anyone work with their online discount stock broker better. If you simply buy index funds or individual dividend stocks, then I think these tips will help save you money and time:

1. Don't Pay Extra Commissions for Services that Are Often Available for Free

Discount brokers will try to dazzle you with a laundry list of things you can do when you are a customer. Some of these tools can be very helpful. Most of these tools can be found for free elsewhere. For example, one broker I recently looked at touted that they offered their customers free access to analyst EPS estimates. That can be helpful if you are trying to determine the future value of a dividend stock. However, if you just went over to Yahoo! Finance and looked up a stock ticker and clicked on Earnings Estimates the same data would be available to you.

2. Ensure the Discount Broker Offers Access to the Products You Want

This will not be a problem for most people, but be sure to check it out just in case. Some brokers do not provide investors with access to certain investment products such as options or more importantly access to companies that provide the funds you want to invest in. For example, if you want to buy Vanguard mutual funds, then not all brokers offer them. You can often buy the ETFs, but the other funds may not be available.

3. Watch Out for Miscellaneous Fees

Cheap trades may mean that the broker will try to gouge you on other fees to get more money out of you. Always take a look at the other fees section of the broker you are interested in and look for anything that may apply to you now or in the future. For example, transfer out fees may be very high compared to other brokers. If you plan to stay with this broker for ever (and that is a long time!) then that may not be a problem. However, if it might be then you need to be comfortable with those higher fees.

4. Linking to Your Bank Account

This is one that seems to escape people, but it is pretty important. You need to be able to easily get money in and out of your broker so the ability to connect to your bank is important. If you need to wire transfer money around then know that that takes time and often banking fees. My advice is to look for a broker you can set up via online bill payment in your online banking area.

I know there are more tips out there...let me know using the comments section below.


This article was written by The Dividend Guy. You may email questions or comments to me at info@thedividendguyblog.com.


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Stock Analysis: PepsiCo, Inc. (PEP)

Linked here is a detailed quantitative analysis of PepsiCo, Inc. (PEP). Below are some highlights from the above linked analysis:

Company Description: PepsiCo, Inc. (PepsiCo) is a global snack and beverage company. The Company manufactures, markets and sells a range of salty, convenient, sweet and grain-based snacks, carbonated and non-carbonated beverages and foods.

Fair Value: I consider four calculations of fair value, see page 2 of the linked PDF for a detailed description:

  1. Avg. High Yield Price
  2. 20-Year DCF Price
  3. Avg. P/E Price
  4. Graham Number
PEP is trading at a discount to 1.) and 3.) above. The stock is trading at a slight premium to its calculated fair value of $55.10. PEP did not earn any Stars in this section.

Dividend Analytical Data: In this section there are three possible Stars and three key metrics, see page 2 of the linked PDF for a detailed description:
  1. Free Cash Flow Payout
  2. Debt To Total Capital
  3. Key Metrics
  4. Dividend Growth Rate
  5. Years of Div. Growth
  6. Rolling 4-yr Div. > 15%
PEP earned two Stars in this section for 2.) and 3.) above. PEP earned a Star as a result of its most recent Debt to Total Capital being less than 45%. PEP earned a Star for having an acceptable score in at least two of the four Key Metrics measured. The company has paid a cash dividend to shareholders every year since 1952 and has increased its dividend payments for 37 consecutive years.

Dividend Income vs. MMA: Why would you assume the equity risk and invest in a dividend stock if you could earn a better return in a much less risky money market account (MMA)? This section compares the earning ability of this stock with a high yield MMA. Two items are considered in this section, see page 2 of the linked PDF for a detailed description:
  1. NPV MMA Diff.
  2. Years to > MMA
PEP earned a Star in this section for its NPV MMA Diff. of the $796. This amount is in excess of the $500 target I look for in a stock that has increased dividends as long as PEP has. If PEP grows its dividend at 7.6% per year, it will take 4 years to equal a MMA yielding an estimated 20-year average rate of 3.9%. PEP earned a check for the Key Metric 'Years to >MMA' since its 4 years is less than the 5 year target.

Other: PEP is a member of the S&P 500, a Dividend Aristocrat and a member of the Broad Dividend Achievers™ Index. PEP's global market positions and stable end markets produce consistent and strong cash flows. The company continues to find domestic and international growth opportunities. Compared to it peers, PEP's product innovation strategy is considered trend-setting for the industry. Though carbonated soft drinks remain the most popular beverage, PEP recognizes that non-carbonated soft drinks are a faster growing category. The company is focusing on the health and wellness trends. It has eliminated trans fats from many of its snack foods, and is introducing "good for you" foods under the Quaker Oats brand. Risks include the highly competitive and very mature nature of it products, also with more exposure to foreign markets, political and currency risks also increase.

Conclusion: PEP did not earn any Stars in the Fair Value section, earned two Stars in the Dividend Analytical Data section and earned one Star in the Dividend Income vs. MMA section for a total of three Stars. This quantitatively ranks PEP as a 3 Star-Hold.

Using my D4L-PreScreen.xls model, I determined the share price could increase to $65.62 before PEP's NPV MMA Differential fell to the $500 that I like to see for a stock with 37 consecutive years of dividend increases. At that price the stock would yield 2.70%.

Resetting the D4L-PreScreen.xls model and solving for the dividend growth rate needed to generate the target $500 NPV MMA Differential, the calculated rate is 6.3%. This dividend growth rate is lower than the the 7.6% used in this analysis, thus providing a margin of safety. PEP has a risk rating of 1.00 which classifies it as a low risk stock.

Like its competition Coca-Cola (KO), PEP's Free Cash Flow Payout, currently at 70%, tends to remain higher than the 60% level that I prefer. However, this is mitigated to an extent by relatively low debt levels and predictable cash flows. PEP is a stock I will buy, as my allocation allows and when it dips below its buy price of $55.10. For additional information, including the stock's dividend history, please refer to its data page.

Disclaimer: Material presented here is for informational purposes only. The above quantitative stock analysis, including the Star rating, is mechanically calculated and is based on historical information. The analysis assumes the stock will perform in the future as it has in the past. This is generally never true. Before buying or selling any stock you should do your own research and reach your own conclusion. See my Disclaimer for more information.

Full Disclosure: At the time of this writing, I was long in PEP (3.3% of my Income Portfolio).

What are your thoughts on PEP?

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Weekend Reading Links - August 23, 2009

For your weekend reading pleasure, the articles listed below contain some of the best dividend and value investing insights found on the web. They were written by various members of the Dividend Investing and Value Network (DIV-Net) over the past week:

Articles From DIV-Net Members

There are some really good articles here, please take time and read a few of them.

If you enjoyed this article, please vote for it by clicking the Buzz Up! button below.


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Presidental Market Indicators

How good are Presidents at predicting the future of the market? Often times they are down right terrible, the spin in speeches is often more prevalent than the truth. With Obama's comments about sunshine being the best disinfectant I thought it would be interested to see how his comments match up to reality.
The following represents many of the quotes Obama has made related to the US economy. Green arrows represent a comment indicating a positive outlook, red deltas indicate a negative outlook on the economy.























































































































































DateDOWObama Quote 1Obama Quote 2Obama Quote 3Obama Quote 4
21/11/20088046.42I want to repeat, this will not be easy. There are no shortcuts or quick fixes to this crisis, which has been many years in the making, and the economy's likely to get worse before it gets better. Full recovery will not happen immediately.   
24/11/20088443.39Right now, our economy is trapped in a vicious cycle: The turmoil on Wall Street means a new round of belt-tightening for families and businesses on Main Street, and as folks produce less and consume less, that just deepens the problems in our financial markets.   
02/12/20088419.09I know these are difficult times. I don't think anybody here is viewing the situation through rose-colored glasses.   
12/12/20088629.68Things are going to get worse before they get better.   
05/01/20098952.89As I've said earlier, right now the most important task for us is to stabilize the patient. The economy is badly damaged. It is very sick. And so we have to take whatever is — steps are required to make sure that it is stabilized.   
08/01/20098742.46We start 2009 in the midst of a crisis unlike any we have seen in our lifetime, a crisis that has only deepened over the last few weeks.   
09/01/20098599.18There are American dreams that are being deferred and that are being denied because of the current economic climate. There is a devastating economic crisis that will become more and more difficult to contain with time.   
12/01/20098473.97If nothing is done, economists from across the spectrum tell us that this recession could linger for years and the unemployment rate could reach double digits — and they warn that our nation could lose the competitive edge that has served as a foundation for our strength and standing in the world   
13/01/20098448.56Clearly, the situation is dire. It is deteriorating, and it demands urgent and immediate action.   
23/01/20098077.56The news has not been good. Each day brings I think greater focus on the problems that we're having not only in terms of job loss, but also in terms of some of the instabilities in the financial system.   
28/01/20098375.45we left our meeting confident that we can still turn our economy around.   
09/02/20098270.87This is not your ordinary, run-of-the-mill recession. We are going through the worst economic crisis since the Great Depression.   
25/02/20097270.89Our economy will once again thrive, and America will once again lead the world in this new century as it did in the last.   
13/03/20097223.98if we are keeping focused on all the fundamentally sound aspects of our economy, all the outstanding companies, workers, all the innovation and dynamism in this economy, then we're going to get through this. And I'm very confident about that.   
09/04/20098083.38the recession-hit U.S. economy was showing "glimmers of hope"   
14/04/20097920.18We're moving aggressively to unfreeze markets and jumpstart lending outside the banking system.These actions are starting to generate signs of economic progress.2009 will continue to be a difficult year for America's economy.There is no doubt that times are still tough. By no means are we out of the woods just yet. But from where we stand, for the very first time, we're beginning to see glimmers of hope.
23/06/20098322.91I think it's pretty clear now that unemployment will end up going over 10 percent ... because of the fact that even after employers and businesses start investing again and start hiring again, typically it takes a while for that employment number to catch up with economic recovery. And we're still not at actual recovery yet.So I anticipate that this is going to be ... a difficult year, a difficult period.  



Overall not bad Obama. With the exception of the positive comments on 28/01/2009 and the negative comment on 23/06/2009 he has been a fairly good bell weather of the next few months market conditions. We'll keep track of this and update in a few months.

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V.F. Corporation (VFC) Fundamental Analysis

V.F. Corporation, together with its subsidiaries, engages in the design, manufacture, and sourcing of branded apparel and related products for men, women, and children in the United States. It owns a portfolio of brands in the jeanswear, outerwear, packs, footwear, sportswear, and occupational apparel categories. The company is also a member of the S&P Dividend Aristocrats index.

V.F. Corporation has consistently increased dividends for 36 consecutive years. The company last announced a dividend raise in October 2008.

Over the past decade this dividend growth stock has delivered an average total return of 5.70% annually. The stock price decreased from its all time highs of $96.20 in 2007 to a multi-year low of $38.22 in 2008, before strongly recovering from its lows.

The company has managed to deliver a 6.80% average annual increase in its EPS between 1999 and 2008. V.F. Corporation is expected to earn $4.90 share in FY 2009, followed by $5.50/share in FY 2010. The company is currently experiencing some short term in demand, which has led to a drop in revenues. If this recession proves to be a short one, the company would certainly manage to hit its annual goals of 8% annual revenue growth. The company’s foreign operations do have the ability to generate strong revenue growth over time. Another part of V.F. Corp’s growth strategy entails buying brands that could utilize the company’s extensive distribution network and result in economies of scale to produce the new apparel brands at a lower cost.

The Return on Equity has generally remained stable around 17% with the exception of 2000 and 2001. Rather than focus on absolute values for this indicator, I generally want to see at least a stable return on equity over time.

Annual dividends have increased by an average of 11.90% annually since 1999, which is higher than the growth in EPS. Much of the increase came from V.F. Corporation’s 90% dividend increase in 2006. If we take this big increase out of the dividend growth calculation, we would see that the company typically raises distributions by an average of 3% to 5% annually.
A 12 % growth in dividends translates into the dividend payment doubling every six years, whereas at a 4% growth rate it could take 18 years for the dividend payment to double. If we look at historical data, going as far back as 1986, V.F. Corporation has actually managed to double its dividend payment every eight years on average.


The trends in the dividend payout ratio have closely tracked short term EPS weakness in 2000 and 2001 by rising to disproportionate levels. It also fell to 24% before the company decided to drastically raise distributions by 90% in 2006. The ratio has largely remained under 50% over the past decade, which is a good sign. 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 V.F. Corporation is attractively valued, trading at 14 times earnings, yields 3.50% and has an adequately covered dividend payment. I would be looking forward to initiating a small position in V.F. Corporation (VFC) on dips.

Full Disclosure: No position at the time of writing

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Investing for Capital Appreciation or Dividend Income?

I am very sure that every dividend investors would have received this question. While dividend investors can ignore responding to folks with trading philosophy, sometimes it does become difficult to argue with value investors. Value investors who in general are looking to invest below book value sometime have an argument that focusing on dividend is not that critical. Business should be applauded for reinvesting profits back into business to grow. In essence, either create additional value or continuously increase value for their shareholder. That is a good argument. However, the key here is “creating value for the shareholders”.

Each individual will look at this differently. For me, “creating value for shareholder” is how much I am getting back in return. In simplistic terms, what is in there for me? From purely business standpoint, typically, value creation means increasing value of its business (and hence increasing stock value). Managements use combination of funding sources (debt, equity, leverage, etc.) to continuously increase the value of its business.

Let us consider that an individual is interested in harvesting profits based on buying undervalued stocks and cashing out after it is has reached its value. In this context, focusing solely on capital appreciation makes sense. Dividends can be considered as misnomer. Here the investor wants to focus on value itself, and given an opportunity, he/she will cash out that value. The objective is not to stick with the business or company. In this case, the buy-and-hold is based on certain criteria (i.e. value)

In my investment approach of buy-and-hold, I am also looking for management to continuously increase the value of its business (and hence my stocks value). I do not plan to cash out my profits (if any). In that context, I only have paper value creation. Unless I cash out, that increased value has no meaning for me. Who knows some nutjob manager will screw things and value is vanished. While I am waiting and continue to trust management, I need management to share some profits with me. That’s rational argument and prudent money management which shows to me company cares for its shareholders. I don’t want 100% profits. I want management to give back 25%-30% of profits as dividends.

Furthermore, if management is confident and company pays increasing dividends, it will be because of increased earnings (and hence P/E ratio). Indirectly, my stocks price valuation will also increase.

Let us take an example:
I start a corner store. I am owner (or shareholder). I want to grow my business. I agree for first few years (say three years) I need to put every penny back into growth. But after three years, I still want to continuously grow it. And I also want to make a decent above average living. It cannot be a one way street forever. I would take some percentage (say 20-30% profits) and remaining plow back into business. That’s what I call prudent management. I am getting something back to wait and continue to do my business.

Other options could be I keep plowing back for few years, say 5 or 6 years, and then sell it completely at higher value. Here my focus would be solely to go after increased value and cash out. I am not worried about whether my business stays to goes.

To summarize…
There has to be balance based on individual’s buy and hold objectives.

  • Going after buy and hold approach solely for capital appreciation is a high risk strategy, even when buying at deep value. My view is, until you exit, this value creation has no meaning. And hence, one needs dividends to keep the total returns increasing year after year.
  • Individuals wanting to use value investing for capital appreciation alone should always have an exit strategy (it cannot be buy and hold on continued basis). This paper value can vanish at any point in time.

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Not Sharing The Gains

For most companies, both income gains and income losses are attenuated to a large extent by taxes. In this regard, the government acts as a business partner, reducing the risk of loss in any one period (as long as offsetting gains were achieved in the recent past or can be achieved in the future!), but also sharing in the gains. But in certain situations, investors can sometimes stumble upon companies that do not have to share such gains.

Consider Key Tronic (KTCC), a designer and manufacturer of keyboards and other computer input devices. Over the last 8 years (including this one), Key Tronic has been profitable, as it has garnered business from original equipment manufacturers participating in a trend towards low-cost outsourcing. But Key Tronic has barely paid any taxes over that period. In fact, due to a storied past, Key Tronic has net operating loss carryforwards (i.e. losses that can be applied to future income for the purposes of calculating taxes) of over $40 million. The company's market cap is only half of that, as it earned about $1.5 million this year!

Some of these carryforwards expire every year, but management believes it will be able to apply most of those losses, reducing the company's tax rate considerably. For many companies, every dollar of operating income translates to about 65 cents of income. For this company, each dollar of operating income translates directly into a dollar of income, representing a 50% bonus to shareholders! Such future benefits should have the company trading at a premium to its peers, yet this company trades at a discount to its net current assets.

By going beyond a company's headlines and by reading the notes behind a company's financial statements, investors put themselves in a position to find value that would otherwise go uncovered. Tax-loss carryforwards represent just one of the many useful items investors can find in the notes to the financial statements.

Disclosure: Author has a long position in shares of KTCC

This article was written by Saj Karsan of Barel Karsan. If you enjoyed this article, please vote for it by clicking the Buzz Up! button below.


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An AAII Dividend Stock Screen

As a subscriber to the American Association of Individual Investors (AAII), I get the benefit of access to a number of screens they keep track of and have been tracking for a long period of time. As you can imagine, one of the screens I am most interested in is the dividend stock screen they track. In this screen, the AAII is primarily looking for the highly sought after dividend growth where a company increases its dividend year after year. As I have written about over and over again on my main blog, dividend growth is a viable investment strategy. Let's have a look at the investment criteria for the screen and the most recent picks from the screen.

Screening Criteria

This screen is primarily focused on looking for dividend growth. There is 10 criteria that a company must pass to make it on the list:

  • The company does not trade on the over-the-counter exchange
  • Those companies in the miscellaneous financial services industry are excluded because this industry classification contains closed-end funds
  • Company must have seven years of both price and dividend records
  • Companies must have paid a dividend for each of the last seven years and have never reduced their annual dividend payment
  • The dividend has increased over each of the last six fiscal years (Y7 to Y6, Y6 to Y5, Y5 to Y4, Y4 to Y3, Y3 to Y2, and Y2 to Y1)
  • The seven-year growth rate in dividends per share is greater than 3%
  • The current dividend yield is greater than the seven-year average dividend yield
  • The payout ratio for the last 12 months is less than or equal to 85% for utilities and less than or equal to 50% for companies in other industries
  • The total-liabilities-to-assets ratio must be below the norm for the industry
  • The three-year growth rate in earnings per share is greater than or equal to the industry's earnings per share growth over the same period
I like that this screen does not just look for dividend growth - it brings in some other items such as the payout ratio and debt-to-equity to help assess how well the company is being run

Passing Companies

This screen generates a list of a lot of potential dividend investments. 68 potential dividend growth stocks to be specific. .

The top 10 stocks sorted by 7-year dividend growth rate is listed below:
  • XTO Energy Inc.
  • Life Partners Holdings, Inc.
  • Lowe's Companies, Inc.
  • Noble Energy, Inc.
  • C.H. Robinson Worldwide, Inc.
  • Stryker Corporation
  • McDonald's Corporation
  • FactSet Research Systems Inc.
  • Expeditors International
I have never even heard of some of these companies, which is not necessarily a problem, but as with all investments I would need to ensure I understood the company fully before blindly investing in it.

Summary

I would not be comfortable buying off this list blindly. There is no review of EPS, ROE, or other factors important to a company's financial strength which is very apparent in the pure number of stocks the screen identified. However, as with all screens, I view it as a great way to generate investing ideas for further review and potential investment.

This article was written by The Dividend Guy. You may email questions or comments to me at info@thedividendguyblog.com.


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Stock Analysis: The Coca-Cola Company (KO)

Linked here is a detailed quantitative analysis of The Coca-Cola Company (KO). Below are some highlights from the above linked analysis:

Company Description: The Coca-Cola Company is the world's largest soft drink company. It engages in the manufacture, distribution, and marketing of nonalcoholic beverage concentrates, fruit juices and syrups worldwide.

Fair Value: I consider four calculations of fair value, see page 2 of the linked PDF for a detailed description:

  1. Avg. High Yield Price
  2. 20-Year DCF Price
  3. Avg. P/E Price
  4. Graham Number
KO is trading at a discount to 1.) and 3.) above. The stock is trading at a 17.3% premium to its calculated fair value of $41.33. KO did not earn any Stars in this section.

Dividend Analytical Data: In this section there are three possible Stars and three key metrics, see page 2 of the linked PDF for a detailed description:
  1. Free Cash Flow Payout
  2. Debt To Total Capital
  3. Key Metrics
  4. Dividend Growth Rate
  5. Years of Div. Growth
  6. Rolling 4-yr Div. > 15%
KO earned two Stars in this section for 2.) and 3.) above. The stock earned a Star as a result of its most recent Debt to Total Capital being less than 45%. KO earned a Star for having an acceptable score in at least two of the four Key Metrics measured. The company has paid a cash dividend to shareholders every year since 1893 and has increased its dividend payments for 47 consecutive years.

Dividend Income vs. MMA: Why would you assume the equity risk and invest in a dividend stock if you could earn a better return in a much less risky money market account (MMA)? This section compares the earning ability of this stock with a high yield MMA. Two items are considered in this section, see page 2 of the linked PDF for a detailed description:
  1. NPV MMA Diff.
  2. Years to > MMA
KO earned a Star in this section for its NPV MMA Diff. of the $1,162. This amount is in excess of the $500 target I look for in a stock that has increased dividends as long as KO has. If KO grows its dividend at 7.9% per year, it will take 2 years to equal a MMA yielding an estimated 20-year average rate of 3.9%. KO earned a check for the Key Metric 'Years to >MMA' since its 2 years is less than the 5 year target.

Other: KO is a member of the S&P 500, a Dividend Aristocrat and a member of the Broad Dividend Achievers™ Index. KO enjoys a dominant market share around the world. Margins and volumes in KO's non-carb portfolio should continue to grow as the company expands distribution and is able to hold pricing. KO's high exposure to international markets should offset small U.S. declines of the Coke unit. Coca-Cola Zero should drive trademark Coca-Cola volumes worldwide. A weakening dollar would provide an additional boost in profits. Risks would include slower than planned growth and adverse foreign currency exchange rates.

Conclusion: KO did not earn any Stars in the Fair Value section, earned two Stars in the Dividend Analytical Data section and earned one Star in the Dividend Income vs. MMA section for a total of three Stars. This quantitatively ranks KO as a 3 Star-Hold.

Using my D4L-PreScreen.xls model, I determined the share price could increase to $62.66 before KO's NPV MMA Differential fell to the $500 that I like to see for a stock with 47 consecutive years of dividend increases. At that price the stock would yield 2.62%.

Resetting the D4L-PreScreen.xls model and solving for the dividend growth rate needed to generate the target $500 NPV MMA Differential, the calculated rate is 5.4%. This dividend growth rate is lower than the the 7.9% used in this analysis, thus providing a margin of safety. KO has a risk rating of 1.50 which classifies it as a low risk stock.

KO is a great company that can produce a long resume detailing its many successes. Unfortunately, I am not the only person that has figured this out. It is not uncommon for KO to trade at a premium to its buy price. Another concern is KO's Free Cash Flow Payout, currently at 64%, tends to be higher than the 60% level that I prefer. However, this is mitigated to an extent by relatively low debt levels and predictable cash flows. KO is a stock I will buy when it dips below its buy price of $41.33. For additional information, including the stock's dividend history, please refer to its data page.

Disclaimer: Material presented here is for informational purposes only. The above quantitative stock analysis, including the Star rating, is mechanically calculated and is based on historical information. The analysis assumes the stock will perform in the future as it has in the past. This is generally never true. Before buying or selling any stock you should do your own research and reach your own conclusion. See my Disclaimer for more information.

Full Disclosure: At the time of this writing, I was long in KO (3.5% of my Income Portfolio).

What are your thoughts on KO?

Recent Stock Analyses:
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Weekend Reading Links - August 16, 2009

For your weekend reading pleasure, the articles listed below contain some of the best dividend and value investing insights found on the web. They were written by various members of the Dividend Investing and Value Network (DIV-Net) over the past week:

Articles From DIV-Net Members

There are some really good articles here, please take time and read a few of them.

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Executive Pay Cuts


Executive Compensation is a touchy subject. Some believe executives should be compensated in relation to share price. Others feel that an executive should derive their satisfaction from the growth of their business and not from pulling down a massive salary. Buffett for one is a huge proponent of this approach. He pays himself a comparably paltry $100K salary per year and several of the businesses owned by Berkshire have CEOs who share this same compensation package.



If CEOs should make a few million dollars a year or a few thousand dollars a year is not something I'll debate here. I will however suggest that if a company you own has a highly paid CEO, and the company has shown weak performance over the last year you may want to consider selling it.

Studies have been performed that show that if an employee is given a pay raise that the afterglow of this increase can be found in that employee's work ethic for approximately 3 months after the raise. However, if the employee is forced to take a pay cut the effects of this action can cause a decrease in that individuals moral and work ethic for years after the cut. With the current economic climate several top CEOs are being asked by their boards to take substantial salary cuts. If you agree with me that it is critical to have the best management working as hard as possible at your company then these businesses are to be avoided.

Finding Companies That May Cut Executive Compensation

Boards don't go out of their way to advertise their intent to cut an executive's salary, but if you want to guess where pay cuts are likely to appear you need only look at the top 10 paid executives in the US and then cross reference that with the change in their company's stock price over the last year. Where stock prices have decreased and compensation is at record highs you will find likely targets for cuts to compensation. Here are a few examples:































CompanyCEO1yr
Compensation		Change in share
Price over 1yr
NBREugene Isenberg$79,333,07949% reduction in share price
HESJohn Hess$159,566,94050% reduction in share price
UPL
Michael Watford
$116,929,39237% reduction in share price


As you can clearly see, the stock prices have plumetted in these businesses but it has not stopped these execs from pulling in record pay. Here are a few executives who's salary cannot help but be the topic of investor meetings and board discussions.


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Stock Analysis: Aflac (AFL)

Aflac Incorporated, through its subsidiary, American Family Life Assurance Company of Columbus (Aflac), provides supplemental health and life insurance in the USA and Japan. The company is member the S&P Dividend Aristocrats index.
Aflac has consistently increased dividends for 27 consecutive years. The company announced a 16.70% dividend raise in October 2008.

Between June of 1999 up until June 2009 this dividend growth stock has delivered an average total return of 3.90% annually. The stock fell from its all time high of $68.81 in 2008 to a multi-year low of $10.83 in March 2009, before recovering by 300% off its lows.

The company has managed to deliver a 10.80% average annual increase in its EPS between 1999 and 2008. Aflac is expected to earn $4.70 share in FY 2009, followed by $5.15/share in FY 2010. The company generates over 70% of its revenues in Japan. New distribution channels in the country for Aflac’s supplemental health and life insurance plans, which are not covered by Japanese healthcare, would drive sales in the future. The brand recognition that the company is building in the US should also be a strong driver of growth over time, in addition to focusing on retirement services targeting the baby boomers.

The Return on Equity has ranged over the past decade between a low of 12% and a high of 19%. Rather than focus on absolute values for this indicator, I generally want to see at least a stable return on equity over time.

Annual dividends have increased by an average of 22.90 % annually since 1999, which is higher than the growth in EPS. The disparity is mostly due to a gradual increase in the dividend payout ratio and the amounts this insurer has spent on stock buybacks.
A 23 % growth in dividends translates into the dividend payment doubling almost every three years. If we look at historical data, going as far back as 1986, Aflac has actually managed to double its dividend payment every four and a half years on average.

The dividend payout ratio has increased rather sharply over the past two years, but is still much lower than my 50% threshold. 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 Aflac is trading at 16 times 2008 earnings, yields 2.70% and has an adequately covered dividend payment. I would be looking forward to adding to my position in Aflac (AFL) on dips below $37.30.

Full Disclosure: Long AFL

Relevant Articles:

- 5 dividend stocks increasing their payments in this tough market
- Why do I like Dividend Aristocrats?
- 12 Dividend Stocks to own in this market
- Cincinnati Financial – An insurance stock to own

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Analog Devices - Stock Analysis for Dividend Growth Portfolio

Analog Devices, Inc. engages in the design, manufacture, and marketing of analog, mixed-signal, and digital signal processing integrated circuits used in industrial, communication, computer, and consumer applications. Its products are used in communications applications that include wireless handsets and wireless base stations, as well as products used for high-speed access to the Internet, including central office networking equipment.

ADI is not a dividend achiever and has started paying dividends since last 5 years only. The most recent dividend increase was in May 2008. I am impressed by ADI’s strong balance sheet and free cash flow. My objective here is to analyze if ADI has any potential to be a good dividend growth stock and how does it rate on my scale of risk-to-dividends.

Trend Analysis
Here I am looking at trends for past 10 years of corporation’s revenue and profitability. These parameters should show consistently growth trends. The trend charts and data summary are shown in images below.

  • Revenue: In general, a flat trend since 2000. The average revenue growth for last 10 years has been approximately 9%. Year 2001 and 2002 shows the significant dip which was the aftermath of the tech bubble. It may be intriguing that while revenue seems flat where is growth coming from? This is because, when we remove discontinued or sold business units, there is revenue growth from the existing business.
  • Cash Flows: Overall, stable to increasing trend for free cash flow and operating cash flow. It is good indicator that FCF is almost always greater than income.
  • EPS from continuing operation: In general, it has an increasing trend since 2002.
  • Dividends per share: Increasing trend since its start in 2003.

Risk Parameter Calculation
Here I use the corporation’s financial health to assign a risk number for measuring risk-to-dividends. The risk number for risk-to-dividends is 2.0. This is a medium risk category as per my 3-point risk scale. The increased payout factor and sluggish EPS growth rate (relative to its historical average) makes it a medium risk to dividends.


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 50% (stdev. 26%) is completely different that average EPS growth rate of 19.4% (stdev. 98%). The dividends growth rate is not supported by EPS growth rate indicating that it is going to slow down.
  • Duration of dividend growth: 5 years.
  • 4 year rolling dividend growth rate for past ten years: Not enough history.
  • Payout factor: In the past 5 years, it has been lower than 50%. This is another indicator that dividend growth is less likely or it does increase it will be high risk.
  • 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 2.93%; and (b) MMA yield is 3.4%. Last 5 years average dividend growth rate has been 50% which is unrealistic. My projected dividend growth rate is 6%. With my projected dividend growth of 6%, the dividend cash flow is 1.08 times the MMA income in 10 years time period. For dividend cash flow to be twice the MMA income, the pricing has to be $15.00 (i.e. yield 5.33%)

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: $14.1
  • Average high yield price calculated based on past 10 years: $42.5
  • Pricing based on past 10 year relative price-to-earnings ratio. $30.5
  • Pricing based on price-to-earnings ratio of 12: $19.0
  • Graham number: $16.3

The range of fair value is calculated as $18.6 to $24.5. I 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
Analog Devices, Inc., is about 43 year old technology based company. It is built on the foundation of innovation by its founder Ray Stata who is still associated with the company. It has survived all the ups and downs of technology industry. One aspect that I like is its ability to command 50% gross margins on its products.

  • ADI’s revenue is pretty diversified in few different product sectors and geographical region. Close to half of its revenue comes from outside of North America. Overall, it has about 10000 products (including derivatives). Its major market sector is industrial electronics and hence is poised to grow with continued industrialization of emerging markets.
  • It has a very strong balance sheet with practically no debt and sustained free cash flow. Even in this recessionary market, it is able to command 50%+ gross margin on its products.
  • Its key strength is core competency in high performance analog chips. These are the chips that convert real world analog signals into digital signals which are further processed for clarity. Every electronics product in the market today will have some form of data converter. ADI has more than 60% worldwide market share in data converters. Its products have more than 8 years of life cycle.
  • One significant concern that I have is; being in lucrative market segment, it is likely that it may face increasing competition. Even Texas Instruments has regrouped to focus of higher performance analog market segment.
  • I believe it will remain highly profitable company, but with slower growth in revenue.
  • With respect to dividends, I believe ADI has sufficient financial muscle to continue its dividends and sustain mid single digit growth. However, I would be wary of managements’ dividend strategy. It does not have a long history of dividends.

Conclusion
I like ADI’s diversified revenue stream and geographical presence. Overall, it is a US based company that will provide hedge against dollar fluctuation and proxy for foreign developed/emerging markets. It truly has a very strong balance sheet that includes free cash flow and practically zero debt. I also like the fact that company continues to remain focused on its core competency which gives it higher gross margin products. I stop short of starting any position because of (1) my concern whether management will continue its dividend policy; (2) changing competitive landscape with more competitors joining in, which was not the case earlier; and (3) current pricing is higher than my fair value range. I would be willing to take dividend risk provided I get an opportunity to buy at lower end of my fair value range.


Full Disclosure: No position at the time of writing.


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