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Polaris Industries:  The King of Off-Road Recreational Vehicles

This article is a guest post written by Ben Reynolds of Sure Dividend.  Sure Dividend focuses on high-quality dividend growth stocks suitable for long-term holding.

You may not have heard of Polaris Industries (PII)  – it does not get as much recognition as other dividend growth stocks like McDonald’s (MCD) or Apple (AAPL).  Still, Polaris Industries is the industry leader in off-road vehicles.  Investing in the top company in an industry can produce phenomenal returns.  Case-in-point:  over the last 10 years, Polaris Industries has compounded its earnings-per-share at 16.8% a year.  The company’s share price has increased nearly 400% in the same time period.

With rapid growth, one would expect Polaris Industries to be a relatively new company.  It is not, however.  Polaris Industries was founded in 1954.  The company has paid steady or increasing dividends since 1989, making Polaris Industries a potential candidate to consider when building a dividend growth portfolio.  Polaris Industries’ operations, growth prospects, and dividend are analyzed below.

Business Overview

Polaris Industries Operations are split into 5 segments.  Each segment is shown below along with the percentage of total revenue generated by the segment for Polaris Industries in fiscal 2014:

  • Off-Road Vehicles: 65% of revenue
  • Parts/Garments/Accessories: 17% of revenue
  • Motorcycles: 8% of revenue
  • Snowmobiles: 7% of revenue
  • Small Vehicles: 3% of revenue

The Off-Road Vehicles segment is by far the largest.  The segments sells off road vehicles under the Ranger, RZR, Sportsman, and Ace brands.  Polaris Industries surpassed its competitors to become the market share leader in off-road vehicles in 2010.  Since that time, the company has increased its market share lead every year thanks to its strong brands.

The company’s second largest segment is the Parts/Garments/Accessories segment (hereafter referred to as PG&A).  The PG&A segment generated 53% of revenue from accessories, 39% from parts, and 8% from apparel in fiscal 2014.  69% of total revenue came from off-road vehicle PG&A items.

The company’s other 3 segments accounted for 18% of total revenues in 2014, combined.  The motorcycles segments sells under the Victory, Indian Motorcycles, and Slingshot brands.  The Snowmobiles segment sells the following brands:  RMK, Indy, Rush Pro Ride, and Switchback.  The Small Vehicles segments sells under the GEM, Groupil Industries, Aixam, and Mega brands.

Growth Analysis

Polaris Industries has experienced phenomenal growth over the last 10 years.  The company’s 10 year growth rates over a variety of metrics are shown below:

  • Revenues-Per-Share Growth Rate: 1% per year
  • Earnings-Per-Share Growth Rate: 8% per year
  • Dividends-Per-Share Growth Rate: 7% per year
  • Book-Value-Per-Share Growth Rate: 7% per year

As you can see, Polaris Industries has compounded shareholder wealth at between 12.7% and 16.8% a year over the last decade, depending on what measure you use.  The company’s rapid growth has been driven by finding the ‘right people’, focusing on quality, and building its brands while increasing efficiency.  Over the last decade, profit margins have increased from 7.7% to 10.1% – a significant boost in profitability.

Polaris’ management is expecting 12% sales growth per year and 13% earning-per-share growth per year up to the year 2020.  If the management of most companies announced 13% earnings-per-share growth goals to 2020, investors would be wise to be skeptical.  With Polaris Industries – the opposite is true.  It is very likely the company hits its 13% earnings-per-share growth goals up to 2020.  The company greatly exceeded this level of growth in earnings-per-share over the last decade.  It would take a significant and protracted recession for the company to not grow earnings-per-share at a 13%+ a year going forward.

Polaris Industries will achieve its growth as it gains greater efficiencies through scale.  The company is opening up a new manufacturing plant in the U.S. in the second quarter of 2016.  Additionally, Polaris Industries is seeing strong demand for both in both its Motorcycles segment and its flagship Off-Road Vehicles segment.

Dividend Analysis & Valuation

Polaris Industries currently has a dividend yield of 1.5% and a payout ratio of just 28%.  With a low payout ratio and a high expected growth rate, dividend investors in Polaris Industries should expect dividend growth of at least 13% a year over the next several years, and quite possibly higher.  By 2020, current investors will have a yield on cost around 3% if the company grows its dividend payments at 13% a year.  It is quite possible the company will grow its dividend payments significantly faster.  If management decides to increase its payout ratio over the next several years, dividend investors will see even higher yields-on-cost.

Polaris Industries currently offers shareholders an expected total return of 14.5%.  This return comes from dividends (1.5%) and expected earnings-per-share growth (13%).  With a total return of 14.5%, Polaris industries investors can expect to double their initial investment in just over 5 years.

Somewhat surprisingly given its strong growth history, Polaris Industries does not trade at a nose-bleed price-to-earnings ratio.  The company currently has a price-to-earnings ratio of 21.4 and a forward price-to-earnings ratio of 16.3.  At current prices, Polaris Industries appears fairly valued – if not undervalued – considering the company’s excellent growth prospects.

Dividend Monk’s Note:

I decided to use the Dividend Discount Model to add more on valuation in this article.

Using the Dividend Discount Model with a dividend growth of 13% for the first 10 years  and then a smaller dividend growth rate of 9% and a discount rate of 11% (since the company is not comparable to a giant dividend payer such as MCD), we get the following chart:

Calculated Intrinsic Value OUTPUT 15-Cell Matrix
Discount Rate (Horizontal)
Margin of Safety 10.00% 11.00% 12.00%
20% Premium $392.50 $193.86 $127.75
10% Premium $359.79 $177.70 $117.10
Intrinsic Value $327.08 $161.55 $106.46
10% Discount $294.37 $145.39 $95.81
20% Discount $261.67 $129.24 $85.17

The Dividend Toolkit provides me with a two stage DDM calculation and clearly shows the stock trading at a 10% discount. I’ve doubled check my valuation with Morning Star and they value PII at $169. Therefore, my calculation are line with other analysts.

Final Thoughts

Polaris Industries has grown to become the leader in the North American off-road vehicle industry.  The company has experienced somewhat of a renaissance over the last decade – and especially the last 5 years.  Management has done a fantastic job of growing the business while simultaneously increasing margins and paying dividends.

In addition, Polaris Industries scores high marks for safety.  The company is a member of the Dividend Achievers Index; it has increased its dividends each year since 1992 and has paid steady or increasing dividends since 1989.  Polaris Industries has just under $230 million in debt on its books.  The company made $455 million in profits in 2014; Polaris Industries is conservatively financed.  In addition, the company has over $100 million in cash on hand.

Polaris Industries is a conservatively financed industry leader .  The company offers investors solid dividend growth potential with a current yield about 0.3 percentage points below the S&P 500’s current dividend yield.  Polaris Industries shares may be suitable for long-term dividend growth investors focused more on future income than current income.

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Five Dividend Stocks Buying Back Their Own Shares

Top Dividend StocksWhen management of a company is looking to make good use of incoming capital for shareholders, there are various options.

If they have a good expansion opportunity, or believe stronger advertising can provide good returns, then the money may be beneficially reinvested for organic growth. Organic growth is often the best use of capital, but there’s a limit to how quickly a large company can grow in a given amount of time.

Alternatively, if there is a complementary business that management believes is appropriately priced and will strengthen their company, they can make an acquisition. The downside is that, in many industries, acquisitions are often over-priced empire-building activities rather than truly beneficial to shareholders.

And of course, if a company has a weak balance sheet, some incoming capital can be used to pay off debt and add additional liquidity to the balance sheet.

In addition, there are two more direct ways to give money back to shareholders. The most direct way is to pay a dividend, where a company sends a portion of the profits to shareholders, ideally on a regular basis.

Alternatively, or in addition to dividends, company management might want to use some incoming profits to buy back shares of the company, and thus decrease the number of shares outstanding, and therefore increased the percent ownership of each share. All else being equal, share buybacks boost EPS, and are functionally similar to reinvested dividends, but are treated better than dividends under current tax law. The downside to buybacks is that a lot of companies buy back shares when they are expensive and hold tightly onto their money when times are tough, with the end results being similar to a nervous investor that avoids investing in market bottoms and happily invested in market tops.

There are some companies that pay regular growing dividends, and then use any extra cash flow after that and other options, to buy back some shares. The dividend yield and share buyback yield, put together, are the shareholder yield, which gives the investor a decent idea of what rate of return can be expected merely from taking existing profits and giving them back to shareholders, on top of all other growth prospects.

One of the criticisms about the sustainability of capitalism is that it requires constant growth to function, but that’s only partially true. You can get substantial returns from a company that isn’t growing. When a stock is at the right valuation, then a significant number of share buybacks along with dividends can produce a 10% rate of return even when the company is not growing at all, or only growing due to keeping pricing up to pace with inflation. A good example of that is Chubb Corporation (CB), which has no revenue growth, but has boosted EPS, dividends, book value, and the stock price, over the long term.

This is a non-exhaustive list of five more select companies that are both paying dividends and regularly buying back shares.

Becton Dickinson (BDX)

Becton Dickinson is a global medical device company, producing a variety of medical, diagnostic, and bioscience products, with significantly more than half of company revenue coming from outside of the United States.

The company has over four decades of consecutive annual dividend growth, but due to a modest payout ratio and the recent surge in stock price for 2013, the dividend yield is fairly low at only 2%. Much of the capital goes to buybacks, however. In the past nine years, they’ve bought back nearly 25% of the company’s market cap. Recently, the company has bought back over 7% of its market cap in each of two years, but that has largely been due to taking advantage of low interest rates to increase the corporate leverage. More sustainably over the long-term, the company buys back perhaps 3% of its stock per year, while paying a 2-3% dividend yield, and combining that cash return with solid revenue growth.

I view the current valuation of BDX to be reasonable, if not exactly appealing, compared to many other potential investments on the market currently. A full analysis from earlier this year is available here.

Lowe’s Companies (LOW)

I haven’t published a report on Lowe’s in a few years, primarily due to the low dividend yield of only 1.5% (despite five decades of consecutive annual dividend growth). It’s a good mention in a share buyback list, however, since it couples the dividend with serious regular stock buybacks. The company bought back 30% of its market cap in under 8 years, reducing the share count considerably from over 1.6 billion to well under 1.2 billion. The company offers a decent 5% shareholder yield overall, along with solid core growth.

Overall, I’d classify this home improvement retailer as being a bit pricey at the current time after the 2013 run-up.

J.M. Smucker Co. (SJM)

Smuckers, the maker of Jams and Jelly, is an interesting example. Over the past decade, they went on an acquisition-spree buying brands like Folgers coffee and Jif peanut butter to turn Smuckers into a larger, diversified food company. To afford all of this, the company regularly issued new shares, growing the number of outstanding shares in the process. Over the 2005-2010 period alone, the company doubled its number of shares outstanding. The strategy paid off, as per-share metrics had very strong growth and roughly quintupling the investment of their investors over the most recent 12 year period.

Now, the company is using substantial buybacks and decreasing its share count. The current dividend yield is about 2.16%, with another 2-3% buyback yield. I do feel, however, that the valuation is a bit ahead of itself, and it would be better to watch this one for a while.

Target Corporation (TGT)

It’s tough to dig any sort of moat in retail, which is a low margin and hyper-competitive industry. Being a “middle of the road” retailer, avoiding the bargain or luxury extremes, is a particularly dangerous place to be. Target has found a niche at the high end of the budget space- typically a classier shopping experience than Wal-Mart and membership chains, but still with rather low prices. The company’s four and a half decade streak of consecutive annual dividend increases is evidence of the success of this strategy so far, and the current dividend yield is 2.68%.

Target also buys back shares, having bought back nearly 30% of its market cap in the past decade. The company often purchases up to 5% of its market cap in a single year, although it can vary year to year. I view the company as reasonably valued, but with large retail competitors, bulk membership competitors, and disruptive online competitors, I’d like to see a bigger margin of safety.

Texas Instruments (TXN)

Texas Instruments is the largest producer of analog chips in the world. Their products tend to have long life-cycles and high margins, and they supplement those strengths with a particular focus on their large sales team. The headwind for the company is that they’ve been exiting some commodity product lines to focus in their core analog area, and as can expected this decision has impacted revenue.

The company wasn’t much of a dividend payer until the last few years, where it has quickly grown its dividend to a current yield of 2.89%; fairly high for the tech industry. The company bought back 35% of its market cap in the past decade, and continues to buy back ~4% of its shares each year.

Full Disclosure: As of this writing, I am long CB, BDX, and SJM.
You can see my dividend portfolio here.

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5 Dividend Stocks Trading at Appealing Valuations

Top Dividend StocksThe S&P 500 has had a strong upward rise over the last four years, including a sustained increase for the year-to-date in 2013. This pushed dividend yields lower throughout the market, meaning investors can’t buy as large of an income stream with their money.

Despite that, there have been some blue-chip stocks that have missed out on part of this increase. Here are five of them at that trade at valuations that are lower than the rest of the market.

Chevron Corporation (CVX)

Chevron’s stock performance over the past four years has been admirable, but most of the increase in price occurred in in the 2009-2011 period. The stock has been fairly flat and choppy since then, and currently offers a dividend yield of 3.14%, a five-year dividend growth rate of approximately 9%, and a dividend payout ratio of under 40%. The dividend is likely to increase this quarter.

Cost over-runs at the enormous $50+ billion Australian Gorgon LNG gas project, as well as continued litigation risk from their ceased Ecuadorian operations seem to be keeping the stock valuation in check.

Chevron has a pristine balance sheet, and gas output in 2015 from the Gorgon project should be a driver for growth.

Intel Corporation (INTC)

Intel’s #1 problem is that they have the dominant position in the softening PC market. As the world’s largest semiconductor producer, they use their immense capital resources to keep ahead of AMD with the tick-tock method, but ARM has strongly outperformed Intel in the proliferating market of mobile computing devices. This leaves Intel holding the bag in the PC market, but fortunately they do have strong positioning in the growing server market.

Another strike against the company is that their billions spent on acquisitions over the last several years doesn’t seem to be having a material benefit. I pointed out in my 2010 analysis of the company that their McAfee acquisition, at 40 times earnings, doesn’t seem particularly justifiable unless several bullish assumptions all take place.

The company offers a hefty dividend yield of 4.1%, the most recent increase was over 7% (which I believe is a more practical measure of dividend growth at this point compared to their much larger five-year dividend growth rate), and so with a P/E of only 10, the company doesn’t require almost any core growth to offer investors a shot at double-digit returns. The company likely isn’t looking at a whole lot of growth, but since most of their cash goes to investors in the form of dividends and share buybacks (which fuels EPS/dividend growth), Intel stock is still in a reasonably appealing position.

Oneok Partners LP (OKS)

NGL prices haven’t been helping Oneok, but over the long term, their $5 billion in projects seem to present a clear path to growth over the next several years. I was a bit wary of this MLP back in 2011 when the unit price was soaring, but after a flat unit price of 2012 and 2013 along with continued distribution growth, OKS is looking a bit more attractive compared to the market these days.

With a 5.21% distribution yield and 6% annualized distribution growth over the last five years, the partnership is a strong income producer. Pipelines represent consistent, wide-moat infrastructure investments that are perfect for dividend investors.

For those interested in MLPs, two other partnerships that I’m bullish on (and own) for yield and growth, are Kinder Morgan Inc. (KMI) (full analysis) and Energy Transfer Equity LP (ETE) (recent analysis).

Air Products and Chemicals (APD)

With 30 years of consecutive dividend growth, APD has had some consistency. This company is the largest supplier of hydrogen to companies in the world, and generally signs long-term contracts with customers. The focus recently has been on cost-cutting and selling of non-core business units, and so their revenue for 2012 wasn’t as strong as 2011.

The dividend yield is a decent 3.31%, the dividend growth rate over the last 5 years has averaged more than 10% per year, and the balance sheet is quite strong with an interest coverage ratio of 10.

BHP Billiton ADR (BBL, BHP)

BHP Billiton, headquartered in Australia, is the largest mining company in the world. Two ADRs (with equal economic and voting rights) trade on the NYSE: BBL and BHP. BBL trades at a discount to BHP and therefore offers a higher dividend yield.

The market has boomed in 2013 while the stock price of BHP Billiton has fallen. On April 17th alone, BBL fell over 4.5%. The reason is, commodity prices have fallen compared to 2011, and institutional investors have pulled back a bit. That leaves BBL ADR shares with a 4.2% dividend yield. The 2007-2012 period saw annualized dividend growth of nearly 19% per year in USD, although the 2012-2013 dividend change has so far been 3.6% in USD.

Looking at this from a long-term view rather than a short-term one, BHP Billiton offers a strong combination of yield and growth, has highly diversified mining operations, and it will continue to offer materials that the world needs. At a P/E ratio of 15, the company is on sale compared to the market.

A Snapshot of the Market

The Shiller P/E of the market is currently in the range of 22-23, which places it well above its historical average of under 17, but lower than it was prior to the latest recession. Using the Shiller P/E as the metric of choice, the market’s overall valuation has been fairly flat over the last three years as both earnings and stock prices have risen.

While these five investments don’t necessarily represent recommended picks, they may be good places to look. The most recent issue of the dividend newsletter included three other stock picks that seem to be trading at reasonable valuations. Even in this moderately highly valued market, values can still be found.

Good Dividend Growth Candidates Often Have:
-A sum of dividend yield and expected future EPS growth that sums to 10 or higher. Assuming a constant stock valuation over time, the sum of yield and EPS growth is the best estimate for long-term returns, which can be quantitatively demonstrated with methods like the Dividend Discount Model.

-A sturdy balance sheet with an interest coverage ratio of 8 or higher. A company with a balance sheet that’s stronger than its peers has flexibility to make opportunistic investments, to take advantage of low interest rates to temporarily increase their debt and buy back shares, and to weather major economic downturns. Of course, for asset-heavy businesses like utilities or MLPs, a much lower interest coverage ratio is allowed and expected, and the credit rating becomes a more relevant assessment.

-A specific plan for the future. Rather than operating quarter by quarter, successful companies plan years ahead. Look for companies that proudly explain their plans over the next five years or so, including specific projects or specific growth targets and explanations of how they’ll meet those targets. Blue-chip stocks that have mild to moderate growth and that spend much of their money on dividends and buybacks are often consistent enough for investors and managers to make fairly accurate predictions about EPS and dividend growth over a business cycle.

Full Disclosure: As of this writing, I am long CVX, ETE, and KMI.
You can see my dividend portfolio here.

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