Dividend Monk

Weekend Reading 4/14/2012

April 14, 2012 By Matt 2 Comments

Here are some good reads from around the web for dividend stocks and other topics:

Recent Buy: Bank of Montreal
See why Dividend Ninja bought this particular bank.

7 Small Cap High Yield Dividend Stocks
Not all good dividend payers are large, so D4L provided 7 smaller dividend picks.

Abbott Laboratories is Cheaper Than You Think
Dividend Growth Investor explained why Abbott is a good value currently.

Ross Stores Stock Analysis
In retail, you never want to be in the middle. Either luxury or discount, not average. Ross is discount, and Sigma Swan reviewed the company.

Start Making Passive Income
Retire By 40 offers ways to build passive income.

Spring Clean Your Portfolio
Christine Benz from Morningstar discusses how to straighten up your portfolio a bit. She mentions some dividend sectors that are a bit expensive, and I agree.

Marquee Energy: Undervalued Oil Junior with Strong Production Growth Ahead
Beating the Index produces great content on the energy sector.

Dividend Stocks 101: The Essential Guide
If you’re new to the site, check out this key resource.

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Becton Dickinson: Reasonable Value

April 12, 2012 By Matt 2 Comments

Becton Dickinson is a global health company that focuses on durable medical supplies and medical devices.

-Seven Year Revenue Growth Rate: 6.8%
-Seven Year EPS Growth Rate: 18%
-Dividend Yield: 2.37%
-Balance Sheet: Moderately Strong, but Weakening

Becton Dickinson remains a solid long-term pick in my opinion, but the fact that the balance sheet has gone from stellar to mediocre means that the company has given up a particularly strong draw for investors.

Overview

Becton Dickinson (NYSE: BDX) is divided into three business segments:

BD Medical
BD Medical contributes by far the largest percent of revenue, with $4.007 billion of Becton Dickinson’s total revenue. A bit over $2 billion of this comes from medical and surgical systems. Slightly over $1 billion comes from pharmaceutical systems, and the remainder comes from diabetes care. These products come in the form of needles, syringes, and drug-delivery systems, and the major customers are hospitals, clinics, physicians’ offices, government agencies, and healthcare workers.

BD Diagnostics
BD Diagnostics pulls in the second largest amount of revenue, with $2.480 billion of BD’s total revenue. It is about evenly split up, with over $1.2 billion in revenue each from Preanalytical Systems and Diagnostic Systems. This segment concerns specimen collection, identification, testing, and specific systems, and the major customers are hospitals, laboratories, blood banks, physicians’ offices, and so forth.

BD Biosciences
BD Biosciences is the smallest segment, with $1.341 billion in revenue. From this, a bit over $1 billion comes from cell analysis, and the remaining $300 million comes from discovery labware. The products are mainly kits for cell analysis, cell imaging systems, and laboratory products.

Stock Metrics

Price to Earnings: 14
Price to Free Cash Flow: 18
Price to Book: 3.6
Return on Equity: 25%

Revenue and Free Cash Flow

BDX Revenue Chart

BDX has had particularly consistent revenue growth for decades. The revenue growth rate over the last seven years averaged 6.8%. Free cash flow, however, has been more erratic, and has only grown at 4.2% compounded annually over this same period.

Earnings and Dividends

BDX grew earnings by almost 18% per year over the last seven years, but part of that has to do with 2004 being a low year for EPS. Calculating the 8-year EPS growth rate shows a milder but still impressive 13.3%.

The company has almost four decades of consecutive annual dividend growth, and the current dividend yield is 2.37% with a payout ratio from earnings of under 35%. The dividend growth rate over the last 7 years averaged 15% annually.

BDX generally spends around twice the amount of money on net share repurchases as they do on dividends, which decreases the number of shares and therefore increases EPS growth, dividend growth, and other per-share metrics. In 2011, however, the company spent around 4 times as much money on share repurchases as on dividends.

Balance Sheet

When I first published an analysis of Becton Dickinson around two years ago, the balance sheet was particularly strong. BDX management, however, has decided to issue debt to accelerate their share repurchases. Considering that interest rates are artificially low, and I consider BDX stock to be trading near its intrinsic value, this may be a good use of cash in terms of ROI. From a conservative investor standpoint, however, it may be excessive. The company’s pristine balance sheet has been somewhat reduced.

Total debt/equity has risen to 88%, but the interest coverage ratio is currently still over 10, which is strong, and goodwill makes up a fairly small portion of equity. The total debt/income is over 3 now.

Overall, the balance sheet is still strong in an absolute sense, but not when compared relatively to its position 2 or 3 years ago. The balance sheet has not deteriorated out of necessity, but rather, management has taken advantage of low interest rates to buy assets that should produce better long-term returns: their own stock. While it makes sense in terms of numbers, a decrease in balance sheet strength of this magnitude over this short of a period violates a portion of my original investment thesis in this company, and I’ll be watching their balance sheet carefully from this point forward.

Investment Thesis

Becton Dickinson’s growth has slowed somewhat, but the company remains strong. Their necessary products are used throughout the world, with more than half of sales coming outside of the United States. Their exposure in emerging markets is solid, and grows approximately twice as fast as the company as a whole does.

The company’s products are not particularly unique, so they face substantial competition. But with Becton Dickinson’s long history of producing surgical tools, its large scale, and its pioneering of safety-focused equipment, it has a fairly defensive position in my opinion.

Acquisitions

Becton Dickinson generally keeps acquisitions to a fairly modest portion of free cash flow. In 2011, they had a somewhat more aggressive year of acquisitions.

Accuri Cytometers was acquired, which is a low-cost provider of cytometers that BDX hopes will reach a wider audience of scientists and clinicians.

Carmel Pharma AB was also acquired, which deals with the safe handling of health care substances. Worker safety continues to increase in emphasis, worldwide.

In exchange for this, BDX recently announced that it is selling its discovery labware unit to Corning for $730 million.

Risks

As a global health care provider, Becton Dickinson faces currency risks and litigation risks, as well as regulation risk. Device manufacturers are buffered from the continual concentrated risk of blockbuster patent losses that pharmaceutical companies deal with, but the global regulatory environment for medical devices is still rather strict. Changes in national budgets or health care regulation can substantially affect producers of equipment related to health care.

Conclusion and Valuation

In conclusion, I currently view BDX has a reasonable value at the current price of around $76. With a 2+% yield and double-digit dividend and EPS growth, the company is in good shape to produce solid long term returns.

The downsides are that the yield isn’t particularly high, and the balance sheet has weakened. Other potential buys in this space for a yield include Abbott (ABT), Johnson and Johnson (JNJ), and Medtronic (MDT), and I view all of these dividend stocks as reasonable investments currently.

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

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5 Dividend Payers with Very Strong Balance Sheets

April 5, 2012 By Matt 5 Comments

Last week, I published an overview of the only four companies that currently have a perfect AAA credit rating.

It’s not surprising that all of those financially secure companies are also companies that have had long consistent stretches of dividend growth, ranging from the better part of a decade to almost half a century.

They are not, however, the only four businesses that have great balance sheets. Several other businesses have extremely secure financial positions, and in this article, I’ll provide an overview of five excellent balance sheets. Some of them have balance sheets that rival or exceed their AAA counterparts.

Apple Inc. (AAPL)

Apple doesn’t have an AAA rating because it has no debt to rate. If it did, however, the Apple balance sheet would arguably be considered the strongest balance sheet of any business. It’s so strong actually, that one of the biggest financial complaints towards Apple was that it was hoarding too much cash instead of returning it to shareholders, and so CEO Tim Cook finally announced a dividend. The yield will be under 2%, but in terms of total payout, it’s one of the biggest quarterly dividend payments of any company in the world.

The company has approximately $100 billion in liquid money on its books. The company’s dividend may slow down cash accumulation, but shouldn’t draw into the cash reserves, because the current free cash flow covers the proposed dividend payout several times over. And because Apple sticks to only small, strategic acquisitions, the free cash isn’t reduced by any major acquisition expenditure.

The question for investment purposes is whether Apple can maintain their current innovation, or whether they’ll eventually fall behind. Unlike businesses that produce reliable cash flows with an economic moat, Apple is dependent on being able to release trendy market-beating products each year.

Chevron Corporation (CVX)

A few months ago, I posted an analysis of Chevron where I discussed how the company could absorb even a multi-billion-dollar litigation penalty if it had to, with regards to current media reports at the time.

Chevron’s total debt/equity ratio is around 8%, and their interest coverage ratio is very high. The company has approximately 10% worth of its market capitalization worth of cash equivalents on hand.

Due to heavy capital expenditure, free cash flow is fairly weak compared to net income ($14.5 billion in FCF vs. $27 billion in net income for 2011), but free cash flow still covers the dividend payout twice over in most years.

Intel Corporation (INTC)

Microsoft made it onto the AAA list, but Intel did not. Intel, however, has a current ratio of over 2, a total debt/equity ratio of around 16%, and an interest coverage ratio that is considerably above 100. The company has more cash on hand than their current liabilities are worth.

Intel, like Apple, is dependent on its ability to produce the best products every year. But unlike Apple, Intel gets design wins based almost strictly on performance rather than a combination of consumer preference and specs, and supports this performance with an R&D budget and a capital expenditure budget that vastly outmatches its rivals.

Here’s the recent analysis: Intel: Where are their Growth Opportunities?

Canadian National Railway (CNI)

Canadian National Railway may not have quite as low of a total debt/equity ratio as some of the others on this list, but what constitutes a good balance sheet varies by industry. When a company has a large base of assets and reliable cash flows, and still rather conservative balance sheet metrics, then it be considered as financially sturdy as a fast paced business with a leaner balance sheet.

This railroad system has tracks extending from the Atlantic Ocean to Pacific Ocean through Canada, and also has tracks extending down to the Gulf of Mexico. Railways, based on their position once developed, and based on their energy efficiency compared to other forms of transportation, have solid economic moats.

With a debt/equity ratio of around 60% and an interest coverage ratio of almost 10, CNI’s balance sheet is robust. Their dividend, which has increaed every year since the mid-1990′s, is comfortably covered by free cash flows.

National Presto (NPK)

National Presto has some troubles with its cooking appliances segment, and while their defense segment is strong, there is uncertainty regarding how much of it can be maintained with a reduction in military activity. But one problem that National Presto doesn’t have, is a poor balance sheet.

This company, like Apple, has tons of cash and no debt. The company has $133 million in cash on their books, which is equal to approximately 25% of their total market capitalization. So, this small cap has a higher cash/market cap percentage than Apple or any other company on this list.

Their dividend policy differs from many others; rather than pay a set dividend that grows each year, they pay a large annual special dividend that is equal to approximately 90% of earnings. So their dividend scales with their performance, which has advantages and disadvantages.

The recent analysis: National Presto: Value Play or Value Trap?

Importance of Balance Sheet Strength

The importance of a strong balance sheet goes far beyond credit risk and liquidity risk. A company that has tons of cash and little debt is a company that’s flexible. Given the right opportunity, their balance sheet can absorb a big change by taking on debt, if need be.

If, for example, you have a company with $1 billion in assets, $500 million in debt, and $200 million in net income, then you have a fairly leveraged company. On the other hand, if a company with $1 billion in assets, no debt, and $200 million in net income existed at the same valuation, it would be a much better bargain, all else being equal. This second company could, for instance, make a targeted acquisition to come up to the same debt/assets ratio as the first company, but could then have tens of millions more in income. Emerson Electric, for instance, acquired companies to enhance its data center business during the recent recession. They had the balance strength to absorb a slightly higher degree of debt for a good opportunity.

Overall, it’s good to look for companies with above average balance sheets, as they can weather storms, and are more flexible for opportunities such as extremely low interest rate environments or opportunistic acquisitions or large capital expenditures.

Full Disclosure: I am long MSFT, JNJ, XOM, CVX, and NPK at the time of this writing. You can see my dividend portfolio here.

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