Dividend growth investors must consider a variety of factors when evaluating companies to invest in. A lot more goes into the process than just buying anything with a high yield. Not only must they assess the quality of the dividend, but also its sustainability going forward, as well as the overall health of the company. I grade companies that I invest in after considering all of these things. Here are the factors that go into my analysis of a company for my dividend growth portfolio:
Dividend Quality - 75 Points
Current Yield (25 points)
The current yield is the easiest metric to analyze. It is the annual dividends divided by the current stock price. Essentially the yield is what percentage of your capital investment you receive annually. I prefer higher yields, although the actual yield only accounts for a quarter of the overall score, as it can never be taken just at face value.
Payout Ratio (15 points)
The payout ratio of a stock counts for 15 more points on my dividend scorecard. I prefer to see a low payout ratio because it allows a higher margin of safety for the dividend, while at the same time ensuring that the company can focus on growing earnings. Although payout ratio can be deceptive in some cases, I find that in most cases it can be an effective tool for evaluating payouts. Since increasing the payout ratio is one of the few ways to provide dividend increases, it is an important part of this Dividend Growth Scorecard.
Dividend History (10 points)
This is where I take into the account the history and consistency of the dividend, including the consecutive years it has been paid and increased. A company with 50 years of consecutive dividend increases is much more likely to sustain the dividend going forward than one, which has paid out for only 3 years.
|Yrs of Div Increases||Points|
|0-5 years||0-2 Points|
|5-10 years||2-4 Points|
|10-15 years||4-6 Points|
|15-20 years||6-8 Points|
5/3/1 Yr DGR (25 points)
The rate at which a company has recently been growing its dividend is very important in my decision to invest. Since I look for companies that I can hold long-term, I want to increase my income stream not only with reinvestment, but also dividend growth. Ideally, I want to see annual dividend hikes of greater than 10% over the past 5 years with accelerating increases. A sign of danger could be a 10% 5-year DGR, but only a 5% 3 or 1-Year DGR. I use the average of these three numbers in my grading.
|Avg 5/3/1 Yr DGR||Points|
Company Quality - 25 points
Competitive Advantage (10 points)
I want companies that I invest in to have a significant advantage over competitors within the industry. This usually means it is one of the top two market leaders in the industry with significant pricing power and other advantages. It is very difficult to quantify this category, so I assign subjective values based on factors such as brand perception and market share.
Revenue Growth (10 points)
Revenue growth is the main driver of earnings and cash flow growth, which allow for dividend growth. Although I like established companies with long track records of dividend increases, I still want to see a good rate of revenue growth. I use the predicted Average Annual Growth Rate of revenues going forward from Value Line Research Reports to calculate this grade.
|Est. Rev Growth||Points|
Current Valuation (5 points)
Although, like Warren Buffet, I would rather buy an excellent company at a fair price than a fair company at an excellent price, valuation does play a key role when I decide when to invest in a company. Even though I do not focus on capital appreciation as much as increasing dividends, it is still nice to see equities at least maintain market value. Acquiring companies at a price at a discount can allow me to accumulate a greater amount of dividends with the same amount of capital. Valuation is different for all companies, so this grade will also be subjective. It can be calculated by comparing to competitors in the industry as well as historical P/E.
New categories can be added and point distributions can be weighted differently according to investor preferences. Here are the grades that some of the equities in my portfolio have earned based upon this scorecard:
My Dividend Growth Portfolio Scorecard
|Company||Yield||Payout||History||5/3/1 Yr DGR||Comp Adv||Rev Growth||Valuation||Total|
|Intel Corp. (NASDAQ:INTC)||22||6||4||14||8||7||5||66|
|Altria Group (NYSE:MO)||24||3||10||11||8||5||2||63|
|Walgreen Co. (WAG)||13||8||10||25||7||5||2||70|
|Wal-Mart Stores (NYSE:WMT)||13||10||10||13||10||6||3||65|
As you can see, companies that I deem worthy of investment usually score at least 50. This scorecard includes many factors that I believe to be important for the success of dividend growth investing. I would welcome any thoughts or feedback on other factors that should be considered in a dividend scorecard.
Disclosure: I am long CVX, INTC, KO, MCD, MO, T, WAG, WMT. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.