I've been analyzing dividend companies for almost a year now, and I've looked at hundreds of stocks. In December, I started building what I call my Perfect Dividend Portfolio - one company at a time, and analyzing each company using a rating system I developed myself.
I review the stocks on seven different criteria; I feel that my selection covers the company's past dividend-paying history, its potential future earnings growth, and the valuation of the company.
The company must be yielding at least 3.0% annually, it must have a history of paying and raising dividends for at least 10 years, and the company must have a 5-year dividend growth rate (DGR) of at least 5.0%.
I also look at estimated earnings growth rate (its EGR) for the next 5 years, and the company's share price total return over the previous twelve months. (I do not think that a company whose yield is high because its share price declined precipitously is a company that is good for my portfolio.)
I am also looking at P/E, because I am aware that dividend stocks have been quite popular over the past few years. Because the yield goes down as the share price goes up, in some ways this does tend to temper the valuation somewhat - if the stock becomes overpriced, the yield can drop low enough that the company is no longer desirable as a dividend payer. However, I still look out for companies that are overvalued, even if their yield is still high enough to pass my screens.
And I consider payout ratio. A company that pays out too much of its earnings in the form of dividends may not retain enough to continue growing. It may also make the dividend vulnerable to cuts in the case of a quarter of more of underperformance.
I constructed a rating system that awards points for each of the previous named criteria. A "perfect" score would be 28 points, with 4 points awarded in all seven categories.
The selection process took considerably longer than I had anticipated; my original plan was to choose one company a week, and build the entire portfolio by the middle of February. However, I ran into more trouble choosing companies that met all of my criteria than I had expected.
I chose 3 companies in December: Abbott Labs (NYSE:ABT), which I converted to 100% AbbVie (NYSE:ABBV) after the split, PartnerRe Limited (NYSE:PRE) and Enterprise Products Partners (NYSE:EPD). In January I selected 4 more: Cracker Barrel Old Country Store (NASDAQ:CBRL), Meredith (NYSE:MDP), Lockheed Martin (NYSE:LMT) and Sunoco Logistics Partners (NYSE:SXL). In February I picked only 1: Williams Companies (WMB). I picked 1 in March: Leggett and Platt (LEG). And the final company I picked in April - Chevron (NYSE:CVX).
My portfolio as a whole is yielding 3.9% on cost, with which I am very happy considering my minimum criterion is 3.0%. I'd like to keep the yield on the entire portfolio around 4.0%.
The average number of years that these companies have raised their dividends is 19.4, again, a very nice number. These companies all made it through the 2008-2009 recession without cutting their dividends, and I feel confident that they will all work hard to maintain their streaks. None of these companies will cut or even freeze their dividends based on any small trouble.
The average 5-year annual Dividend Growth Rate is an extremely healthy 14.3%. I am very pleased with this number. This means that all of these companies are not only committed to paying and raising their dividends every year, but that they are committed to growing their dividends at a rate that far exceeds that of inflation. These dividends will continue to grow at a healthy pace regardless of what their stock price does.
On top of a terrific DGR, the companies in my portfolio reflect an average 5-year annual Earnings Growth Rate projection of 9.5%. Professional analysts have estimated that all of these companies are on the path to significant earnings increases in the future.
The P/E ratio average for the portfolio is ideal, at 14.7. The current P/E of the S&P 500 is 18.8. I was looking for a P/E under 20, which all of the companies have except Williams Companies, which stands at 25.6.
The payout ratio average for the 10 companies in my portfolio is 44.1%, extremely reasonable. This despite the fact that two of the companies (Enterprise Products Partners and Sunoco Logistics) are Master Limited Partnerships which must, by law, pay out 90% of their earnings as distributions.
The final criterion was Total Return over the last twelve months, and my portfolio average for this is 22.8%.
All in all, if my portfolio was a single company, it would receive a ranking per my system of 21 points. It would actually be the highest-rated company in my portfolio.
All of the companies scored at least 18 points on my rating system when I chose them. I will re-calculate their score once per quarter. Anything that drops below a 16 will be considered for replacement.
I intend to reinvest dividends once per quarter, after all ten companies have paid out, and I will reinvest in each company in the order in which I chose it, unless the company no longer scores at least an 18.
Now, for a quick update on where the current companies stand:
My first selection was Abbott Laboratories. Once the company split into two on January 3, I sold the Abbott shares (then yielding only 1.8%) and reinvested in AbbVie shares (then yielding 5.0%). AbbVie paid out its dividend on February 15th. The company is currently trading at $42 per share, up 30% from where I bought it in December. AbbVie's rating is a mix of the ABT and ABBV metrics, and it now scores a 21. I added shares to ABBV on April 11 with the dividends paid to date, after I had made the final portfolio selection.
While I acknowledge that AbbVie is a new company and separate from Abbott, I believe that the management team will attempt to continue the same dividend growth strategy that Abbott has pursued. With that in mind, Abbott has a 40-year history of consistently raising dividends, and a 5-year DGR of 5.6%. The payout ratio is reasonable at 45%, and the company has returned 28% over the past twelve months, all while maintaining a P/E far below the S&P 500 at 9.2 Should AbbVie prove to follow a different dividend growth strategy, I will assess and remove it from my portfolio when it becomes necessary.
PartnerRe Limited was my second selection, and it paid a dividend on March 1st. It is currently trading at $91, up 11.7% from where I purchased.
Enterprise Products Partners paid a dividend on February 7th. It is trading at $60, up 20%. Enterprise Products has a 15-year history of raising dividends, and a 5-year DGR of 5.7%. The company tends to raise dividends more than once a year, and its 1Q dividend was an increase of 2% over the previous quarter. EPD has a twelve-month total return of 26.5%, and a payout ratio of 95%, which is typical for a pipeline operator. EPD's metrics have not changed significantly since I analyzed and selected it in December.
Cracker Barrel Old Country Stores paid a dividend on February 5th. It's trading at $81, up 25%. Interesting enough, Cracker Barrel's robust share price growth has brought its dividend yield down significantly, so I may consider replacing it at the next quarterly checkup.
Meredith Corporation paid its dividend on March 15th. It is trading at $37, and is up 9% since I picked it.
Lockheed Martin paid a dividend on March 29th, and is trading at $96, up only 2%. I believe that its low growth recently is due to the current uncertainty over defense spending due to the ongoing federal budget debates. Lockheed Martin is the only defense-industry company that I have selected, and I am still confident in it. The yield is great, the 5-year DGR is excellent at 22.9%, and the payout ratio is low enough (51%) that the company can suffer some degree of earnings growth decreases without having to cut the dividend.
Sunoco Logistics Partners is trading at $62, up 6%. It paid its dividend on February 14th. Sunoco is another pipeline Master Limited Partnership that pays out 90+ percent of its earnings by law, and it also is subjected to special tax provisions that make MLP dividends extremely attractive. Sunoco's 5-year DGR is 11.8%, and it is a company that raises its dividends multiple times during the year. The 1Q dividend was an increase of 5% over the previous quarter. Sunoco returned 68% over the past twelve months, and still sports a reasonable P/E of 14.6.
Williams Companies paid its dividend on March 25th. It is trading at $35, and is up 5%. Williams has been paying and raising dividends for 10 years, and its 5-year DGR is 29.2%. Its 1Q dividend was an increase of 4% over the previous quarter, and Williams is another company that tends to raise its dividend multiple times during the year (it is another pipeline operator). Williams has returned 23.8% over the past twelve months; its P/E is high, at 27, but I judged its other metrics sufficient, and decided I would rather buy now than wait for a potential pullback.
Leggett & Platt paid its dividend on April 15th but I purchased it too late to catch the 1Q dividend. It is trading at $32, which is where I bought a month ago.
The last company, Chevron was chosen last week. It paid its dividend on March 11th but of course I was too late for it as well. It is trading at $115, down 2%.
Overall the portfolio has 11.3% in unrealized gains and 0.8% in dividends since I began this project in early December 2012. (Don't forget that I missed the ex-dividend dates for 2 of the companies. Otherwise the dividends would amount to 1.1%.)
In comparison, the S&P is up 10.5% and has yielded approximately .5% in dividends.
My original goal with this portfolio was to achieve capital gains similar to those achieved by the S&P 500, as well as significantly better dividends.
At this point I am succeeding with my portfolio goals, although I realize this is a very short-term result. I plan to update the portfolio's progress every quarter after dividends are paid.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.
Additional disclosure: I am long all companies in this portfolio.