Cardinal Health, Inc. (CAH) provides health care products and services primarily in the United States. The company is a member of the Dividend Achievers index and has raised dividends for 21 years in a row. The company last raised its dividend by 11% to 21.50 cents/share in May 2010.
Over the past decade this dividend stock has delivered a total return of 1.40% per year.
Earnings per share have increased by 7.90% per year over the past decade. Since 2004 however the company has delivered no growth in earnings. The earnings picture is expected to further deteriorate in FY 2010 and FY 2011, as earnings per share are expected to contract to $2.21 and $2.44 respectively. The reason for the decrease in earnings include CareFusion Corp’s (CFN) spinoff, decrease in drug volumes due to the recession and a shift of significant amount of the drug volumes to fee-for-service compensation by most drug makers. Longer term drug volumes would increase, as the population ages and as millions of baby boomers will need increased medical attention. With increased penetration of low priced generic drugs being available in the market, revenues could be further depressed. One positive of generic drugs is that margins are higher in comparison to branded drugs. The problem is that the prices of generic drugs are much lower than prices for branded drugs.
The annual dividend per share has increased by a staggering 31.80% over the past decade, which was several times faster than the growth in earnings. The disconnect between earnings and dividend growth came as a result of the increase in the dividend payout ratio. If the company manages to maintain earnings per share at $3, the dividend could increase by 10% annually over the next decade and would still be adequately covered. The company has managed to double dividends every three and a half years on average since 1988.
Since reaching its highs at 20% in 2003, the return on equity has declined steadily. Any earnings reinvested back into the business have not led to increase in net income and might have even led to losses, which could be one reason for the decline in returns since 2003.
The dividend payout ratio has increased from 3% in 2000 to 19% in 2009. As the company’s earnings have stagnated in recent years, and given management’s recent history of dividend increases, I expect the company to share a greater proportion of its profits with shareholders in the form of dividends.
Right now the company is trading at a P/E ratio of 17 and yields 2.40%, with an adequately covered dividend payment. I view the stock as a hold. Cardinal Health is a prime example why investors should not purchase stocks with long history dividend growth on autopilot without doing any research. While the company could expand its payout ratio for the next decade until it reaches danger territory at 50%, and yields on cost could grow to 5% or 6%, without the ability to grow earnings per share, future dividend growth will be limited.