In this article I have identified five 'dream stocks' to which I have applied my unique analysis to show why income investors should be investing in these stocks in preference to other income producing assets. To quickly recap, we have seen both bond yields and cash yields drop to close to all time lows, which is having a significant impact on the income that many investors’ portfolios are producing. Yet overall blue chip stocks are paying dividend yields that are greater than current bond yields and many are also trading at a discount when earnings yields are considered in comparison to bond yields. Going into 2012, I think all of the companies below could play a role in a great income portfolio. As always the stock analysis presented in this article should be used as a starting point for conducting your own due diligence.
Wal-Mart Stores Inc (WMT)
Wal-Mart is a world-wide operator of variety and department stores offering a broad range of consumer products including meat, produce, personal care items and groceries. It operates stores in the United States, Puerto Rico, Canada, Central and South America, Japan, the United Kingdom, China, and India. It is the largest company in the discount and variety stores industry with a market cap of $205 billion. Its 52 week trading range is $48.31 to $60 and it is currently trading at close to its 52 weeks peak, at around $60 with a price to earnings ratio of 13.
The poor global economic outlook has lead to a significant drop in consumer discretionary spending and this has had a direct impact on department stores net income, and this has been no different for Wal-Mart. For the third quarter 2011, Wal-Mart reported a 1% rise in earnings to $110 billion, from second quarter earnings of $109 billion. However, net income for the same period dropped by 13% to $3.3 billion. For the third quarter 2011 Wal-Mart also saw its balance sheet weaken, with cash and cash equivalents dropping by 13% to $7 billion from $8 billion in the second quarter. However, Wal-Mart’s long-term debt decreased by 1.2% for this period to $47.9 billion, from $48.5 billion in the second quarter.
Wal-Mart compares well to its competitors. Its quarterly revenue growth of 8% is greater than Target’s (TGT) 5% and its solid return on equity of 24% is greater than Target’s 20% and Costco’s (COST) 12%. Wal-Mart also has the sixth highest profit margin in its industry at 3% and this is double Costco’s profit margin of 1.5%. It also has the highest earnings per share for its industry segment at 96 cents, beating both Target’s 82 cents per share and Costco’s 73 cents per share.
One of the characteristics of a good income generating stock is a relatively stable stock price, which provides you with the opportunity for moderate capital growth coupled with a solid income yield. Despite Wal-Mart’s decreased balance sheet cash it still has a moderate debt to equity ratio of 0.83 and a book value per share $20.71. All of which indicate that despite the 13% decrease in cash and cash equivalents, the company has a solid balance sheet. Wal-Mart also has a beta of 0.46 indicating that its stock price is relatively stable and substantially less volatile than the market. It also has an earnings yield of 8%, which is more than triple the current ten year bond yield, which I believe indicates the stock is unfairly discounted.
Another key characteristic is a consistent history of dividend payments and Wal-Mart doesn’t disappoint on this either. Since 1996 it has been consistently paying a steadily increasing dividend, increasing by 1,300% in value over that period. It currently pays an annual dividend of $1.46 per share, which is a yield of around 2.5%, and this is marginally higher than the current ten year bond yield of around 2%. With a solid balance sheet and increasing earnings there is every indication that Wal-Mart will be able to maintain its dividend yield and for all of the reasons considered, I believe that Wal-Mart justifies further investigation and analysis.
General Mills Inc (GIS)
General Mills with a market cap of $26 billion is the largest listed US manufacturer and marketer of branded consumer foods worldwide. It also supplies branded and unbranded food products to the food service and commercial baking industries. General Mills has a 52 week trading range of $34.54 to $40.72 and is trading at close to its 52 week peak, at around $40. It has a price to earnings ratio of 17.
The sluggish global economy coupled with lower consumer discretionary spending has had a direct impact on both the earnings and margins of consumer foods producers, although it has not been as severe for the processed and packaged foods industry as many of their products have relatively inelastic demand. General Mills reported a 6% increase in third quarter 2011 earnings to $3.8 billion, from second quarter earnings of $3.6 billion. For the same period it saw a 27% increase in third quarter net income, reporting $406 million up from $320 million for the second quarter. Its balance sheet was weaker in the third quarter, with cash and cash equivalents decreasing by 45% to $338 million, from $620 million in the second quarter. However, much of this decrease can be attributed to the company’s expenditure on a share repurchase program in 2011.
General Mills stacks up well when compared to its competitors, having quarterly revenue growth of 13.7%, which is greater than Kellogg’s 4.3% (K) or ConAgra Food’s (CAG) 8%. Its solid return on equity of 23% is greater than ConAgra Food’s 15%. General Mill’s also has a profit margin of 10%, which is higher than both Kellogg’s 9% and ConAgra Food’s 5%, as well as being the sixth highest profit margin in its industry.
The company has a history of consistently paying a steadily rising dividend since 1996 and the current annual dividend payment per share is $1.22 represents an increase of 144% since then. In addition, the company’s dividend yield is around 3% and this is currently greater than ten year bond yields. General Mills stock price also has very low volatility, with a beta of only 0.16, implying that the risk of capital loss is quite minimal and it should experience substantially less volatility than the stock market as a whole. I also believe that General Mills earnings yield of 6% indicates that it is trading at a discount in comparison to bond yields. Accordingly, when all of this is considered I believe that General Mills warrants further investigation and analysis.
Kimberly-Clark Corporation (KMB)
Kimberly-Clark is the third largest manufacturer in the US personal products industry with a market cap of $29 billion. It manufactures and markets health care products worldwide, selling its household use products directly and through wholesalers to supermarkets, mass merchandisers, drugstores, department stores, and retail outlets. Kimberly-Clark has a 52 week trading range of $61 to $73.76 and is trading at close to its 52 week peak at around $73. At its current price it is trading at an earnings multiple of around 17.
Despite the subdued global economy and lower consumer discretionary spending Kimberly-Clark has reported a 2% increase in third quarter 2011 earnings to $5.4 billion, from second quarter earnings of $5.3 billion. For the same period the company’s net income rose by 6% to $432 million and its balance sheet strengthened, with cash and cash equivalents rising by 29% to $1.2 billion. However, long-term debt remained steady at $5.4 billion.
In comparison to its competitors Kimberly-Clark is performing quite strongly. It has a solid return on equity of 29%, which is greater than both Procter & Gamble’s (PG) 18% and Revlon’s (REV) -42%. It also has a solid profit margin of 8%, which is the seventh highest in its industry and is higher than Avon Products’ (AVP) 6% and Revlon’s 0%. Kimberly-Clark’s dividend yield of 4% is the fifth highest in its industry and it is greater than both Procter & Gamble’s 3% yield and Colgate-Palmolive’s (CL) 2.5% yield. It has consistently paid a dividend that has steadily risen in value since 1996, increasing by 204% to a current annual dividend per share of $2.80. Kimberly-Clark’s current dividend is a yield of 4% and this is almost double current bond yields. In addition, with increasing net income and a substantial increase in balance sheet cash there is no reason why Kimberly-Clark can’t continue to sustain its current dividend.
The company’s stock price is also quite stable with a beta of 0.31, which indicates that its price movements as whole will be substantially less volatile than the markets, indicating that it is a good defensive stock. It also has an earnings yield of 6%, which in comparison to bond yields leads me to believe that it is unfairly valued at this time. When all of these factors are considered, Kimberly-Clark presents as a stable solid income generating stock that is a strong candidate for further research and analysis, to determine whether it is a worthwhile addition to your investment portfolio.
Kellogg Company (K)
Kellogg’s manufactures and markets ready to eat cereal and convenience food products primarily in North America, Europe, Latin America, and the Asia Pacific. It is the second largest company in the processed and packaged goods industry after General Mills with a market cap of $18 billion. It has a 52 week trading range of $48.10 to $57.70 and is trading at around $50, with a price to earnings ratio of 16.
As with many consumer products producers, Kellogg's has felt the impact of the poor global economy and lower consumer discretionary spending, reporting a 3% drop in third quarter 2011 earnings to $3.3 billion from $3.4 billion in the second quarter. It has also seen in the same period a 15% drop in net income to $290 million. However, the company was able to strengthen its balance sheet during the third quarter with cash and cash equivalents increasing by 27% to $582 million, from $457 million in the second quarter.
In comparison to its competitors Kellogg's stacks up quite well with a solid return on equity of 52%, which is the third highest in its industry. This return on equity is greater than General Mills’ return on equity of 24% and ConAgra Foods’15%. It also has a profit margin of 9%, which is the ninth highest in its industry and higher than ConAgra Foods’ 5%. Kellogg’s current dividend yield of 3% is the fifth highest in its industry and this is greater than General Mills’ 3% dividend yield.
Kellogg’s has consistently paid a steadily rising dividend since 1996, increasing by 112% in value over this period to $1.72 per share. Kellogg’s dividend yield is also greater than current bond yields and with a beta of 0.41 the stock is substantially less volatile than the market. However, with a debt to equity ratio of 2.64, I feel the company is heavily leveraged and if we were to experience a further slowdown in the economy Kellogg's may be forced to reduce its dividend payment in order to continue servicing its debt. On this basis I believe there are better income generating stocks in which to invest and I do not feel that the company is worthy of further analysis.
AT&T Inc (T)
AT&T with a market cap of $177 billion is the largest domestic telecommunications company in the US. It provides both wireless and wireline telecommunication services and related equipment to business and retail consumers within the US and internationally. It has a 52 week trading range of $27.20 to $31.94 and is trading at close to its 52 week peak, at around $30, with a price to earnings ratio of 15.
A near recessionary global economy coupled with corporate cost cutting and lower consumer discretionary spending has had a direct impact on both the earnings and margins of telecommunications companies and this is no different for AT&T. It reported a 1.6% decrease in third quarter 2011 earnings to $31 billion, from second quarter earnings of $31.5 billion. However, it has seen a 3% rise in third quarter net income, reporting $3.6 billion up from $3.5 billion for the second quarter. Its balance sheet strengthened in the third quarter with cash and cash equivalents increasing by a massive 184% to $10.8 billion, from $3.8 billion in the second quarter.
The company also stacks up well when compared to its competitors, having quarterly revenue growth of 10%, which is higher than Verizon Communications (VZ) 8%. It also has the fourth highest profit margin in its industry of 12%, which is more than double Verizon’s profit margin of 5%. In addition, AT&T’s has the fourth highest earnings per share in its industry of 61 cents per share and this is 24% higher than Verizon’s 49 cents per share.
To determine whether AT&T truly is a dividend stalwart it is important to get a handle on its dividend payment history and here AT&T doesn’t disappoint. It has consistently paid a steadily rising dividend since 1996. Since that time its dividend has risen in value by 105%, with AT&T now paying an annual dividend of $1.76 per share. This is a highly attractive dividend yield of 6% that is almost triple current ten year bond yields. This presents a compelling reason for income hungry investors to invest in this stock. AT&T also has a strong balance sheet with a conservative debt to equity ratio of 0.63, which when combined with increased third quarter net income shows that AT&T is in a position to sustain current dividend payment. The stock’s price it also relatively stable with a beta of only 0.55, which means it should be less volatile than the market reducing the risk of capital losses. Finally AT&T appears to be unfairly discounted with an earnings yield of 7%, which is more than triple the current ten year bond yield. For all of these reasons I would have no hesitation in utilizing AT&T as an income generating stock especially given its potential for further growth coupled with a current dividend yield of 6%. For all of these reasons AT&T certainly warrants further research and analysis.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.