For 2012, I made a New Year's resolution that I was going to invest in more yield. The reason is that I'm not confident in our markets ability to trade off fundamentals in 2012 because every economic factor that drove that markets lower during the last 6 months is still present. Our politicians are still unable to agree on any substantial budget cuts, and several European leaders have stated that 2012 will be similar to 2011. Therefore, I expect volatility to remain high and for the direction of the markets to change with every headline out of Europe. To protect myself, and my gains, I've decided to invest in more yield while still investing in value stocks that I believe have the potential for large gains.
In 2011, approximately 40% of my portfolio consisted of yield but in 2012 my portfolio consists of more than 65% of my holdings having yield. However, one area that I refuse to sacrifice is the potential for performance and I've made a conscious effort to avoid what I call "dead money." To better explain, I've included one stock that I've chosen to purchase and the reasons for why I purchased the stock over the more popular dividend investments.
When deciding on new investments, I wanted to purchase stocks that I believe have the potential to rise and present very little risk of falling, which means maximum reward and minimum risk. Stocks such as this can be difficult to find, but what I've noticed over the last 6 months is that investors have chosen to invest in stocks that provide services or products in which we must buy regardless of the economy. Therefore I purchased Church & Dwight Company (NYSE:CHD), which returns solid growth and creates products that will not decline regardless of what occurs in Europe.
Church & Dwight develops and manufactures some of the most common household and personal products, such as Arm & Hammer, First Response, Nair, OxiClean, and Trojan. The company is most commonly likened to a very small Procter & Gamble (NYSE:PG). The company doesn't have several billion-dollar brands, but it does have brands that are growing and are now a large part of consumers' daily lives.
I knew that I wanted to purchase shares in a company with services or products that would not fade regardless of the economy, and my first thought was Procter & Gamble, or even The Clorox Company (NYSE:CLX) or possibly Colgate-Palmolive Company (NYSE:CL). However, I talked myself out of both CLX and CL very quickly. The Clorox Company has several brands, but I don't believe its brands are as necessary to the consumer. They are also easily replaceable with generics. In addition, it trades with a high valuation for a stock in this industry and a very high debt-to-assets ratio, which is dangerous in a volatile economy.
Colgate-Palmolive creates a product that everyone must use -- toothpaste -- but it does face significant competition and it doesn't have substantial brand diversification; plus, it possesses significant debt, much like CLX. With these problems in both CL and CLX it was very easy to decide against an investment in either company.
People may think I'm crazy for choosing CHD over PG, however, PG is the "dead money" I was trying to avoid. It trades with a yield of 3.16, and has traded in a very tight range over the last five years, with a return of only 3.4% during this time period. Therefore, it doesn't present the stock performance that I seek in an investment, despite revenue growth of nearly $2 billion over the last 12 months compared to 2010. With PG I worry about costs and its ability to grow beyond its current valuation with increased competition from companies such as CHD. Over the last 12 months its net income has declined by nearly $300 million along with its margins throughout 2011.
I believe that Church & Dwight is the best stock in the personal and household products industry for growth, value, and security in 2012 and beyond. It's merely a fraction the size of PG, but has several brands, such as Arm & Hammer, Trojan, and First Response, that I can't imagine declining, but only growing larger. Therefore I have included a few reasons that I chose to make a large investment in CHD, and why I believe its growing much larger, while PG is simply staying put!
First, let's look at what investors care about most, stock performance. CHD has a 5 year average annual return of nearly 20% which includes a 33% return over the last year. It has increased its dividend by 425% during the last 5 years, compared to PG's 71% increase in its dividend during the same period, which is still good. Therefore, investors have been pleased with this under-the-radar stock, but its growth has a catalyst of fundamental growth that I believe will return much larger gains in the coming years.
Church & Dwight's fundamental gains have been superb for a consumer staple company, and its outlook for future growth is even better than its previous performance. The company's grown in nearly every measurable area over the last five years, which includes a rise in profit and operating margins each year. During the last 12 months the company grew revenue 4% while growing net income 8% compared to 2010 and achieved record free cash flow. And in the same period the company improved its balance sheet by a remarkable margin, which includes a decline from a 23% debt-to-assets ratio to just 8%, during its last quarter. This improvement is giving the company the financing and leverage to make acquisitions and better position itself for future growth; which is a major accomplishment considering its debt-to-assets ratio was nearly 45% in 2006.
The company is well positioned for future growth, better than any other company within its industry, because of a strong balance sheet and improved fundamentals. The company achieved growth in all but one of its brands which is being led by its Arm & Hammer liquid detergent and its First Response brands. However, despite its growth the company's continues to be centralized and is yet to reach its full potential throughout the U.S. or in emerging markets.
The company plans to open a new facility in southern California during the first 6 months of 2012, which will improve its supply chain and increase both its margins and sales in several highly populated areas. In addition, the company recently purchased BATISTE Dry Hair, which returns 85% of its revenue from the U.K.; therefore, this acquisition should increase its position within the U.K. BATISTE is a fast growing company with a 90% compound average growth in net sales over the last four years, and most likely CHD will expand the BATISTE brand in the U.S.
I believe that CHD is the best in the industry with the most amount of upside. It's already returned large gains to investors, but with a market capitalization of just $6.5 billion there appears to be significant room to grow. The company's grown in just about every fundamental area and already returns the highest revenue per employee of any other CPG company. The possibilities seem limitless, and with recent acquisitions and aggressive expansion, I expect a substantial gain in 2012, and I wouldn't be surprised if 10 years from now we aren't talking about a company that's significantly competitive to PG's market share.
All fundamental data was obtained from Yahoo and Google Finance. All information regarding future plans and growth in previous years was obtained from earning reports.
Disclosure: I am long CHD.