Why We Feel that Avery Dennison is Over-Valued

| About: Avery Dennison (AVY)

The stock we are analyzing today is Avery Dennison Corporation (NYSE:AVY), which trades on the NYSE.

Company Profile:

From Yahoo Finance

Avery Dennison Corporation produces pressure-sensitive materials, office products, tickets, tags, labels, and other converted products. It operates in three segments: Pressure-Sensitive Materials [PSM], Office and Consumer Products [OC], and Retail Information Services [RIS].

AVY has a market capitalization of $7.22B.

Company Fundamentals:

As is my usual custom, I like to begin my analysis with the return on invested capital. This allows me to see how effectively management is able to invest in the operations. AVY has done a good job. It has consistently produced an ROIC above 10% over the last 10 years, and its 5-year average ROIC is 12.6%.

Its return on equity has returned even better results. With a 10-year average ROE of 25.08%, and a 5-year average ROE of 22.2%, management has done a very good job of leveraging its debt. And in AVY's case that total debt is 39.5% of capital.

Its equity growth rate has been fairly steady if not spectacular over the last 10 years with a rate of 9.81%. Over 5 years, the equity growth rate is better at 12.61%, and in 2006, its equity growth rate was 12.75%.

Its earnings per share growth rate has also been more steady than spectacular. With an EPS growth rate of 6.38% over the 10-year period, there is nothing to get too excited about. But slow and sure can win the race as well!

Its sales growth rates have been very low over the past 2 years at 2.48%, and 1.87% respectively. This is definitely a concern. Its not like they were spectacular to start with either with a sales growth rate of 6.41% over the 10-year period.

From the fundamentals, I would expect that this is not a large dividend grower even if it has raised its dividends consistently for the last 25 years.

Dividend Fundamentals:

AVY currently sports a dividend yield of 2.34%. This seems average in today’s market with the DJIA delivering a dividend yield of 2.26%.

However, AVY has had rather anemic dividend growth. Although the 9-year average is respectable at 8.79%, it has gotten progressively worse. The 5-year average is 4.75%, the 3-year average is 2.69%, and last year’s dividend growth rate was 2.61%. Basically looking at a dividend growth that keeps up with inflation.

Its cash flow growth rates have been pretty low as well as AVY shows 5.26% over the last 10 years. However, unlike the dividend growth rate, its cash flow growth rates have grown over the years, and this is encouraging. The 5-year rate is 6.15%, the 3-year rate is 7.83%, and last year’s cash flow growth rate was 7.26%.

The dividend payout ratio has remained quite steady over the past 10 years and currently sits at 41.53%.

Valuation Models:

As you know, I have 3 valuation models that I like to use when trying to determine if the stock is currently at a fair price.

From a dividend yield perspective, AVY is currently at the low end of the spectrum. Over the last 5 years, the average high dividend yield has been 2.89%. If I demand that dividend yield, then the most I would be willing to pay for AVY is $55.34. At the current price of $68.49, that is a premium of 23.75%.

The Graham number also shows the stock being overvalued. The Graham number is $38.48 and that means a premium of 78%.

For the discounted present value method, I used the following assumptions:

  • A future P/E of 17.79 (current P/E which is lower than both the 10 year average P/E and 5 year average P/E).
  • A future EPS growth rate of 9.81% (9-year average equity growth rate and this is more conservative than the analysts forecast of 10.5%).
  • A dividend yield of 2.89%.
  • A future dividend growth rate of 2.61% (last year’s dividend growth increase).
  • Using these inputs, my model price is $57.54 which means a premium of 19%. Of course, at this price, I would not be earning my 2.89% dividend yield since that would mean a purchase price of $55.34.

    View my AVY calculations.

    Here is the 1 year stock price chart:

    click to enlarge
    AVY Chart

    As you can see, AVY has had a healthy run. In fact, we would have purchased it around our yield model price in June 2006.


    I do not believe that Avery Dennison Corporation belongs in a superior dividend yielding portfolio. The fundamentals are rather lackluster, the dividend growth just keeps up with inflation, and all 3 models have shown this stock to be over-valued.

    Full Disclosure: I do not own any shares in AVY.