This article is the fourth installment in a 5 part series discussing stocks to purchase for retirement.
I believe the five stocks I will discuss in this series of articles are excellent for retirement given the following:
- Strong, appropriate yields that allow for comfortable living
- Excellent companies with superior economics and management
- Dividend growth that is in-line or outpacing real inflation (which I characterize as roughly 4%)
- Essentially no "blowout" risk (derivative, political, etc. types of exposure)
While some of these stocks may have yields that are a bit too low to have a large weighting in a retiree's portfolio, buying them a few years before you actually need the income will give you the double benefit of strong unrealized capital gains and a much improved yield on cost.
Becton Dickinson (BDX)
Becton Dickinson is a New Jersey based medical technology company that operates three major segments:
- Medical: Needles, syringes, IVs, insulin-injection devices, drug delivery systems (sold to pharmaceutical firms)
- Diagnostics: Systems; specimen collection, safety-engineered blood collection, etc.
- Biosciences: "Tools that facilitate the study of cells," information is used to aid in the discovery and development of new drugs and vaccines
The key takeaway I got in my research of BDX is the compelling economics of their business.
While their competitors are established in similar markets, each company has its own niches, and Becton Dickinson's is the syringe market with 70% of market share. While it is true that many of BDX's products are quite commoditized, BDX has been able to maintain strong sales due its trusted brand name.
Additionally, on a macro level, BDX's products have huge tailwinds. While healthcare has been a growth industry for decades, diabetes care is the new catalyst for BDX sales growth.
With a deep entrenchment in the insulin-injection market, BDX had $866 million in 2011 sales for its diabetes unit, up 10.6% from 2010. This unit is almost 25% of its massive medical segment, and is about 13% of total sales and growing. While 1 in 10 Americans currently have diabetes, as many as 1 in 3 could have the disease by 2050.
Additionally, BDX benefits from major pandemics like the H1N1 flu outbreak. Sales to hospitals spiked dramatically as a consequence. While unfortunate, a rapidly growing global population is likely to result in many outbreaks in my lifetime, and BDX stands to take advantage of the uptick in basic and advanced medical device demand.
Business performance has been exceptionally steady, mirroring a consumer staple company rather than a fiercely competitive, highly dynamic devices company.
Since 2007, revenues have increased every single year (recession-proof business model), with annualized average growth of 5.6%.
Fully diluted EPS has also grown nicely, catalyzed by both organic earnings growth and heavy share buybacks. The company has bought 8% of its outstanding stock since 2009, and has 28 million shares that can be repurchased under the current buyback program. Over the last 5 years, EPS have appreciated from $3.20 to $5.52, averaging 14.5% per year. While I don't expect EPS growth to grow at this rate over the next few years, high single digits EPS growth appears to be very likely.
2011 free cash flow was $1.2 billion.
While the trailing price to earnings multiple is 13.5, BDX's earnings understate the underlying cash flows. Price to FCF is 12.8, which is extremely reasonable. Considering the steady nature of Becton Dickinson's cash flows, we can conclude that BDX is at the very least trading at a fair value, and shareholders will likely see steady share price appreciation that coincides with underlying business growth.
Currently yielding 2.50%, BDX has increased its dividend at a rate of 13% annually over the last 5 years.
Considering BDX's ultra-low payout ratio based on FCF of 30%, in addition to its large buyback program, I expect BDX to continue to grow its dividend at a 10-13% rate for the next decade or two.
Retirement investors who purchase shares of BDX today will have a yield on cost of about 4% by year 5, a very reasonable source of income.
One Important Risk Factor
Unfortunately, beginning in 2013, current law (as stipulated in the Obama administration's ACA) will result in a 2.3% excise tax on the sale of certain medical device systems which BDX estimates is 80% of total sales. The market has presumably priced this in, but investors should in fact note this.
Should Mitt Romney be elected and the ACA subsequently be repealed, BDX would avoid about $150 million in extra taxes.