Performance and sustainability - that's what investors in Dividend Growth Stocks are looking for. It's very easy to find stocks with a yields greater than 10%, but how many of those will be able to sustain or grow their dividend over 10, 5 or even 3 years? Also, it doesn't take much effort to find a company that can sustain and grow its dividend because it is only paying a nominal amount (low yield and low payout).
When picking stocks there is no such thing as a "sure thing." All stocks carry risk and uncertainty. However, there are metrics we can look at that help us to reduce our portfolio's risk by selecting high-quality stocks.
In search for 5-Star stocks, here are the metrics I look at:
I look at five measures of fair value: 1.) Avg. High-Yield Price, 2.) 20-Year DCF Price, 3.) Avg. P/E Price, 4.) Graham Number and 5.) NPV MMA Price. Of the first four, the highest and lowest fair values are excluded, and the remaining two calculations are averaged to calculate the Mid-2 price. Then, I weight it with the NPV MMA Price to determine the calculated fair value. (More Info) A Star is awarded if the stock is trading at a fair value.
2. Free Cash Flow Payout
Dividends are paid in cash, not earnings, FFO, EBIT, EBITDA or EPS. To pay a meaningful dividend, a company must generate sufficient free cash flow. A Star is awarded if the Free Cash Flow Payout is less than 60% and there were no negative free cash flows during the last 10 years.
3. Debt-to-Total Capital
If a company generates significant cash, it may still be hampered to pay a meaningful dividend if the cash must be used to pay down debt. Having less debt provides a company more financial flexibility. A Star is awarded if the Debt-to-Total Capital is less than 45%.
4. NPV MMA Diff.
The value calculated is the net present value (NPV) of the difference between the dividend earnings of this investment and the interest income from the MMA over 20 years. We must always consider if there are better/safer options. A Star is added for an amount in excess of the target amount.
5. Key Metrics
"Dividend Growth Rate", "Years of Div. Growth", "Rolling 4-yr Div. > 15%" and "Years to >MMA" are considered Key Metrics. I have found that great dividend growth companies have scored well in each of these metrics. A Star is awarded if 2 of the 4 Key Metrics are true.
A 5-Star Dividend Stock scores well in each of these metrics. This week, I screened my dividend growth stocks database for select 5-Star stocks with a yield of 2.5% or more. The results are presented below:
ACE Limited (NYSE:ACE) is a specialty insurer that provides commercial insurance and reinsurance for a diverse group of international clients. In July 2008, ACE domesticated its holding company to Switzerland from the Cayman Islands. The company has paid a cash dividend to shareholders every year since 1993, and has increased its dividend payments for 21 consecutive years. Yield: 2.5%
Texas Instruments Inc. (NYSE:TXN) is one of the world's largest manufacturers of semiconductors. This company also produces scientific calculator products and DLP products for TVs and video projectors. The company has paid a cash dividend to shareholders every year since 1962, and has increased its dividend payments for 11 consecutive years. Yield: 2.5%
Microsoft (NASDAQ:MSFT), the world's largest software company, develops PC software, including the Windows operating system and the Office applications suite. The company has paid a cash dividend to shareholders every year since 2003, and has increased its dividend payments for 12 consecutive years. Yield: 2.7%
Raytheon Company (NYSE:RTN), the world's sixth-largest military contractor, specializes in making high-tech missiles, advanced radar systems and sensors, defense electronics, and missile-defense systems. The company has paid a cash dividend to shareholders every year since 1964, and has increased its dividend payments for 10 consecutive years. Yield: 2.7%
Cisco Systems, Inc. (NASDAQ:CSCO) offers a complete line of routers and switching products that connect and manage communications among local and wide area computer networks employing a variety of protocols. The company has paid a cash dividend to shareholders every year since 2011, and has increased its dividend payments for 4 consecutive years. Yield: 3.1%
As with past screens, the data presented above is in its raw form. Some of the companies would be disqualified for poor business fundamentals. However, some of the others may be worth additional due diligence.
My database, D4L-Data, is an Open Office spreadsheet containing more than 20 columns of information on the 250+ companies that I track. The data is sortable, and has built-in buttons and macros to make it easy to use. Companies included in the list are those that have a history of dividend growth. The D4L-Data spreadsheet is a part of D4L-Premium Services, and is updated each Saturday for subscribers.
Full Disclosure: Long MSFT, RTN, CSCO. See a list of all my dividend growth holdings here.
Disclosure: The author is long MSFT, RTN, CSCO. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it. The author has no business relationship with any company whose stock is mentioned in this article.