3M: A Dividend-Growth Investor's Dream

| About: 3M Company (MMM)

Summary

3M has an impressive history of both paying a dividend and raising its dividend.

Before buying 3M for its current and future dividends, consider whether fixed-income alternatives exist that may provide more income over your time horizon.

Just because a stock may be a dividend-growth investor's dream, doesn't alone make it suitable for your portfolio.

If you are looking to purchase equity in a corporate stalwart paying steady dividends that grow over time, 3M's (NYSE:MMM) stock is your dream come true. The company has so many products that it can't simply list them on one webpage. Instead, 3M has an alphabetized product catalog for you to peruse. It currently has a healthy balance sheet and has paid dividends without interruption for 98 years. Furthermore, 3M has raised its dividend for 56 consecutive years, and it plans to grow the dividend in-line with earnings growth over time. Speaking of earnings growth, 3M is targeting 9% to 11% EPS growth through 2017. What more could an income-focused investor want? How about a decent yield?

Based on the stock's recent closing price of $148.59, 3M's dividend yield is 2.30%. If you are one of those dividend-growth, income-focused investors who vows never to sell your dividend-growth stocks as long as the businesses are chugging along, you should take note of the opportunity cost of putting new money to work at today's yield. Even if 3M manages to grow its dividend at a 10% compounded rate, every year, over the next 10 years (something I'm not convinced it can do), an investor putting money in at the recent closing price of $148.59 would only have a 5.42% yield on cost after 10 years (year one is the original dividend, which doesn't include compounded growth). In fact, an investment paying a 4% fixed rate of income over the same time period would provide more income at the end of 10 years than 3M's current dividend growing 10% per year. Despite what you may read in the financial media, there are dozens of respectable investments one can currently make that will pay at least a 4% fixed rate of return over the next 10 years.

Moving along, let's pretend 3M can manage to grow its dividend at an impressive 10% compounded rate, every year, over 15 years (I'd bet against that). At the end of 15 years, an investor's yield on cost would grow to 8.73% (again, year one is the original dividend, which doesn't include compounded growth). On the surface, that looks great. But is it good enough to beat, say, a 5% fixed rate of income over the same time period? No, it is not.

In the unlikely event 3M manages to pull a rabbit out of its hat and grow its dividend at a 10% compounded rate, every year, over the next 20 years (I'd love to buy put options against that), the yield on cost, based on an investment at $148.59, would grow to 14.07% (again, year one is the original dividend, which doesn't include compounded growth). A 14.07% yield on cost is fantastic. Yet it still wouldn't be good enough to beat a 7% yielding security paying a fixed rate of return over the same time period. And remember that just as dividend-growth investors can reinvest dividends, so too can fixed-income investors reinvest distributions.

For readers who prefer visuals, I constructed the following three tables. They show the amount of income a hypothetical $30,000 investment in 3M would provide over 10-, 15-, and 20-year timeframes, and compare it to $30,000 investments in 4%, 5%, 6%, and 7% yielding securities.

 

$30,000 initial investment at ____% initial yield

Year

2.30%

4.00%

5.00%

6.00%

7.00%

1

$690.00

$1,200.00

$1,500.00

$1,800.00

$2,100.00

2

$759.00

$1,200.00

$1,500.00

$1,800.00

$2,100.00

3

$834.90

$1,200.00

$1,500.00

$1,800.00

$2,100.00

4

$918.39

$1,200.00

$1,500.00

$1,800.00

$2,100.00

5

$1,010.23

$1,200.00

$1,500.00

$1,800.00

$2,100.00

6

$1,111.25

$1,200.00

$1,500.00

$1,800.00

$2,100.00

7

$1,222.38

$1,200.00

$1,500.00

$1,800.00

$2,100.00

8

$1,344.61

$1,200.00

$1,500.00

$1,800.00

$2,100.00

9

$1,479.08

$1,200.00

$1,500.00

$1,800.00

$2,100.00

10

$1,626.98

$1,200.00

$1,500.00

$1,800.00

$2,100.00

Total

$10,996.84

$12,000.00

$15,000.00

$18,000.00

$21,000.00

After 10 years, 3M's dividend, despite its hypothetical annual 10% increase, lagged even the 4% yielding security.

 

$30,000 initial investment at ____% initial yield

 

Year

2.30%

4.00%

5.00%

6.00%

7.00%

1

$690.00

$1,200.00

$1,500.00

$1,800.00

$2,100.00

2

$759.00

$1,200.00

$1,500.00

$1,800.00

$2,100.00

3

$834.90

$1,200.00

$1,500.00

$1,800.00

$2,100.00

4

$918.39

$1,200.00

$1,500.00

$1,800.00

$2,100.00

5

$1,010.23

$1,200.00

$1,500.00

$1,800.00

$2,100.00

6

$1,111.25

$1,200.00

$1,500.00

$1,800.00

$2,100.00

7

$1,222.38

$1,200.00

$1,500.00

$1,800.00

$2,100.00

8

$1,344.61

$1,200.00

$1,500.00

$1,800.00

$2,100.00

9

$1,479.08

$1,200.00

$1,500.00

$1,800.00

$2,100.00

10

$1,626.98

$1,200.00

$1,500.00

$1,800.00

$2,100.00

11

$1,789.68

$1,200.00

$1,500.00

$1,800.00

$2,100.00

12

$1,968.65

$1,200.00

$1,500.00

$1,800.00

$2,100.00

13

$2,165.51

$1,200.00

$1,500.00

$1,800.00

$2,100.00

14

$2,382.06

$1,200.00

$1,500.00

$1,800.00

$2,100.00

15

$2,620.27

$1,200.00

$1,500.00

$1,800.00

$2,100.00

Total

$21,923.01

$18,000.00

$22,500.00

$27,000.00

$31,500.00

After 15 years, 3M finally beats the 4% yielding security, though it still trails the rest.

 

$30,000 initial investment at ____% initial yield

Year

2.30%

4.00%

5.00%

6.00%

7.00%

1

$690.00

$1,200.00

$1,500.00

$1,800.00

$2,100.00

2

$759.00

$1,200.00

$1,500.00

$1,800.00

$2,100.00

3

$834.90

$1,200.00

$1,500.00

$1,800.00

$2,100.00

4

$918.39

$1,200.00

$1,500.00

$1,800.00

$2,100.00

5

$1,010.23

$1,200.00

$1,500.00

$1,800.00

$2,100.00

6

$1,111.25

$1,200.00

$1,500.00

$1,800.00

$2,100.00

7

$1,222.38

$1,200.00

$1,500.00

$1,800.00

$2,100.00

8

$1,344.61

$1,200.00

$1,500.00

$1,800.00

$2,100.00

9

$1,479.08

$1,200.00

$1,500.00

$1,800.00

$2,100.00

10

$1,626.98

$1,200.00

$1,500.00

$1,800.00

$2,100.00

11

$1,789.68

$1,200.00

$1,500.00

$1,800.00

$2,100.00

12

$1,968.65

$1,200.00

$1,500.00

$1,800.00

$2,100.00

13

$2,165.51

$1,200.00

$1,500.00

$1,800.00

$2,100.00

14

$2,382.06

$1,200.00

$1,500.00

$1,800.00

$2,100.00

15

$2,620.27

$1,200.00

$1,500.00

$1,800.00

$2,100.00

16

$2,882.30

$1,200.00

$1,500.00

$1,800.00

$2,100.00

17

$3,170.53

$1,200.00

$1,500.00

$1,800.00

$2,100.00

18

$3,487.58

$1,200.00

$1,500.00

$1,800.00

$2,100.00

19

$3,836.34

$1,200.00

$1,500.00

$1,800.00

$2,100.00

20

$4,219.97

$1,200.00

$1,500.00

$1,800.00

$2,100.00

Total

$39,519.73

$24,000.00

$30,000.00

$36,000.00

$42,000.00

After 20 years, 3M finally has surpassed the 4%, 5%, and 6% yielding securities; though it would still trail a 7% yielding security.

For those who scoff at the idea of finding solid fixed-income investments yielding 5% or more in today's low-yield environment, I suggest broadening your investment expertise. Within the fixed-income universe, there are currently plenty of securities that are highly likely, over the next 10 to 20 years, to provide safety to your principal and fixed rates of return in excess of the dividends paid by 3M. I've written about some in the past and will write about others in the future.

For those dividend-growth investors who, after realizing they might not be making the best decision from an income perspective, suddenly decide that total return is their primary concern, I would counter with the following: If, as so many dividend-growth enthusiasts claim, you will never sell your stocks (as long as the business remains healthy), then you will never realize a direct monetary benefit from the potential unrealized capital appreciation of your investment. Therefore, income is in fact your top priority. And if income is your top priority, it pays to think about whether other investments might be more suitable for your portfolio. Yes, 3M's stock is a dividend-growth investor's dream. But that doesn't mean its 2.3% yield is right for your portfolio.

*Note: If 3M raises its dividend during your first year, it would change the calculations above slightly. But it doesn't change the gist of the article.

Disclosure: The author is long MMM.

The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.

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