I-GARP Income Investment Strategy

Includes: JNJ, X
by: Clay King

One of my basic investment strategies is a method referred to as "growth at a reasonable price," or GARP as it is commonly called. This method can be utilized in any form of stock selection whether the selection concerns pure growth companies, or analyzing electric utilities. I use it for my stock selection, but as I am primarily an income oriented investor, I added an Apple (NASDAQ:AAPL) computer acronym to it, calling my method "income growth at a reasonable price," or I-GARP. In this article I will examine I-GARP's three components, income, growth and a reasonable price.


Most income investors know and understand the benefits of dividend investing. Study after study have shown the benefits of collecting dividends and the results that follow, usually superior performance. Over the last 20 years the S&P 500 Dividend Aristocrat Index has returned 11% compared to the return of the widely followed S&P 500 Index of 8.6%.

Ned Davis research found that stocks with at least five years of increasing the dividend payments outperformed the general market, as measured by the broad based S&P 500. The research covered the period from 1972 to 2008. The performance of this study is similar to the record of the dividend aristocrat sited above in that the research from Ned Davis found the dividend stocks returned annual gains of 8.9%, well above the 6.2% of the S&P 500 index.

A study by Jeremy Siegel, author of "Stocks for the Long Run," ranked the highest paying dividend stocks within the S&P 500 in the period from 1957 to 2002. He ranked the stocks within dividend quintiles and found that the highest yielding 20% of the dividend paying stocks produced an annual return of 14.2% against the return of 11.2% for the S&P 500. The study further found that the lowest quintile of dividend stocks underperformed the S&P 500 by 1.7%.

As a final note regarding the merits of income investing consider the following: According to Standard & Poor's, the dividend component was responsible for 44% of the total return of the last 80 years of the index ending 2010.


Without growth there can be no increase in dividends payments, unless a company cannibalizes itself through higher and higher payout ratios. However, the dividend growth investor soon understands that growth comes in many different packages, cyclical or steady, fast or slow, stable or speculative. It is here where the investor must undertake what level of the growth risk scale they wish to place themselves. There is a great deal of difference in investing in a company such as U.S. Steel (NYSE:X) and Johnson & Johnson (NYSE:JNJ). U.S. Steel earnings and stock price both possess wild volatility. Johnson & Johnson's earnings and stock price are less volatile. Examine below the monthly charts of both since 2004.

(Click to enlarge)

(Click to enlarge)

The volatility comparison between the two is evident and a peek at earnings of the two will make the volatility of the charts evident to the observer. U.S. Steel shares has made little progress over the time period while Johnson & Johnson stock is roughly 50% higher. Below is a comparison of the earnings and dividend history of the two.

Year U.S Steel EPS Johnson & Johnson EPS U.S Steel Dividend Johnson & Johnson Dividend
2001 -2.45 1.84 0.55 0.70
2002 .62 2.16 0.20 0.80
2003 -4.09 2.40 0.20 0.93
2004 8.37 2.84 0.28 1.10
2005 7.00 3.46 0.28 1.28
2006 11.18 3.73 0.25 1.46
2007 7.4 3.63 0.60 1.62
2008 17.96 4.57 1.1 1.80
2009 -10.42 4.40 0.45 1.93
2010 -3.36 4.78 0.20 2.11

In the table above we show an earnings history of U.S. Steel which ranges from a deficit of $10.42 a share to a high level of $17.96. The dividend drops from a $0.55 payout in 2001 to a lowly payout of $0.20 10 years later. Johnson & Johnson on the other hand has a steady growth in earnings from $1.84 to $4.78, well in excess of doubling. The dividend climbs from $0.70 to a $2.11 rate in 2010. Which company would one rather own for the next ten years? Patrick Henry said that the only way to judge the future was to know the past.

From our comparison of a highly cyclical company such as U.S. Steel with a steady earnings progression like that of Johnson & Johnson, we know which company to examine for the reasonable price part of I-GARP.

Reasonable Price Component of I-GARP

Reasonable price, of course, is just another way to express good valuation. There are many ways to determine if the shares of any company are reasonable, but all-in-all not a particular difficult task to determine whether or not a stock is considered over or under valued. A common tool used by many is the price earnings ratio. Other ways to measure the value of shares are dividend yield, book value, cash flow, or even the price to earnings ratio (PEG). For my own use, I primarily rely on the historical PE and yield range. Locating 10 plus years the history of the this data is available from many different sources. Practically all brokerage companies have reports available to their clients. Uainf Internet sites, such as bigcharts. com, one can obtain long term charts plotting the PE ratio and yield history. Much of this data is copyrighted so it cannot be posted here.

If one examines just the 10 year history of Johnson & Johnson's PE and dividend yield an opinion can be formed of the value, as shown in the table below.

Johnson & Johnson PE and Yield History
Year PE Range Yield Range
2001 22-33 1.15-1.75%
2002 19-30 0.6-0.9%
2003 19-25 1.6-1.9%
2004 17-24 1.7-2.25%
2005 17-20 1.8-2.1%
2006 15-20 2.1-2.6%
2007 15-20 2.35-2.7%
2008 11-16 2.5-3.5%
2009 11-16 2.9-4.1%
2010 12-14 3.2-3.7%

Currently Johnson & Johnson has a PE ratio of 15 and a forward PE estimate of 12. Based on both the current and forward PE of JNJ it is evident that the shares are priced at or below the ten year history. The current yield on JNJ is 3/6%. Only during 2009, at a major bear market low and in 2010 has JNJ yielded at these high levels. Again, one must conclude that the valuation is below the norm and as such the price is reasonably valued.


As an investment strategy to analyze and choose stocks for investment the GARP method has served as an excellent tool for investors. Calling it I-GARP simply makes it a specific tool for dividend income investors. My use of Johnson & Johnson is not meant to be nothing more than an illustration and not intended as a recommendation of JNJ shares at present, though one can tell that it meets the definition to be considered as a well-deserved I-GARP candidate.

Disclosure: I am long JNJ.