Published by Bob Ciura on June 17th, 2017
The Dividend Aristocrats are among the highest quality, blue-chip dividend stocks investors can find.
These are stocks in the S&P 500 Index that have raised their dividends for at least 25 consecutive years. There are currently 51 companies on the list of Dividend Aristocrats.
One of them is healthcare giant Medtronic (NYSE:MDT), which has raised its dividend for an impressive 39 years in a row.
Even better, the company has raised its dividend by an average rate of nearly 20% annually over the course of those 39 years.
This makes Medtronic a great candidate for dividend growth investors.
Medtronic has paid four unchanged quarterly dividends in a row. The company typically announces its annual dividend raise during the last week of June, which means it's almost time for another increase.
This article will discuss Medtronic's business model, growth prospects, and how much the company might raise its dividend this time around.
Medtronic is in the medical devices industry. It operates four segments, which are cardiac and vascular, restorative therapies, minimally invasive therapies, and diabetes.
The company is diversified both in terms of business focus and geographic markets.
Source: 2017 Bernstein Annual Strategic Decisions Conference, page 4
The Cardiac and Vascular Group is Medtronic's largest segment. Its product categories include Cardiac Rhythm & Heart Failure, Coronary & Structural Heart, and Aortic & Peripheral Vascular products.
Medtronic's leadership across its various product categories, and its diversification, leads to steady growth. For example, in fiscal 2016, Medtronic's adjusted earnings-per-share rose by 2%.
The company recently wrapped up fiscal 2017, and the results were even better than last year's.
Organic revenue, adjusted for currency exchange, increased 5% in the fiscal fourth quarter and the full fiscal year. Diluted earnings-per-share increased 17% for the year, thanks to revenue growth and cost cuts.
Adjusted earnings-per-share, which excludes currency fluctuations and other non-recurring items, rose 11% to $4.60.
All four operating segments generated growth in fiscal 2017, led by 4% organic growth in the Minimally Invasive Therapies Group.
Diabetes group revenue also rose 4% last year, while the CVG segment posted 3% revenue growth.
The key growth catalysts for Medtronic moving forward are its product pipeline, acquisitions, and growth in new geographic markets.
First, Medtronic has invested heavily in its product pipeline. Thanks to this investment, the company enjoys a robust product lineup which will generate future growth.
Source: 2017 Bernstein Annual Strategic Decisions Conference, page 9
Next, Medtronic is set to grow through acquisitions. The biggest purchase for the company over the past several years was the $43 billion takeover of Covidien in 2015.
With overlapping operations across several functions, including suppliers, manufacturing, and distribution, Medtronic has been able to generate significant cost savings from the acquisition.
In fiscal 2017, Medtronic realized synergies of $600 million. Synergies are expected to total another $250 million-$275 million this year, for a total of more than $850 million in two years.
Source: 2017 Bernstein Annual Strategic Decisions Conference, page 20
The company expects synergy benefits to be felt through fiscal 2021.
Another catalyst for Medtronic is growth from new markets. Medtronic has increased emerging-market revenue by 10% each year, going back several years.
It has a significant presence in several attractive emerging markets, including China, which accounts for 40% of the company's emerging market revenue.
Source: 2017 Bernstein Annual Strategic Decisions Conference, page 14
Last fiscal year, the emerging markets far outperformed Medtronic's other geographic segments. While U.S. revenue increased 1% for the year, emerging market revenue increased 9%.
The emerging markets now account for $4 billion of revenue for the company, which represents 14% of total sales.
Thanks to these three growth catalysts, Medtronic expects fiscal 2018 to be another year of growth.
In fiscal 2018, the company expects constant-currency revenue growth of 4%-5%. Adjusted earnings-per-share growth is expected in a range of 9%-10% this fiscal year.
Competitive Advantages & Recession Performance
One of the factors that has fueled Medtronic's impressive dividend growth is the company's competitive advantages.
Medtronic's first competitive advantage is its intellectual property. The company possesses more than 50,000 patents.
It has built such a huge patent portfolio thanks to significant research and development spending. Medtronic utilizes billions of dollars each year for R&D:
- 2014 R&D expense of $1.5 billion
- 2015 R&D expense of $1.6 billion
- 2016 R&D expense of $2.2 billion
A $2 billion R&D budget enables innovation, which is necessary to design and deliver new products. Intellectual property is a huge barrier to entry and keeps competitors at bay.
Medtronic also enjoys the benefits of scale. It is a "mega-cap" stock with a market capitalization of $120 billion. Such a huge size allows Medtronic to make large acquisitions and leverage its scale to cut costs.
In addition, the company's deep pockets and strong financial position give it the ability to raise capital at attractive rates.
These competitive advantages provide Medtronic with a highly profitable business model and stable earnings each year.
Medtronic was a rare example of a company that grew earnings-per-share in each year during the Great Recession:
- 2007 EPS of $2.61
- 2008 EPS of $2.92 (12% increase)
- 2009 EPS of $3.22 (10% increase)
- 2010 EPS of $3.37 (5% increase)
This shows how Medtronic benefits from a recession-resistant business model.
Medtronic has a current annualized dividend payout of $1.72 per share. It has a current dividend yield of approximately 2%.
It has grown its dividend impressively for several years. Last year's dividend increase was a healthy 13%.
Source: 2017 Bernstein Annual Strategic Decisions Conference, page 24
Medtronic's dividend is highly secure, thanks to the company's earnings power. Based on fiscal 2017 adjusted earnings-per-share, Medtronic has a payout ratio of 37%.
Another factor underpinning Medtronic's dividend is the company's strong balance sheet. Medtronic receives a credit rating of 'A' from Standard & Poor's, and 'A3' from Moody's.
A low payout ratio, along with expected earnings growth this fiscal year, provide all the justification Medtronic needs for another strong dividend increase in 2017.
For example, if Medtronic increased its dividend by 10%, the new dividend payout would be approximately $1.89 per share.
If the company's earnings guidance proves accurate, fiscal 2018 adjusted earnings-per-share are likely to reach $5.01-$5.06 per share.
This means a new dividend rate of $1.89 per share would remain below 40%.
Medtronic has increased its dividend for 39 years in a row and is virtually guaranteed to make it 40 in a matter of weeks.
Medtronic expects double-digit earnings growth in the current fiscal year, which means it could pass along a double-digit dividend increase and not raise the payout ratio.
As a result, Medtronic investors can expect the company to raise its dividend by 10%-15% toward the end of June.