The Dividend Champions Are Not 'Fair To Cheap'

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Includes: ABM, ADP, AOS, APD, BDX, BF.B, BMI, BMS, BRC, CL, CLX, CSL, CSVI, CTAS, DCI, DOV, ECL, EMR, FELE, FUL, GD, GPC, GRC, GWW, HRL, ITW, JKHY, JNJ, KMB, KO, LANC, LEG, LOW, MCD, MDP, MDT, MGRC, MKC, MMM, MO, MSA, NC, NDSN, NKE, NUE, PEP, PG, PH, PM, PNR, PPG, PX, RAD, ROP, RPM, SCL, SHW, SON, SPY, SWK, SYK, SYY, T, TDS, TGT, TNC, TR, UVV, VFC, VOO, WBA, WEYS, WMT, WST
by: Nick Mackintosh
Summary

A quick rebuttal of a recent article which used the forward PE of the S&P 500.

I spent 3 hours data-mining the holy grail for dividend growth investors, the CCC List by David Fish.

These companies represent high investor standards due to their quality.

A recent article from Ploutos, titled Forward P/E Says Stocks Now Fair To Cheap, used Bloomberg estimates for the next four quarters and compared it to historic data from January 1990.

I had a problem with this and commented saying so, though my opinion is kind of worthless without data to back it up right? This article is the result of me believing it to not be the case, and having to do the work to prove it. Most of you could argue that because I’m using a different dataset, it doesn’t disprove Ploutos article. In my defense, most of the 69 companies are actually in the S&P 500, are of the highest quality to an investor, and if we get an average free cash flow of 16.66 or below, we can agree to his statement.

If you’re a passive investor who uses indexes like the Vanguard S&P 500 ETF (VOO) or the SPDR S&P 500 Trust ETF (SPY), then you wouldn’t care too much about its forward price-to-earnings as you would most likely be averaging using a monthly order. However, it’s interesting for people like myself, who use a hands-on approach as we’re looking for stocks that actually ARE cheap that could outperform the S&P 500.

Before looking at the data below, be aware there are no financials, energy, or utility stocks in the list due to erratic earnings from a year-to-year basis.

Company Name Ticker Industry Yrs Price CapFlow CROIC FCF Yield Score FCF PS P/FCF FV Price Fw Div Yield
3M Company MMM Conglomerate 60 $214.33 22% 21% 4% 2 $7.94 26.99 $119.10 2.51%
A.O. Smith Corp. AOS Industrial Equipment 25 $63.58 29% 11% 2% 1 $1.33 47.80 $19.95 1.12%
ABM Industries Inc. ABM Business Services 51 $32.56 950% -2% -3% 0 -$0.88 -37.00 -$13.20 2.15%
Air Products & Chem. APD Chemical-Specialty 36 $161.61 42% 11% 4% 0 $6.67 24.23 $100.05 2.70%
Altria Group Inc. MO Tobacco 48 $63.84 4% 17% 4% 2 $2.46 25.95 $36.90 4.36%
AT&T Inc. T Telecommunications 34 $35.25 53% 7% 8% 1 $2.99 11.79 $44.85 5.59%
Automatic Data Proc. ADP Business Services 43 $115.58 25% 25% 3% 2 $3.28 35.24 $49.20 2.17%
Badger Meter Inc. BMI Industrial Equipment 25 $46.15 30% 13% 3% 2 $1.21 38.14 $18.15 1.12%
Becton Dickinson & Co. BDX Medical Instruments 46 $222.11 29% 6% 4% 1 $8.14 27.29 $122.10 1.34%
Bemis Company BMS Packaging 34 $44.33 50% 7% 5% 0 $2.07 21.42 $31.05 2.81%
Brady Corp. BRC Business Services 32 $37.55 10% 16% 7% 3 $2.50 15.02 $37.50 2.19%
Brown-Forman Class B BF.B Beverages-Alcoholic 34 $55.55 20% 16% 3% 2 $1.41 39.40 $21.15 1.42%
Carlisle Companies CSL Rubber and Plastics 41 $98.48 35% 7% 5% 1 $4.67 21.09 $70.05 1.50%
Cintas Corp. CTAS Business Services 35 $170.14 30% 12% 3% 1 $5.41 31.45 $81.15 0.95%
Clorox Company CLX Cleaning Products 40 $126.39 23% 31% 4% 2 $5.61 22.53 $84.15 3.02%
Coca-Cola Company KO Beverages-Non-alcoholic 55 $43.99 24% 11% 3% 1 $1.26 34.91 $18.90 3.55%
Colgate-Palmolive Co. CL Personal Products 54 $71.38 18% 38% 4% 2 $2.81 25.40 $42.15 2.23%
Computer Services Inc. OTCQX:CSVI Technology-Services 46 $46.75 28% 21% 5% 2 $2.57 18.19 $38.55 2.76%
Donaldson Company DCI Industrial Equipment 31 $44.36 27% 13% 3% 1 $1.49 29.77 $22.35 1.62%
Dover Corp. DOV Machinery 62 $93.55 24% 8% 4% 1 $3.96 23.62 $59.40 1.99%
Ecolab Inc. ECL Cleaning Products 26 $140.65 42% 8% 3% 0 $4.16 33.81 $62.40 1.16%
Emerson Electric EMR Industrial Equipment 61 $67.08 25% 12% 3% 1 $2.24 29.95 $33.60 2.87%
Franklin Electric Co. FELE Industrial Equipment 25 $41.45 49% 4% 2% 0 $0.72 57.57 $10.80 1.04%
General Dynamics GD Aerospace/Defense 26 $216.32 11% 22% 5% 2 $11.31 19.13 $169.65 1.57%
Genuine Parts Co. GPC Auto Parts 61 $89.66 19% 11% 5% 1 $4.45 20.15 $66.75 3.19%
Gorman-Rupp Company GRC Machinery 45 $30.06 19% 11% 4% 1 $1.35 22.27 $20.25 1.67%
H.B. Fuller Company FUL Chemical-Specialty 48 $49.18 39% 2% 3% 0 $1.65 29.81 $24.75 1.22%
Hormel Foods Corp. HRL Food Processing 52 $35.36 22% 15% 4% 2 $1.46 24.22 $21.90 2.12%
Illinois Tool Works ITW Machinery 43 $154.50 12% 17% 4% 2 $6.07 25.45 $91.05 2.00%
Jack Henry & Associates JKHY Business Services 27 $120.21 41% 19% 2% 1 $2.68 44.85 $40.20 1.23%
Johnson & Johnson JNJ Drugs/Consumer Prod. 55 $129.63 16% 20% 5% 2 $6.48 20.00 $97.20 2.58%
Kimberly-Clark Corp. KMB Personal Products 46 $107.79 27% 30% 6% 2 $6.02 17.91 $90.30 3.69%
Lancaster Colony Corp. LANC Food/Consumer Prod. 55 $122.80 19% 20% 4% 2 $4.33 28.36 $64.95 1.95%
Leggett & Platt Inc. LEG Furniture/Bldg. Prod. 46 $44.46 36% 12% 5% 0 $2.08 21.38 $31.20 3.24%
Lowe's Companies LOW Retail-Home Improv. 55 $86.65 22% 18% 5% 2 $4.70 18.44 $70.50 1.88%
McCormick & Co. MKC Food Processing 32 $106.59 22% 9% 5% 1 $4.95 21.53 $74.25 1.97%
McDonald's Corp. MCD Restaurants 42 $163.34 33% 14% 3% 1 $4.53 36.06 $67.95 2.48%
McGrath Rentcorp MGRC Business Services 25 $54.35 89% 2% 1% 0 $0.54 100.65 $8.10 1.93%
Medtronic plc MDT Medical Devices 40 $78.59 18% 7% 5% 1 $4.04 19.45 $60.60 2.32%
Meredith Corp. MDP Publishing 25 $54.10 16% 11% 8% 2 $4.09 13.23 $61.35 4.04%
MSA Safety Inc. MSA Medical/Safety Equip. 46 $83.49 10% 20% 6% 2 $5.28 15.81 $79.20 1.67%
NACCO Industries NC Machinery/Consumer 32 $36.30 39% 10% 10% 1 $3.57 10.17 $53.55 1.81%
Nordson Corp. NDSN Machinery 54 $135.22 21% 12% 4% 1 $4.79 28.23 $71.85 0.88%
Nucor Corp. NUE Steel & Iron 45 $60.98 43% 5% 3% 0 $1.88 32.44 $28.20 2.45%
Parker-Hannifin Corp. PH Industrial Equipment 61 $170.36 16% 11% 5% 1 $8.07 21.11 $121.05 1.53%
Pentair Ltd. PNR Industrial Equipment 42 $69.52 11% 8% 4% 1 $2.98 23.33 $44.70 2.01%
PepsiCo Inc. PEP Beverages/Snack Food 45 $108.68 30% 16% 4% 2 $4.89 22.22 $73.35 2.94%
PPG Industries Inc. PPG Conglomerate 46 $109.28 23% 12% 4% 1 $4.68 23.35 $70.20 1.63%
Praxair Inc. PX Chemical-Specialty 25 $144.60 43% 13% 4% 0 $5.99 24.14 $89.85 2.25%
Procter & Gamble Co. PG Consumer Products 61 $78.27 29% 13% 4% 1 $3.52 22.24 $52.80 3.52%
Roper Technologies Inc. ROP Industrial Equipment 25 $270.02 5% 10% 4% 1 $11.29 23.92 $169.35 0.60%
RPM International Inc. RPM Chemical-Specialty 44 $48.78 33% 8% 4% 1 $1.93 25.27 $28.95 2.63%
Sherwin-Williams Co. SHW Paints 39 $388.63 12% 12% 4% 1 $17.38 22.36 $260.70 0.89%
Sonoco Products Co. SON Packaging 35 $48.99 54% 5% 3% 0 $1.58 31.01 $23.70 3.19%
Stanley Black & Decker SWK Tools/Security Products 50 $150.70 31% 9% 4% 1 $6.43 23.44 $96.45 1.66%
Stepan Company SCL Cleaning Products 50 $85.68 40% 12% 6% 0 $5.22 16.41 $78.30 1.05%
Stryker Corp. SYK Medical Devices 25 $157.85 38% 6% 2% 0 $2.53 62.39 $37.95 1.17%
Sysco Corp. SYY Food-Wholesale 48 $60.52 32% 15% 4% 2 $2.71 22.33 $40.65 2.38%
Target Corp. TGT Retail-Discount 50 $72.82 37% 19% 11% 2 $7.98 9.13 $119.70 3.41%
Telephone & Data Sys. TDS Telecommunications 43 $28.45 88% 1% 3% 0 $0.81 35.12 $12.15 2.26%
Tennant Company TNC Machinery 46 $68.45 43% 5% 3% 0 $1.72 39.80 $25.80 1.22%
Tootsie Roll Industries TR Confectioner 51 $30.15 40% 4% 1% 0 $0.40 75.38 $6.00 1.20%
Universal Corp. UVV Tobacco 47 $50.20 14% 13% 18% 2 $8.92 5.63 $133.80 4.38%
VF Corp. VFC Apparel 45 $77.54 16% 21% 4% 2 $3.07 25.26 $46.05 2.36%
W.W. Grainger Inc. GWW Industrial Supplies 46 $279.17 22% 21% 5% 2 $14.14 19.74 $212.10 1.75%
Walgreens Boots Alliance Inc. WBA Retail-Drugstores 42 $64.11 19% 15% 9% 3 $5.47 11.72 $82.05 2.51%
Walmart Stores Inc. WMT Retail-Discount 44 $85.91 34% 18% 8% 2 $6.72 12.78 $100.80 2.41%
West Pharmaceutical Services WST Medical Instruments 25 $87.33 50% 9% 2% 0 $1.74 50.19 $26.10 0.64%
Weyco Group Inc. WEYS Footwear 36 $35.92 6% 16% 9% 3 $3.20 11.23 $48.00 2.50%

Below is an explanation of the metrics used for the research and what figures are needed in order to qualify for further due diligence.

CapFlow: To get this figure, we simply divide the annual capital expenditure by the cash flow from operations. This gives investors an idea of the percentage used to maintain the business from its cash flow. Any cash left over is what we call the free cash flow, which can be used for acquisitions, dividends, share buybacks or reinvested into the business. To score a point on the screen, we'll look for no more than 33% of cash flow being spent on capital expenditure.

CROIC: Cash flow return on invested capital is used by dividing your free cash flow by the long-term debt & total equity. This simply tells you the return the business earns on the money it invested. For example, a company above 20% CROIC means it makes more than 20 cents for each $1 invested. To score a point on the screen, we’ll look for 15% or more.

FCF Yield: This is basically the inverse calculation of the P/FCF metric, investors use this to assess the valuation of a stock. It's widely known to be better than P/E as this uses free cash flow, which is harder to manipulate compared to the earnings. To score a point on the screen, we'll look for 7% or more, which is the inverse of P/FCF 15 (100/15 = 6.66). This is what I would call fair value, the cheaper the ratio, the more interested we are to buy.

Results

The results are as I was expecting to be honest, the average P/FCF of the 69 companies turned out to be 26.57, giving a yield of 3.76%. Considering the current 10-year treasury yield of 2.775%, I’m not seeing the same equity risk premium that he is.

I got this data using the current calendar year on Morningstar, and I also found out that 26 of the companies posted free cash flow declines compared to their previous year. It’ll be interesting to see going forward how the new tax law benefits the companies bottom lines and if this is going to be passed on to shareholders with generous dividend raises.

Company Name Ticker Next AR Date 2017 FCF PS

2018 FCF PS

3M Company MMM 2019 $8.55 $7.94
A.O. Smith Corp. AOS 2019 $1.40 $1.33
ABM Industries Inc. ABM 2018 -$0.88 N/A
Air Products & Chem. APD 2018 $6.67 N/A
Altria Group Inc. MO 2019 $2.18 $2.46
AT&T Inc. T 2019 $2.67 $2.99
Automatic Data Proc. ADP 2018 $3.28 N/A
Badger Meter Inc. BMI 2019 $1.66 $1.21
Becton Dickinson & Co. BDX 2018 $8.14 N/A
Bemis Company BMS 2019 $1.80 $2.07
Brady Corp. BRC 2018 $2.50 N/A
Brown-Forman Class B BF.B 2018 $1.41 N/A
Carlisle Companies CSL 2019 $5.30 $4.67
Cintas Corp. CTAS 2018 $5.41 N/A
Clorox Company CLX 2018 $5.61 N/A
Coca-Cola Company KO 2019 $1.41 $1.26
Colgate-Palmolive Co. CL 2019 $2.85 $2.81
Computer Services Inc. CSVI 2019 $2.64 $2.57
Donaldson Company DCI 2018 $1.49 N/A
Dover Corp. DOV 2019 $3.76 $3.96
Ecolab Inc. ECL 2019 $3.57 $4.16
Emerson Electric EMR 2018 $2.24 N/A
Franklin Electric Co. FELE 2019 $1.63 $0.72
General Dynamics GD 2019 $11.43 $11.31
Genuine Parts Co. GPC 2019 $5.34 $4.45
Gorman-Rupp Company GRC 2019 $1.77 $1.35
H.B. Fuller Company FUL 2019 $2.61 $1.65
Hormel Foods Corp. HRL 2018 $1.46 N/A
Illinois Tool Works ITW 2019 $5.68 $6.07
Jack Henry & Associates JKHY 2018 $2.68 N/A
Johnson & Johnson JNJ 2019 $6.71 $6.48
Kimberly-Clark Corp. KMB 2019 $6.80 $6.02
Lancaster Colony Corp. LANC 2018 $4.33 N/A
Leggett & Platt Inc. LEG 2019 $3.06 $2.08
Lowe's Companies LOW 2019 $5.05 $4.70
McCormick & Co. MKC 2019 $3.94 $4.95
McDonald's Corp. MCD 2019 $4.10 $4.53
McGrath Rentcorp MGRC 2019 $2.17 $0.54
Medtronic plc MDT 2018 $4.04 N/A
Meredith Corp. MDP 2018 $4.09 N/A
MSA Safety Inc. MSA 2019 $2.87 $5.28
NACCO Industries NC 2019 $11.14 $3.57
Nordson Corp. NDSN 2018 $4.79 N/A
Nucor Corp. NUE 2019 $3.54 $1.88
Parker-Hannifin Corp. PH 2018 $8.07 N/A
Pentair Ltd. PNR 2019 $4.06 $2.98
PepsiCo Inc. PEP 2019 $5.07 $4.89
PPG Industries Inc. PPG 2019 $3.46 $4.68
Praxair Inc. PX 2019 $4.54 $5.99
Procter & Gamble Co. PG 2018 $3.52 N/A
Roper Technologies Inc. ROP 2019 $9.06 $11.29
RPM International Inc. RPM 2018 $1.93 N/A
Sherwin-Williams Co. SHW 2019 $11.38 $17.38
Sonoco Products Co. SON 2019 $2.08 $1.58
Stanley Black & Decker SWK 2019 $7.69 $6.43
Stepan Company SCL 2019 $4.74 $5.22
Stryker Corp. SYK 2019 $3.49 $2.53
Sysco Corp. SYY 2018 $2.71 N/A
Target Corp. TGT 2019 $6.67 $7.98
Telephone & Data Sys. TDS 2019 $1.32 $0.81
Tennant Company TNC 2019 $1.72 $1.72
Tootsie Roll Industries TR 2019 $1.26 $0.40
Universal Corp. UVV 2018 $8.92 N/A
VF Corp. VFC 2019 $2.98 $3.07
W.W. Grainger Inc. GWW 2019 $11.87 $14.14
Walgreens Boots Alliance Inc. WBA 2018 $5.47 N/A
Wal-Mart Stores Inc. WMT 2019 $6.17 $6.72
West Pharmaceutical Services WST 2019 $0.65 $1.74
Weyco Group Inc. WEYS 2019 $3.73 $3.20

Companies worth considering

Even though Nacco Industries is considered very cheap, it recently spun off its housewares related business to shareholders, so the financials are not reliable until next year. Weyco Group posted a decline in FCF PS compared to last year, so I'm reluctant to consider it as it also trades in a crowded market with strong competition such as Nike (NKE), hence why they will be excluded from the chart below.

Based on the information listed above, I’m going to recommend a strong buy for Walgreens Boots Alliance and AT&T, with speculative buys for Meredith, Target, and Walmart.

I'm quite hesitant with Target due to the fact that, just 9 months ago, it was trading at $50 a share, at an insane P/FCF of 7.50 using its previous $6.67 free cash flow per share. As you can see, the share price has increased by 40% in that short space of time.

Walgreens Boots Alliance and Walmart are growing increasingly complementary as a pair investment.

Walgreens Boots Alliance is doing extremely well with its growth strategy, which has seen the best sales growth over the past 2 years, not to mention record U.S. pharmacy market share. Part of the growth is coming from their recent acquisition of Rite Aid (RAD) stores and the company raised guidance for 2018 just over 2 weeks ago.

Walmart is increasing its healthcare exposure by its largest acquisition to date in health insurance company Humana, and the recent acquisition talk of PillPack. The opposite side of the investment coin, where one is a consumer business increasing its healthcare exposure while the other is a healthcare business with consumer exposure.

Universal is also being avoided like the plague due to its weakening financials and market position compared to its US rivals Altria Group (MO) and Philip Morris International (PM). Though its FCF is usually predictable, it’s had negative years in recent history, which makes me uncomfortable in regards to dividend safety. I could be completely wrong on this company, and a true deep-dive into everything the company does could prove it to be the screaming buy that the data is suggesting, but for now, I’m considering it to be a value trap.

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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