Dividend No Saving Grace for Graco

| About: Graco Inc. (GGG)
Company Profile:

From Yahoo Finance

Graco, Inc. (NYSE: GGG) provides fluid handling systems and components. The company’s products move, measure, control, dispense, and apply a range of fluids and viscous materials used in vehicle lubrication, commercial, and industrial settings. It operates in three segments: Industrial, Contractor, and Lubrication. Industrial segment includes Industrial Products and Applied Fluid Technologies divisions.

Market capitalization is $2.61B.

Company Fundamentals:

A look at the return on invested capital shows that management has produced incredible numbers over the last 10 years. The lowest ROIC achieved over the last 10 years is 27.3% and that was in 1997. Management has quite consistently delivered ROIC in the 40%+ range. In fact, the 5 year average ROIC is 43.2%.

And wait until you see the return on equity numbers. The 10 year average ROE is 86.63%. Ok. Ok. That number is a bit skewed because of an ROE of 435% that was delivered back in 1998. But even the 5 year average ROE is an amazing 42.69%.

Now, the equity growth rate has been erratic with lows of -92.5% and highs of 566%. Over the 10 year period, the equity growth rate has been 28.23%. Of course, that 566% equity growth rate in 1999 skews that number to the high side. The 5 year average is 13.29%. The 3 year average increases to 26.25% and last year’s equity growth rate was 17.78%.

The earnings per share growth rate has been much more consistent. The 9 year average rate is 16.31%. The 5 year rate increases to 18.86%. The 3 year rate climbs to 20.27% and last year’s rate of 20.56% remains steady.

Sales growth rate has been steady. The 9 year average rate is 7.3%. The 5 year rate increases to 12.35%. The 3 rate is 15.69%. Last year’s rate comes back down to 11.58%.

All in all, this company has provided some very decent growth in terms of equity and earnings.

Dividend Fundamentals:

The current dividend yield is 1.67%. The S&P 500 Index currently yields 2.03% and the DJIA yields 2.57%. So I would consider this dividend yield below average.

The dividend growth rate has been amazing over the long haul but incredibly erratic and inconsistent year to year. Not what I want to see in a dividend payer. From year to year, there have been increases of 56%, 20%, 751% and 11.54%. There have also been decreases of -1.81% and -72%. And 1 year with no increase at all. And that 751% dividend growth rate in 2004 (dividend went from $0.22 to $1.87) really throws the average off. Now I believe that there was a special dividend payment made that year which probably should not be included in the analysis. But even discounting 2004, there are still erratic swings in the dividend growth rates.

The dividend payout ratio is quite conservative at 26.73%.

Cash flow growth rates have been solid and increasing over time. The 9 year average rate is 14.31%. The 5 year rate is 17.26%. The 3 year rate is 19.71% and last year’s cash flow growth rate was 20.53%.

Valuation Models:

I used 3 different valuation techniques to determine a model price for this stock.

The first method is based on the historical high yield. I typically look at the 10 year and 5 year data. But in this case, I will discount the information from 2004 as it skews the rest of the years. So the 9 year average high dividend yield is 1.75%. The 4 year average high dividend yield is 1.49%.

As an investor, if I demand the 9 year average high dividend yield of 1.75%, then my model price is $37.81. At today’s price of 39.50, Mr. Market is demanding a premium of 4.46%.

Mr. Graham would be in complete disagreement. The Graham number is $15.73. That implies a premium of 151%!

For my discounted present value method, I used the following inputs:

  • future EPS growth rate of 13.29% (although analysts have forecast 15%, I will use my more conservative value derived from the 5 year average equity growth rate)
  • future P/E of 15.72 (the 10 year average P/E which is more conservative than the current P/E of 17.79)
  • the 9 year average high dividend yield of 1.75% (dividend yield)
  • future dividend growth rate of 11.54% (although the dividend growth rate has been erratic, I decided to use last year’s growth rate as it is the most conservative of the positive dividend growth rates)
  • With this information, my model price works out to $39.12. This means a premium of 0.97%. However, we know that in order to get our minimum dividend yield of 1.75%, the most we would be willing to pay is $37.81.

    Compare your GGG calculations with mine.

    Here is the 1 year stock price chart:

    GGG 1-year chart

    As you can see, this stock has been going sideways for quite some time in the $39 to $42 range.


    There are some definitely nice characteristics in this stock such as the amazing ROIC, ROE, equity growth rates and earnings per share growth rates. The erratic dividend growth rate concerns me even though I see that special dividend in 2004.

    Personally, I do not think that this stock deserves to be in our portfolio of superior dividend yielding stocks.

    Full Disclosure: I do not own shares in GGG.

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