Becton, Dickinson And Company: Generating A Healthy Income Stream

| About: Becton, Dickinson (BDX)
This article is now exclusive for PRO subscribers.

I intend to write a series of articles that combine conservative stock investing with covered call writing. The goal is to create a steady income stream from both dividends and option premiums and over time I would hope for some capital gains as well. Risk is kept low by picking stocks on the lower end of the risk spectrum, and by constructing a diversified portfolio of stocks.

Standard & Poor's has two good indices that can serve as a starting point when looking for less risky stocks: S&P 500 Dividend Aristocrats contains large cap, blue chip companies within the S&P 500 that have followed a policy of increasing dividends every year for at least 25 consecutive years. S&P 500 Low volatility lists the 100 least volatile stocks in the S&P 500.

The Stock: Becton, Dickinson and Co. (NYSE:BDX)

Becton Dickinson is in an elite group of 19 stocks that are both Dividend Aristocrats and among the 100 least volatile in the S&P 500.

From Morningstar's profile of the company:

Becton Dickinson is the world's largest manufacturer and distributor of medical surgical products, such as needles, syringes, and sharps-disposal units. The company also manufactures diagnostic instruments and reagents, as well as flow cytometry and cell-imaging systems. International revenue accounts for 55% of the company's business.

Becton Dickinson has increased revenue in each of the last ten years, while only seeing a decrease in diluted earnings per share in one year, 2004. The CAGR for revenues in that time period was 7.9% and for diluted EPS it was 13.6%. Dividends have increased by more than 10% each year since 2002 and currently yield 2.4%

This is clearly a company that meets our criteria for low risk, regardless of whether we measure risk by stock price volatility, revenue or earnings variability, or pretty much any quantitative or qualitative measure you can think of.

The current trailing P/E of 13.8 (based on Monday's closing price of 76.16) seems quite reasonable and is well below the stock's five year average of 16.4.

The Covered Call: $80 / Dec. 2012

As is to be expected, low risk stocks offer modest option premiums. For Becton Dickinson, I had a look at the December 21, 2012 calls with strike prices ranging from 70 to 85 and found the following (prices shown are mid-points between the bid and ask):

Breakdown of returns, $ per share

Or, seen from a different perspective, annualized returns:

Breakdown of returns, annualized %

The approach I take when choosing the appropriate option to sell is to look at the composition of gains if things go as I expect - in this case a gradual rise of the stock. I am quick to rule out the strike prices that are in the money (the 70 and 75 dollar strikes) - a best case annualized return of 10% before trading costs is lower than what I am looking for. The $85 strike, while allowing for ample capital gains on the stock, offers a less than a 1% annualized return on option premiums. That is too little to bother selling covered calls for, in my opinion

That leads me to the $80 strike price. On an annualized basis, it has a static return (return that assumes no change in the stock price) of 7.3%, and a maximum annualized return of 20.7%. In this time period, the option sale produces a bit more cash than the dividend.

Becton Dickinson offers an opportunity for a significant source of income from dividends and option premiums. In the current environment, you could do a lot worse than putting together a low risk portfolio of this kind.

Disclosure: I 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.