The market surged this morning as Trump won the race for White House. The S&P 500 was up almost 2% and Dow Jones was up 3% within the first hour of trading. We expect more volatility in the near term. Until the election aftermath settles down, finding quality investment opportunities in today’s market will remain challenging.
We work really hard to give you our best ideas, and we’re especially proud to step into the fray today with a featured stock from our Safest Dividend Yields Model Portfolio. Too often, dividend investors overlook the risk that a company cannot afford to pay its dividend. The best way to be sure a company’s dividend is safe is to know its free cash flow (FCF). If the company does not generate enough cash to cover its dividend payments, then one of two bad things are likely to happen to the owners of that company’s stock:
- Your ownership in the stock gets diluted because the company issues debt or equity to cover the cost of the dividends.
- You lose money because the company cuts its dividend.
As our regular readers know, no other research firm measures free cash flow better than we do. So, we give you the best insight into the safety of dividends. For example, in Figure 2 below, we directly compare the featured stock’s cash dividend payments to its free cash flow to give clients a very clear read on exactly how well the company can cover its dividend payments. As David wrote in “Seeing Is Believing”, we want to show you how much work we do and share the benefits of that work – and that’s exactly what Figure 2 does. The same can be said for David’s recent training on how dividends can provide a safe haven in a volatile market.
Now, to this week’s featured stock: it brings you a company with a high and consistent dividend yield help bolster portfolio returns during the volatile market we are in right now. Best of all, we know this company has the cash flows to pay its dividends.
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Today’s feature provides a summary of how we pick stocks for this Model Portfolio. This summary is not a full Long Idea report, but it gives you insight into the rigor of our research and approach to picking stocks. This free report is a great way to understand how our proven superior data can give you the edge you need to make quality investment research and analysis.
We hope you enjoy this free research on this month’s featured stock for the Safest Dividend Yields Model Portfolio. Feel free to share this report with friends and colleagues.
We update this Model Portfolio monthly. October’s Safest Dividend Yields Model Portfolio was updated and published for clients on October 23, 2024.
Recap from September’s Picks
The best performing large-cap stock was up 5%, and the best performing small-cap stock was up 6%. Overall, 6 out of the 17 Safest Dividend Yield stocks outperformed their respective benchmarks (S&P 500 and Russell 2000) from September 20, 2024 through October 21, 2024.
This report leverages our cutting-edge Robo-Analyst technology to deliver proven-superior[1] fundamental research and support more cost-effective fulfillment of the fiduciary duty of care.
This Model Portfolio only includes stocks that earn an Attractive or Very Attractive rating, have positive free cash flow (FCF) and economic earnings, and offer a dividend yield greater than 3%. Companies with strong free cash flow provide higher quality and safer dividend yields because strong FCF supports the dividend. We think this portfolio provides a uniquely well-screened group of stocks that can help clients outperform.
Featured Stock for October: Consumer Cyclicals Company
Since 2013, this company has grown revenue and net operating profit after tax (NOPAT) by 4% and 8% compounded annually. The company’s NOPAT margin increased from 6.9% in 2013 to 10.5% in the TTM, while invested capital turns rose from 0.7 to 0.8 over the same time. Rising NOPAT margins and invested capital turns drive the company’s return on invested capital (ROIC) from 5% in 2013 to 9% in the TTM.
Figure 1: Revenue & NOPAT Since 2013
Sources: New Constructs, LLC and company filings
Free Cash Flow Exceeds Regular Dividend Payments
This company has increased its regular dividend from $0.24/share in 1Q19 to $0.33/share in 4Q24. The current quarterly dividend, when annualized provides a 3.8% dividend yield.
The company’s free cash flow (FCF) easily exceeds its regular dividend payments. From 2019 through 3Q24, this company generated $7.2 billion (51% of current enterprise value) in FCF while paying $2.5 billion in regular dividends. See Figure 2.
Figure 2: FCF Vs. Regular Dividends Since 2018
Sources: New Constructs, LLC and company filings
As Figure 2 shows, this company’s dividends are backed by a history of reliable cash flows. Dividends from companies with low or negative FCF are less dependable since the company would not be able to sustain paying dividends.
This Stock Is Undervalued
At its current price of $29/share, this stock has a price-to-economic book value (PEBV) ratio of 0.9. This ratio means the market expects this company’s NOPAT to fall 10% from TTM levels. This expectation seems overly pessimistic given that the company has grown NOPAT 5% and 8% compounded annually over the last five and ten years, respectively.
Even if the company’s
- NOPAT margin falls to 10% (below 5-year average and TTM margin of 10.5%) and
- revenue grows just 3% (compared to 4% compounded annually over the last ten years) compounded annually for the next decade,
the stock would be worth $36/share today – a 24% upside. In this scenario, the company’s NOPAT grows just 2% compounded annually through 2033.
Should the company’s NOPAT grow more in line with historical growth rates, the stock has even more upside.
Critical Details Found in Financial Filings by Our Robo-Analyst Technology
Below are specifics on the adjustments we make based on Robo-Analyst findings in this featured stock’s 10-K and 10-Q:
Income Statement: we made over $550 million in adjustments with a net effect of removing just under $100 million in non-operating expenses. Professional members can see all adjustments made to income statements on the GAAP Reconciliation tab on the Ratings page on our website.
Balance Sheet: we made over $8 billion in adjustments to calculate invested capital with a net increase of just under $3 billion. The most notable adjustment was for goodwill adjustments. Professional members can see all adjustments made to balance sheets on the GAAP Reconciliation tab on the Ratings page on our website.
Valuation: we made over $5 billion in adjustments to shareholder value, with a net decrease of over $3 billion. Other than total debt, the most notable adjustment to shareholder value was for excess cash. Professional members can see all adjustments to valuations on the GAAP Reconciliation tab on the Ratings page on our website.
….there’s much more in the full report. You can start your membership here to get access to this report and much more.