This expectation does not change even when the economy turns down and earnings decline; dividend growth investors still require annual dividend growth. The companies that are able to accomplish this are those with a operating model that generates strong free cash flows with room to pay out a higher percentage as dividends. Below are several companies with a low free cash flow payout (below 40%):
Aflac Incorporated (AFL) provides supplemental health and life insurance in Japan and the U.S. Products are marketed at work sites and help fill gaps in primary coverage.
FCF Payout: 10.6% | Yield: 2.3%
Cincinnati Financial Corp. (CINF) is an insurance holding company that primarily markets property and casualty coverage. It also conducts life insurance and asset management operations.
FCF Payout: 27.9% | Yield: 2.6%
Genuine Parts Co. (GPC) is a leading wholesale distributor of automotive replacement parts, industrial parts and supplies, and office products.
FCF Payout: 35.7% | Yield: 2.7%
Community Trust Bank Corp. (CTBI) owns and operates Community Trust Bank, Inc., which provides commercial banking services in Kentucky, Tennessee and West Virginia; and a trust company.
FCF Payout: 37.8% | Yield: 3.5%
IBM's (IBM) global offerings include information technology services, software, computer hardware equipment, fundamental research, and related financing.
FCF Payout: 37.8% | Yield: 3.6%
An interesting twist to the above is a 2006 study conducted by Credit Suisse that found high dividend yield stocks generally outperformed those with lower yields. However, the best returns did not come from those with the highest yields, but those with higher yields coupled with low payout ratios. The study found that high yield, low payout stocks that produced the better returns were priced at low ratios of price-to-earnings, and as a corollary, at high ratios of earnings-to-price; i.e., earnings yield. Put another way, the stocks prices were depressed, thus creating the higher yield and a value play. Below are several dividend growth stocks with a higher yields (4%+) and low free cash flow payouts (50% and below):
Old Republic Intl (ORI) is an insurance holding company that engages mainly in the general (property and liability), title, and mortgage guaranty and consumer credit indemnity run-off businesses.
FCF Payout: 40.6% | Yield: 4.3%
Westwood Holdings Inc. (WHG) provides investment advisory services to a wide range of institutional clients, and also provides trust and custodial services.
FCF Payout: 31.4% | Yield: 4.4%
Alliance Resource Partners LP (ARLP) produces and markets coal primarily to utilities and industrial users in the United States. It offers low-sulfur coal, medium-sulfur coal, and high-sulfur coal.
FCF Payout: 29.7% | Yield: 7.9%
At some point we will all want to retire, but that is not to say we want our portfolio to stop working for us. A good dividend growth stock portfolio will not only provide us income in our retirement, but provide us more income each year than the one before.
Full Disclosure: Long AFL, CINF, GPC, CTBI, IBM, ORI. See a list of all my Dividend Growth Portfolio holdings here.
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Tags: AFL, CINF, GPC, CTBI, IBM, ORI, WHG, ARLP,