I recently sold my Delta shares which means the industrial sector in my portfolio is now underweight. Here’s a review of the remaining industrial sector stocks in my portfolio as well as some new candidates as I consider what to purchase.
The Industrial sector consists of companies involved in the production of products for building and manufacturing. The sector contains companies involved in the railroad, aerospace / defense, machinery, construction, tools and transportation among others. The sector typically follows the performance of the S&P index. YTD Total Returns for this sector are 7.3% which is in the middle of the pack of the 11 stock sectors.
Here’s my portfolio as of 12-July grouped by market sector. Industrials is my lowest valued sector and it, along with the Energy sector, is outside the +/- 10% rule I made.
My Industrial sector stocks
I currently have positions in UPS, ADP, UNP and RTN in the Industrial sector.
United Parcel Service
United Parcel Service (UPS) is the world’s largest freight transportation company at $93B. It operates in three segments – US Domestic Package (the largest at 62% by revenue), International Package and Supply Chain & Freight. 75% of UPS’ revenue is from the US. If you live in the US you may even have the Logistics song stuck in your head every time you see a UPS truck.
In addition to effective marketing, UPS has increased its dividend for the last 5 years (they were frozen in 2009) and it is currently $0.67 for a yield of 2.6%. It has been consistent in dividend increases otherwise; increasing them in February each year. Its current TTM payout ratio of 56% is about typical for the last 4 years although low earnings in 2012 forced the ratio up to 273%. The last 5 years’ annualized dividend growth from 2009 to 2014 is about 8.3%.
Its P/E of 22.7 is lower than the industry average of 24.5 and the S&P 500 average of 18.6. Over the last ten years, the P/E value has generally been just a little higher than the S&P average; exceptions being 2007 and 2012 where low earnings caused a large spike in P/E. Its projected 5% EPS growth is 11%.
S&P Capital’s 12-month target price is $108.00 with a fair value of $113.50 and it rates a Hold with 3 stars. Morningstar rates it similarly with 3 stars and a fair value estimate of $94.
Automatic Data Products (ADP) manages payroll, tax filing and HR outsourcing for companies. My current paycheck is processed by them, and it was the same at my previous employer. They have two segments – Employer Services as I just mentioned and Dealer Services which offers transaction processing to automobile and truck dealers and manufacturers.
No cute and catchy commercials for ADP – they’re all business, having increased their dividend each year for the last 39 years and routinely every December at least as far back as 2004. The dividend is currently $0.48 giving a yield of 2.4%. Its TTM Payout Ratio is currently 61%, a little higher than the last 4 years’ range of 56-60% The dividend growth over the last 5 years is an annualized 7.6%.
ADP has a higher valuation than its industry with 26.9 vs 25.8 and it’s also higher than the S&P average of 18.6. Its valuation has been significantly higher than the S&P average every year since 2004 except for 2009 and this year looks to be no exception. Its projected EPS growth over the next 5 years is 10%.
S&P Capital’s 12-month target price is $75.00 with a fair value of $64.80 and it rates a Hold with 3 stars. Morningstar rates it lower with 2 stars and a fair value estimate of $69.00.
Union Pacific Corp (UNP) is the world’s largest railroad operator by its $90B market cap. Railways generally have a large ‘moat’ since its hard for a new company to start building railroads. They’re very efficient for cheaply moving large amounts of freight around – UNP move Agricultural, Automotive, Chemicals, Coal, Industrial products and Intermodal container traffic which includes international cargo from the West Coast.
UNP has increased its dividend every year for the last 8 years, although it is not consistent on scheduling the increases and they can come in any month. Its dividend of $0.46 provides a current yield of 1.8%. Payout Ratio is low and has hovered around or below the 32% mark for the last 10 years – it is currently 32.5%. Annualized Dividend growth over the last 5 years picked up steam and was 27.5%.
UNP’s P/E is slightly lower than its industry average with 20.5 compared to 21.1, and it’s higher than the S&P at 18.6. Over the last ten years, UNP’s P/E tends to be higher than the S&P except for 2013, 2009 and 2006. This year it’s been pulling away from the S&P average compared to last year. Its projected EPS growth over the next 5 years is 15%.
S&P Capital’s 12-month target price is $103.00 with a fair value of $113.70 and it rates a Hold with 3 stars. Morningstar also rates it 3 stars with a fair value estimate of $95.00.
Raytheon (RTN) is a military contractor worth $29B, although it has been branching out into space related opportunities too. It consists of 6 segments – Integrated Defense Systems, Intelligence & Information Systems, Missile Systems, Network Centric Systems, Space and Airborne Systems and Technical Services. It’s involved in a range of subjects from missile defense to cyber-security that are often in the news headlines.
RTN has increased its dividend every year for the last 10 years, currently giving $0.61 a share for a yield of 2.6%. It’s likewise a very stable and consistent dividend growth stock, with dividend increases arriving in April each year. Its low current TTM Payout Ratio of 35% is consistent with the values over the last 4 years in a range of 30-35%. Annualized dividend growth over the last 5 years is 14%.
I’ve drawn RTN’s stock price vs. dividend yield for each dividend period. Yield is directly proportional to price so as price increases, yield decreases and vice-versa.
With a P/E of 14.3, it beats its industry average of 18.3 as well as the S&P’s average of 18.6. Historically over the last 10 years, its P/E has been lower than the S&P average except for 2004 & 2006. This year, its P/E is about the same level relative to the S&P as it has been for the last 4 years. Its projected EPS growth over the next 5 years is 8.7%.
S&P Capital’s 12-month target price is $94.00 with a fair value of $100.20 and it rates a Sell with 2 stars. Morningstar rates it fairly-valued with 3 stars at $93.00.
Is it time to take a fifth?
I have 4 stocks in this sector in my portfolio, so I’m going to look at some new dividend paying stocks to see if there is something better I could purchase instead of adding to my current positions.
My usual high level screener applies as I start from the Dividend Champions list:
- Include only stocks from Champions, Challengers and Contenders filtered by the sector I’m interested in (Industrials – note that ADP is shown in the list as IT but as Industrials in M*)
- Include only stocks with a dividend yield above 2%
- Exclude ADRs and non-US companies
- Exclude the Defense sub-industry as I already have stocks in that segment
Waste Management (WM) is the largest US waste disposal company in the US with a market cap of $20B. This industry has a fairly large moat since landfills and other resources are hard to get; the market is largely a duopoly between WM and its smaller competitor Republic Services (RSG). It also generates renewable energy as well as recycling some of the waste it processes, being the largest recycler in North America.
WM has increased its dividend for the last 11 years. Its current dividend of $0.38 gives it a yield of 3.4%. It pays dividends consistently, having raised them in March since 2004. Its TTM payout ratio is currently 437 however, after last year’s earnings were substantially reduced by an impairment to goodwill leaving it with little cash on hand at the end of 2013. Prior to that spike, the payout ratio increased from 38% in 2005 to 80% in 2012. Annualized dividend growth over the last 5 years is 5.3%.
WM’s P/E of 131 is likewise well above the industry average of 50.8 and the S&P’s 18.6, and its projected EPS growth for the next 5 years is 6%.
S&P Capital rates it 3 stars with a fair value of $29.10 and a 12 month target of $46. Morningstar gives it 2 stars with fair value of $36.
I used to work at Emerson Electric (EMR) before moving to Detroit last year. It’s a $47B company with 5 segments – Process Management, Industrial Automation, Climate Technologies, Commercial and Residential Solutions and Network Power. You may have come across the company from its InSinkErator brand.
EMR is justifiably proud of its dividend history, having increased its dividend for the last 57 years. Its shares currently give a yield of 2.6% from a dividend of $0.43 per share. It has a consistent increase pattern, raising dividends each November. The payout ratio has been increasing in the last three years but is still at a fair 60% and the dividend growth over the last 5 years has been 5.4%.
Its P/E of 23.9 is higher than the industry average (21.9) and S&P Average of 18.6. The P/E has always been higher than the S&P’s average for each year since 2004 however. Its projected EPS growth over the next 5 years is 9.7%
S&P Capital’s 12-month target price is $72.00 with a fair value of $66.40 and it rates a Hold with 3 stars. Morningstar rates it fairly-valued with 3 stars at $69.00.
Caterpillar (CAT) is a $68B company that manufactures industrial machinery. It operates in 4 main segments – Construction Industries produces machinery for the building industry; Resource Industries manufactures equipment for natural resource exploitation as well as tunneling. Power Systems produces engines, turbines and equipment and Financial Products offers financing and insurance to dealers and customers. The company is geographically diverse with less than 40% of total revenue coming from North America in 2013.
CAT has increased its dividend for 21 years. The current dividend of $0.70 which goes ex-dividend on July-17 gives a yield of 2.4%, It has a stable pattern of dividend increases over the last 14 years, increasing dividends each July. Payout Ratio is low, and has been in the range from 20 to 30 in the last 10 years with the exception of 2009 where low income produced at 119% ratio. The current TTM payout ratio is 39.4%. Dividend growth has been 9.1% over the last 5 years.
CAT’s P/E of 18.7 is higher than the industry average 14.3 and the S&P’s 18.6. Historically the P/E has been lower than the S&P average with the exception of 2009 and 2010. Project EPS growth for the next 5 years is 12%
S&P Capital’s 12-month target price is $110 with a fair value of $123.30 and it rates a Hold with 3 stars. Morningstar rates CAT as 3 stars with a fair value estimate of $97.00.
3M Company (MMM) is a $94B conglomerate that operates in 5 main segments – Industrial providing a wide range of products such as adhesives, tapes, filters, tapes and other specialty materials to industry. The Health Care segment supplies medical and surgical products to worldwide healthcare markets. The Safety & Graphics segment products protective and safety equipment as well as products for the communication and design industry. The Consumer includes products such as stationary and maintenance equipment for retail, office, home and building maintenance markets. Finally Electronics & Energy segment markets products to facilitate reliable sources of power, communication and high performance electronics.
MMM has great dividend history with 56 years of uninterrupted dividend growth. It routinely increases dividend payments in February having done so without missing a beat at least since 1998. Its dividend of $0.86 per share translates to a 2.4% yield. Payout ratio is good too, historically staying in a range from 34 %to 45% and currently residing in the middle of that range at 40%. Dividend growth has increased over the last 5 years at an annualized rate of 10.9%.
The chart below shows MMM’s price vs dividend yield for each dividend period.
MMM has a P/E of 20.9, just below the industry average of 21 but higher than the S&P’s average of 18.6. Over the last 10 years, its P/W has typically been the same or lower than the S&P but it was higher last year and likewise in 2004, 2005 and 2008. Its projected EPS growth over the next 5 years is 11%.
S&P Capital’s 12-month target price is $145.00 with a fair value of $136.70 and it rates a Hold with 3 stars. Morningstar rates it 2 stars with a fair value estimate of $131.00.
Stanley Black and Decker (SWK)
Stanley Black and Decker Inc (SWK) is a $13B company that is probably most well known from its products for the DIY industry. It operates in 3 segments – the Consumer DIY segment produces hand and power tools and similar equipment for the construction and DIY markets, using brand names such as DeWalt, DustBuster, Black & Decker and Stanley. The Industrial Tools segment produces and sells tools aimed directly at industrial companies rather than home consumers. Finally the Security Systems segment produces alarm and security monitoring products as well as automatic doors and keyless entry systems.
SWK has increased its dividend for the last 46 years and its dividend of $0.50 per share yields 2.3%. It usually increases dividends in September but skipped an increase in 2011 – annual dividends still increased as a result however. Payout ratio is a reasonable 52.7% currently, coming down from 66.7% in 2012 and a ten-year high of 101.5% in 2010, SWK increased its dividend by an annualized 9.0% over the last 5 years.
SWK’s P/E of 22.7 is higher than the industry average of 21.6 and the S&P’s 18.6. Since 2010 when it reached 50.8, the P/E has always been higher than the S&P; from 2004-2010 the P/E was always lower. EPS growth over the next 5 years is estimated to be 10%,
S&P Capital’s 12-month target price is $91.00 with a fair value of $93.50 and it rates a Hold with 3 stars.
I think Lockheed Martin is worth a second look, however I chose not to since I already have a defense industry stock in Raytheon. LMT’s dividend growth has been great and their current yield is high at over 3%. There’s the likelihood of growth being slowed by budget cuts, and they’re having some issues with their F-35 aircraft at the moment. But I can’t help to think that the future of warfare will be drones and robots, LMT seem to be well positioned when that technology becomes mainstream.
What to buy?
So I’ve summarized nine stocks above, time to narrow the field.
My criteria of a 2% dividend yield eliminates UNP with its 1.8% yield. UNP will have to lower in price before I could consider it.
The remaining 8 companies have suitable dividend yield, and all exceed my criteria requiring a 3% dividend growth rate.
Based on its high P/E I’ve decided to eliminate WM from the list too – I’m not confident that its dividend is sustainable without a price freeze and to channel Shania Twain, its P/E value don’t impress me much either.
So that still leaves 7, where I use the average of the historical dividend growth rate and predicted growth to compare the value produced by the stock. This method ranked RTN producing the most return, followed closely by UPS and then CAT & MMM.
MMM gained additional credit due to its size and dividend history, however I decided to stay with RTN for my next purchase due to its higher yield and growth potential.
SWK scored lowest due to inconsistent dividend history, low yield and growth. CAT was about the same as SWK; it was helped by a higher yield but hindered by a shorter history. UPS was in 6th place; it had a better yield and stability but lower growth and short history. ADP was mostly hindered by a low growth and yield, as was EMR. While MMM didn’t have the yield and growth that RTN had, it was helped by a much better dividend track record and company size.
Here’s the outcome visually.
The score column shows the ranking I’m using and summarizes my analysis, it’s calculated from a weighting of the different criteria added together and aids me in valuing one stock over another. It tends to favor higher yields and stable payments.
My purchases this week
So total purchases this week will be:
- $450 Individual Stocks (RTN)
This purchase should increase my yearly dividend income by about $11 and it’ll happen Tuesday from my Sharebuilder account.
Full disclosure: I am long UPS, ADP, UNP, & RTN.
Sources: Morningstar, Finviz, Yahoo Finance, S&P Capital. While every attempt is made for accuracy, mistakes can happen. Please conduct your own research and due diligence before making any stock purchase.
Quote of the day
Industry, thrift and self-control are not sought because they create wealth, but because they create character.