I like to invest when the odds are on my side.
The odds are pretty great that people will still drink beverages, need energy, eat food, and communicate with each other 10, 20, and 30 years from now.
And the odds are also great that there will be even more people walking this planet a few decades from now.
These are trends that anyone can understand and invest in.
The businesses that take advantage of these trends usually end up making a lot more money as a result.
And the best businesses of all tend to share their increasing profit directly with their shareholders, in the form of a dividend that’s routinely and regularly growing.
That’s what dividend growth investing is all about: investing in high-quality businesses that have a proven track record of increasing profit and increasing dividends to shareholders.
This is why I’ve personally invested in these types of companies, riding my (early) retirement on them.
These “dividend growth stocks” crisscross the fabric of the global economy.
You know what else has great odds?
That people, as they age, will need medical care. And with millions of baby boomers set to retire and ride off into a retirement sunset, they, too, will very likely need increasing medical attention as their bodies age.
That’s where a company like Johnson & Johnson (JNJ) comes in.
It’s my largest personal stock holding – and for good reason.
Johnson & Johnson (JNJ), founded in 1886, is engaged in the research and development, manufacture, and sale of a broad range of products in healthcare. Johnson & Johnson has over 250 operating companies.
They operate in three segments: Medical Devices and Diagnostics (35% of fiscal year 2016 sales); Pharmaceutical (47%); and Consumer (19%).
The company is diversified globally, with roughly half of sales occurring outside the United States.
I’m a huge fan of Johnson & Johnson, and I have a good portion of my personal wealth invested in the company. They serve customers in virtually every country throughout the world, offering a dynamic mix of of healthcare products to improve people’s lives and keep them living longer.
While a lot of people have heard of many of their consumer brands like Listerine, Tylenol, Neutrogena, and Band-Aid, the company has a broad and diverse set of products across the consumer healthcare space.
In the pharmaceutical space, you’ll find drugs like Remicade and Simponi, which are biologics for immune-mediated inflammatory diseases.
And in the medical devices segment, you’ll find biosurgicals and joint reconstruction products in orthopaedics.
So they’re not a one-trick pony. They’re not overly reliant on any one product, segment, or customer.
Johnson & Johnson has grown nicely over the last decade, although the Great Recession hindered them a bit (as it hindered most companies). They’ve bounced back some, positioning them well for the future.
Let’s take a look at that growth.
Revenue grew from $61.095 billion in fiscal year 2007 to $71.890 billion in FY 2016. That’s a compound annual growth rate of 1.82%.
This is disappointing, but recent quarters have indicated a nice upswing moving forward.
Earnings per share increased from $3.63 to $5.93 over this same period, which is a CAGR of 5.60%.
Far more impressive bottom-line growth. Share buybacks and margin expansion have both helped drive that excess EPS growth.
Compounding at almost 6% annually for what is now a $375 billion company, straight through one of the worst economic calamities my generation has ever seen, is fairly impressive, in my view.
Looking forward, CFRA (a professional analysis firm) is anticipating that Johnson & Johnson will compound its EPS at an annual rate of 8% over the next three years, citing unmatched depth and breadth in the global healthcare marketplace as a key strength and growth driver.
The dividend is where JNJ really shines, however.
The company has managed to increase its quarterly dividend for the past 55 consecutive years.
As a dividend growth investor who wants some measure of assurance that my dividends will continue to flow and grow, this just makes me smile.
And it’s not just small raises to keep a streak alive. These are material increases.
Over the last decade, JNJ has managed to grow its dividend by an average of 8% per year.
I’m one happy shareholder with that kind of dividend growth, as it’s certainly well in excess of inflation (meaning my purchasing power is increasing every year).
And the current yield, at 2.40%, is reasonably appealing.
That yield is better than what the broader market is going to give you; however, it’s well below the stock’s own five-year average (which could indicate some overvaluation at play).
Furthermore, with a payout ratio of 58.3%, the dividend is very well covered.
That means for every one dollar of profit, 58.3 cents is going to shareholders in the form of a dividend. That leaves the other 41.7 cents for management to invest back in the business and continue growing it. That’s a healthy mix that portends more solid dividend growth for the foreseeable future.
The balance sheet is a thing of beauty here.
It’s one of only two companies right now that has a AAA credit rating from Standard & Poors.
The long-term debt/equity ratio is 0.31, which is incredibly healthy.
The interest coverage ratio is over 28.
Debt is causing the company no issues whatsoever.
Profitability is robust across the board, which probably isn’t surprising given the numerous competitive advantages at play.
Over the last five years, the company has averaged net margin of 20.50% and return on equity of 21.13%.
You have to like Johnson & Johnson’s odds over the next decade and beyond.
Their competitive advantages are numerous – economies of scale, wide diversification across both products and end markets, pricing power, massive R&D power, and a global sales force are just a few powerful elements working in their favor .
And the demand for their products should remain pretty strong through all economic conditions, as one’s health and well-being transcends economics, generally speaking.
Whereas someone could cut back on certain areas of their spending, life-saving medications and/or surgeries generally cannot be put off.
With an aging population in many developed countries with access to the best medical care, JNJ has considerable tailwinds for its business for the next 10 years and beyond. Meanwhile, the entire world becomes richer all the time, meaning increased demand for high-quality healthcare that may have been previously inaccessible.
Of course, like any other business there are considerable risks.
Namely, the company faces the prospects of litigation if their products do not perform as designed.
Regulation is always a risk as well in the healthcare space.
Finally, it costs money and time to develop drugs and get pharmaceuticals approved by the FDA, and so JNJ must maintain a healthy drug pipeline at any given time.
Shares in JNJ are trading hands for a price-to-earnings ratio of 24.5 right now. This is unfavorable compared to the stock’s five-year average P/E ratio of 19.8. Investors are paying up for everything with this company (revenue, cash flow, etc.). And the yield, as noted earlier, is significantly lower than its five-year average.
I valued shares using a dividend discount model analysis.
I factored in a 10% discount rate and a 7% long-term growth rate.
That dividend growth rate factors in the moderate payout ratio, historical long-term business and dividend growth, and the forecast for EPS growth moving forward.
The DDM analysis gives me a fair value of $119.84.
Bottom line: Johnson & Johnson (JNJ) is a global and diversified healthcare giant. And as the world grows bigger, older, and richer, demand for the products this company provides (which improve and save lives) should increase. As such, the odds are very good that shareholders will continue to profit and the dividend will continue to grow for decades to come.
— Jason Fieber
P.S. Johnson & Johnson isn’t cheap right now. It’s probably my favorite high-quality dividend growth stock of all, but it might not be a great investment idea at this time. That said, if you’re looking for a high-quality dividend grower that appears to be on sale right now, then keep an eye out for this Sunday’s Undervalued Dividend Growth Stock of the Week. Not only does the stock I’ll be profiling appear 8% undervalued at current levels, but you’re looking at a market-beating and industry-beating dividend that’s growing quarterly. Stay tuned for this Sunday’s issue, where I’ll reveal the name, ticker symbol and full analysis on this stock!
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