11 Incredible Dividend Stocks: Philip Morris International

This article is part of our weeklong series on 11 incredible dividend stocks. You can get the low-down on this series by clicking here.

History has some simple lessons about companies with the greatest long-term returns. They produce simple products that aren't subject to fads and rarely change over time. They're hated by much of the investment community. They have name-brand products and loyal customers. Their mission above all else is to produce shareholder returns.

It's for these reasons and more that I'm picking Philip Morris International as one of The Motley Fool's 11 incredible dividend stocks.

The business
Philip Morris International (PMI) is the international division of Philip Morris. The U.S. arm is still held by Altria Group (NYSE: MO), which spun off Philip Morris International in 2008. Its largest and most popular brand, Marlboro, is the world's best-selling cigarette. Excluding China, PMI holds a 27% market share in the international cigarette market, and reaches nearly every inch of the globe. By operating income, 38% of PMI's business comes from the European Union; 28% Eastern Europe, Middle East, and Africa; 27% Asia; and 8% Latin America and Canada.

Here are its basic stats:

Source: Capital IQ, a division of Standard & Poor's.

Why it's incredible
What makes PMI incredible is really what makes the tobacco market in general incredible: pricing power. It's the ability to raise prices not only with inflation, but ahead of inflation, ahead of tax hikes, regulatory burdens, and, when applicable, at a faster rate than cigarette volumes are falling.

Since PMI just recently became independent, it makes sense to look at the long-term history of its former parent, Altria, to see the long-term beauty of this pricing power. Smoking rates in the U.S. have been declining for decades, while Altria shares have produced astounding double-digit returns for shareholders. In 2000, adult smoking prevalence in the U.S was approximately 23%. By 2009, it had fallen to around 18%. Bad news? Hardly. Altria's net income from U.S. tobacco increased steadily during the period.

PMI is in a similar boat. International cigarette growth is meager, if not declining. Yet price increases have kept earnings not only afloat, but driving higher. "Pricing will ... remain the key driver of profitability growth at PMI" said Chief Financial Officer Hermann Waldemer in a recent shareholder conference call. PMI's annual report gives another anecdote: In 2010, price increases "outpaced unfavorable volume ... by a factor of more than two."

That's a wonderful thing. So much of a company's fate is outside management's hands. Management can't do anything about demographic growth. Health trends, taxes, social preferences, and labor costs sit outside their power. Companies with pricing power have a leg up on those uncertainties. Earnings become less dictated by customer demand. Rather, customer prices become dictated by management, and shareholder returns remain relatively steady in all kinds of economic environments. This advantage helped make Altria the best-performing stock over a half-century period ending in 2003.

Another strength of PMI and the tobacco industry: It rarely changes. Tobacco. Paper. Package. That's what cigarettes looked like 100 years ago, and it's what they'll look like 100 years from now. The monotony of the industry keeps capital expenditures low. There's no need to invest in expensive innovation like, say, the technology industry, which undergoes a complete transformation every few years. Less cash for investments, more cash for shareholders. These commodity-type businesses are typically overrun with competition, but advertising restrictions and brand loyalty make breaking into the tobacco industry exceedingly difficult.

Dividend strengths
Tobacco is, of course, a sin industry. A lot of people hate it. Can you blame them? It does social harm. It's terrible for you. It smells bad. It turns your lungs black and your teeth yellow.

Yet somewhat counterintuitively, this rightful loathing is a boon for shareholders. Having a large chunk of the investment community refusing to touch stocks like PMI keeps valuations relatively low. It's like a permanent antidote against euphoria. Quite simply, lower valuations equal higher dividend yields. As a result, PMI is one of the few companies that can duly be considered both a growth stock and a high-yielding dividend machine.

Risks
There are no sure things in investing, and PMI is no exception. The tobacco industry is invariably ensnared in legal woe. If former customers aren't suing the industry, government bodies are. Past legal hurdles have been surmountable, but those could become famous last words. (This legal fog is, however, part of what keeps many investors at bay -- a benefit described above). Another risk is smoking taking on a new degree of social aversion, eventually causing volume to fall faster than pricing power can counteract. I think the odds are firmly in investors' favor, but these risks can't be ignored. PMI should be only part of a diverse investment portfolio.

In sum
Add it all up. PMI shareholders capitalize on global growth, brand-name recognition, pricing power, and a rare loathing from much of the investment community that keeps valuations low and dividend yields high. This stock isn't for everyone. Those who choose to pass for moral reasons can't be blamed. However, for those who choose to make it a part of their portfolio, the rewards can be great.