10 Stocks for the Next 10 Years

Let's open things up today with a little pop quiz. Which company's stock would you rather buy: Spacely Sprockets, which will deliver 10% annual earnings growth over the next decade, or Cogswell Cogs, which will grow at 3%?

Astute investors (and Jetsons fans) know that we need one final piece of information before making a decision: At what rate are these two companies expected to grow?

If all the analysts are calling for Spacely to grow at 15% and Cogswell at 1%, then the market will react with disappoint at the former and elation at the latter ... meaning Cogswell is by far the better buy.

What drives investor returns?
Jeremy Siegel has a similar example in his book, The Future for Investors, which leads to his all-important "basic principle of investor return": "The long-term return on a stock depends not on the actual growth of its earnings, but on the difference between its actual earnings growth and the growth that investors expected."

In the book, Siegel looked at the common characteristics of the top-performing surviving firms from the original S&P 500 Index in 1957. Besides growing earnings at a greater pace than expected, virtually all of these superstar stocks paid out consistent and rising dividends. Most were involved with well-recognized consumer brands or pharmaceuticals. And, valuation mattered: The average P/E ratio was slightly higher than the S&P's average of 17.45, and none was above 27. The top five performers from 1957 to 2003:

Source: The Future for Investors.

It's instructive to see which factors Philip Morris had in its favor during Siegel's 1957-2003 study period. The threat of lawsuits and smoking bans created low expectations that -- combined with high growth and a high dividend yield -- provided the perfect environment for superb investor returns.

Constructing greatness
Building on Siegel's work, I went in search of companies today that have a reasonable chance of exceeding expectations over the next decade and beyond. I built a screen based on the consistency, valuation, and dividend growth Siegel highlighted. Specifically, these companies:

• Beat EPS estimates for fiscal 2010 (and 2011, if reported). This is as far back as my screening data goes.
• Have an annualized EPS growth rate of at least 5% over the last 10 years.
• Exhibited growth in dividends per share of at least 5% over the last five years.
• Show signs that payout growth can continue, with a payout ratio less than 60% of earnings.
• Have manageable debt, with a debt-to-capital ratio below 60%.
• Have a current P/E below 27 (the current S&P 500 average is 14).

I also added one other element I think will help increase our chances of finding consistently great companies: return on equity. This metric highlights how effectively management allocates capital, and I required an ROE of 15% or better over the past three years. To show you how tough this requirement is, it cut the list of passing companies down from 162 to 44.

Today, I'm highlighting 10 names that passed the screen, sorted by dividend yield:

Source: S&P Capital IQ.

I urge you to take a closer look at any of these companies that interest you. You can start by adding them to your free watchlist by clicking the appropriate link in the table. For more on why dividend payers are your best bet to beat inflation, you can also check out our special free report, "13 High-Yielding Stocks to Buy Today."