Dividend payers deserve a berth in any long-term stock portfolio. But seemingly attractive dividend yields are not always as fetching as they may appear. Let's see which companies in the farm and construction machinery industry offer the most promising dividends.
Yields and growth rates and payout ratios, oh my!
Before we get to those companies, though, you should understand just why you'd want to own dividend payers. These stocks can contribute a huge chunk of growth to your portfolio in good times, and bolster it during market downturns.
As my colleague Matt Koppenheffer has noted: "Between 2000 and 2009, the average dividend-adjusted return on stocks with market caps above $5 billion and a trailing yield of 2.5% or better was a whopping 114%. Compare that to a 19% drop for the S&P 500."
When hunting for promising dividend payers, unsophisticated investors will often just look for the highest yields they can find. While these stocks will indeed pay out the most, the yield figures apply only for the current year. Extremely steep dividend yields can be precarious, and even solid ones are vulnerable to dividend cuts.
When evaluating a company's attractiveness in terms of its dividend, it's important to examine at least three factors:
- The current yield
- The dividend growth
- The payout ratio
If a company has a middling dividend yield, but a history of increasing its payment substantially from year to year, it deserves extra consideration. A $3 dividend can become $7.80 in 10 years, if it grows at 10% annually. (It will top $20 after 20 years.) Thus, a 3% yield today may be more attractive than a 4% one, if the 3% company is rapidly increasing that dividend.
Next, consider the company's payout ratio, which reflects what percentage of income the company is spending on its dividend. In general, the lower the number, the better. A low payout ratio means there's plenty of room for generous dividend increases. It also means that much of the company's income remains in its hands, giving it a lot of flexibility. That money can fund the business's expansion, pay off debt, buy back shares, or even buy other companies. A steep payout ratio reflects little flexibility for the company, less room for dividend growth, and a stronger chance that if the company falls on hard times, it will have to reduce its dividend.
Peering into machinery
It's smart to examine how rapidly a dividend payer is raising its dividend over time. Within this industry, Cascade (NYSE: CASC ) and Deere (NYSE: DE ) lead the way, with five-year average annual dividend growth rates of 17% and 13%, respectively. Even though steep growth rates can be hard to maintain, low payout ratios make that far from an immediate concern in their cases. Lift-truck and construction specialist Cascade recently took a spill upon posting disappointing earnings (partly due to the continuing effect of Australia's 2011 floods), but its long-term prospects seem solid. Deere, meanwhile, also looks good, expanding in emerging markets and investing heavily in research and development.
Joy Global (NYSE: JOY ) and Manitowoc (NYSE: MTW ) are also promising companies, but their dividends are not the most attractive. The companies sport yields of 1% and 0.6%, respectively, and are growing at 6.1% and 2.5%. If dividends are not critical to you, give them some thought. Joy is significantly tied to the coal industry, which has sputtered lately, but isn't likely to disappear any time soon. Like many peers, it's also poised to benefit from emerging markets. Manitowoc, specializing in cranes and food service equipment, has been growing and introducing new products. It's also saddled with a lot of debt, though, and might best belong on a watch list instead of a buy-now list.
Then there's Caterpillar (NYSE: CAT ) , the biggest of the bunch by far. Its recent yield of 1.7% may not be the biggest around, but it's been growing at a healthy 10% clip, and has lots of room to grow. Some of its biggest problems lately have been boosting capacity to keep up with demand. It has been making some major acquisitions, too, buying mining equipment maker Bucyrus and locomotive maker Electro-Motive Diesel.
As I see it, Cascade, Deere, and Caterpillar offer the best combination of dividend traits right now, sporting some solid income and a good chance of strong dividend growth in the future.
Of course, as with all stocks, you'll want to look into more than just a company's dividend situation before making a purchase decision. Still, these stocks' compelling dividends make them great places to start your search, particularly if you're excited by the prospects for this industry. Remember, too, that you may find even more attractive dividends elsewhere, such as in foreign wireless companies or gas utilities.
Do your portfolio a favor. Don't ignore the growth you can gain from powerful dividend payers.
Looking for some All-Star dividend-paying stocks? Look no further.