Is Meggitt the Ultimate Retirement Share?

LONDON -- The last five years have been tough for those in retirement. Portfolio valuations have been hammered, and annuity rates have plunged. There's no sign things will improve anytime soon, either, as the eurozone and the U.K. economy look set to muddle through at best for some years to come.

A great way to protect yourself from the downturn, however, is to build your retirement fund with shares of large, well-run companies that should grow their earnings steadily over the coming decades. Over time, such investments ought to result in rising dividends and inflation-beating capital growth.

In this series, I'm tracking down the U.K. large caps that have the potential to beat the FTSE 100 over the long term and support a lower-risk, income-generating retirement fund (you can see the companies I've covered so far on this page).

Today I'll take a look at Meggit (LSE: MGGT.L  ) , an engineering company that provides components for the aerospace, defense, and energy industries.

Robust returns?
Meggitt's engineering pedigree is impressive, but how has it performed against the FTSE 100 over the last 10 years?

Total Return	2007	2008	2009	2010	2011	10-Year Trailing Average
Meggitt	10.1%	(50.3%)	68%	45.6%	(2.1%)	9.6%
FTSE 100	7.4%	(28.3%)	27.3%	12.6%	(2.2%)	7.3%

Source: Morningstar. Total return includes both changes to the share price and reinvested dividends. These two ingredients combined are what make it possible for equity portfolios to regularly outperform cash and bonds over the long term.

The total return figures look impressive: Meggitt has outperformed the FTSE 100 over the last 10 years, despite having been hammered when markets crashed in 2008. That's a promising result, so let's take a closer look at the company's financials.

What's the score?
To help me pinpoint suitable investments, I like to score companies on key financial metrics that highlight the characteristics I look for in a retirement share. Let's see how Meggitt shapes up:

The basics

Year Founded	1850
Market Cap	3 billion pounds
Net Debt	788 million pounds
Dividend Yield	2.7%

Five-year average financials

Operating Margin	17.7%
Interest Cover	12.4 times
EPS Growth (adjusted)	15.2%
Dividend Growth	7.5%
Dividend Cover	3 times

Source: Morningstar; Digital Look; Meggitt.

Here's how I've scored Meggitt on each of these criteria:

Criterion	Comment	Score (out of 5)
Longevity	A long history of engineering in the U.K. and abroad.	5
Performance vs. FTSE	Very respectable.	4
Financial strength	Strong margins and manageable debt.	4
EPS growth	EPS has grown steadily over the last five years.	3
Dividend growth	Attractive growth rate lends itself to long-term investment.	4
		Total: 20/25

Meggitt's score of 20 out of 25 suggests that it could be an attractive candidate for a retirement fund portfolio. The lion's share of Meggitt's revenue comes from civil aerospace (45%) and defense (40%), with most of the remainder coming from the energy industry (9%). Sitting alongside its FTSE 100 sector peers, Rolls-Royce and BAE Systems (LSE: BA.L  ) , Meggitt looks attractively priced with good growth prospects.

While Rolls-Royce, which has a similar mix of business, has outperformed Meggitt in recent years, it now looks expensive on a P/E of 17.6 and with a yield of just 2%. At the other extreme is BAE Systems, whose lowly share price means that new shareholders get a dividend yield of 6% and can buy a stake in Britain's largest defense company for just 6.8 times its 2011 earnings. The only problem is that BAE's future strategy is a little uncertain at the moment, following its failed megamerger with Airbus parent EADS. Several big institutional shareholders are calling for boardroom changes at BAE, so further developments may be in the pipeline that could affect its earning power in years to come.

Meggitt sits attractively between Rolls-Royce and BAE with a modest but confidence-inspiring P/E of 12.1, versus the FTSE 100 average of 16. While Meggitt's 2.7% dividend yield is also below the 3.3% FTSE average, its affordable pricing and decent growth prospects mean that over the long term, it should provide a steadily growing income -- the key to a good retirement share. By way of example, anyone who bought Meggitt shares for about 180 pence in 2003 is now sitting on a healthy capital gain and will have received a dividend yield on cost of 6.1% for 2012.

Top income picks
Doing your own research is important, but another good way to identify great dividend-paying shares is to study the choices of successful professional investors. One of the most successful income investors currently working in the City is fund manager Neil Woodford, whose dividend stock picks outperformed the wider index by a staggering 305% in the 15 years to the end of 2011. You can learn about Neil Woodford's top holdings and how he generates such fantastic profits in this free Motley Fool report. I strongly recommend you download "8 Shares Held By Britain's Super Investor" today, as it is available for a limited time only.

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Further investment opportunities:

• Here's How I Hope To Retire
• 10 Steps To Making A Million In The Market
• 8 Shares Held By Britain's Super Investor