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The Power of Dividends

Matt Richey
May 14, 2004

Over the past six months, I've been struck by the number of companies that have either initiated or increased their dividend. I screened the entire universe of U.S.-traded stocks with a minimum $1 billion market cap, and found more than 300 higher dividends in the latest quarter. Some of the larger names included 3M (NYSE: MMM  ) , Abbott Labs (NYSE: ABT  ) , Citigroup (NYSE: C  ) , Coca-Cola (NYSE: KO  ) , FedEx (NYSE: FDX  ) , General Dynamics (NYSE: GD  ) , and Procter & Gamble (NYSE: PG  ) .

But the company whose new dividend most caught my eye recently was tiny Utah Medical Products (Nasdaq: UTMD  ) . Though far less famous than the above names, Utah Medical holds a place on my own personal "most admired" list for its wonderfully profitable business (40% operating margins) and zealously shareholder-focused management. As but one example, Utah Medical has repurchased about 60% of its outstanding shares since 1992.

It was specifically this avid history of repurchasing shares that made Utah Medical's dividend initiation all the more interesting to me. The $0.15 quarterly dividend equates to a 2.35% yield and represents about 35% of expected 2004 profits, so we're not talking about a token "starter dividend." This was a statement by Utah Medical management that it has few superior alternative uses for its capital, so the best remaining option is to return a sizeable portion of earnings to shareholders. Share buybacks may remain an option for Utah Medical, but probably only on price weakness.

Back in Nov. 2002, my partner Zeke Ashton also wrote about Utah Medical, but as a case study for the power of buybacks. He showed how Utah Medical had delivered years of fabulous market-beating returns not by developing the next miracle medical technology but by simply repurchasing its own shares at attractive prices. The keyword there being attractive, i.e., single-digit multiples to free cash flow.

Utah Medical shares have appreciated 30% since Zeke's article and are up more than 250% over the past three years. So, the stock isn't nearly as cheap as it once was. With 2004 EPS expected around $1.67 per share on a $25.50 stock, and after backing out excess cash of $4.85 per share, we're looking at a P/E of 12.4. That's by no means overvalued, nor is it undervalued considering that profit growth is in the low single digits on flat sales over the past four years.

I applaud Utah Medical management for recognizing that continued share buybacks at current prices wouldn't yield the types of gains as in the past. As a shareholder via Centaur Capital, I much prefer the cash being returned to me so I can deploy i