ALEXANDRIA, VA, (Aug. 1, 1997) -- Can you really get something for nothing? Although Fools are pretty high on the use of Dividend Reinvestment Plans (DRPs) as a wealth-creation vehicle, many times investors make it sound like they're getting a free ride. Part of the whole analytical process involved in purchasing DRPs is identifying companies that you can comfortably own and add money to over periods measured in years. Executing trading strategies through DRPs becomes bogged down in paperwork and the time delays make DRPs less than ideal if your holding period is less than three years.
A reader recently wrote asking if we would use the Dow Dividend Approach in the Drip Portfolio. (For readers unfamiliar with the Dow Dividend Approach, check out the area in the Fool's School.) The answer is an emphatic "no" for two reasons: trading costs and the time delay in making purchases. Imagine if you were setting up a DRP today for one of the current Dow Dividend Approach companies, PHILIP MORRIS (NYSE: MO). Say you were to put $200 in the Philip Morris DRP on January 10th and hold for only twelve months. After spending $15 to $20 to set up the DRP account, just a year later you would be paying $10 plus 12 cents a share to close out the account. If you are spending $30 plus 53 cents for your 4.4 shares in transaction costs on $200, you have to see your shares rise 15.3% just to break even. If you hold the stock for five years you should see a great return, but one year just doesn't cut it.
The key thing to remember with DRPs is that you need to buy companies that you anticipate owning for a substantial period of time and are comfortable adding to month after month, even if the share price goes up. This is a long-term wealth accumulation game. Frankly, I think that DRP investors will be best served by never paying attention to any market index again. When you're investing in a company a few dollars at a time over decades, the market's day to day shenanigans are completely irrelevant. You are buying equity in a company, you are not participating in the roiling ups and downs of the market -- except by the accident of chance that has made the company you are DRPing into publicly traded. Ignore the market, pay attention to your companies. This is what you will see in the Drip Portfolio and hopefully we will never, ever, ever, ever talk about the "market" or indexes that purport to measure the market.
Here we're going to focus on two classes of companies -- classic growth companies and classic value companies. Although I hate the labels "growth" and "value" because of what academics have done to them, they are really the only appropriate names for the kind of companies that make sense to purchase in a DRP.
A growth company is a first-class corporation that can continue to grow earnings per share at a substantial rate for decades. This is accomplished through both revenue growth and consistently tighter management control. A value company is also a company that can grow earnings per share at a substantial rate, though often less than the growth company, but that carries a lower valuation than a growth company and can be expected to improve that over time. In my next Drip Portfolio report, I will take a look at what exactly a DRP growth company is and what a DRP value company is, and we'll use COCA-COLA (NYSE: KO), INTEL CORP. (Nasdaq: INTC), OWENS-CORNING (NYSE: OWC) and KANSAS CITY SOUTHERN (NYSE: KSU) as examples. We didn't quite get there today, but that's all right. As Fools, we have plenty of time!
It's been a fun first week, and now next week we should all be ready to start looking at the inner-workings of what makes a great company and a great long-term investment -- the kind that you want to keep buying and buying, every month.
--Randy Befumo, TMF Templr