Intel & J&J
Dividends do matter & Touchstone Friday
by Jeff Fischer ([email protected])
ALEXANDRIA, VA (Sept. 25, 1998) --We're sitting pretty with two world-class companies at reasonable valuations on known information, and now we need to send another month's investment to one of them. Or, we could split this month's cash between the two. Let's see...
Intel (Nasdaq: INTC) is valued at 23.3 times 1999 earnings estimates of $3.77 per share. Though estimates were recently increased, there still might be some upside surprise in the numbers as long as world economies don't meltdown beyond recognition. The company is ramping new higher-margin chips and the PC industry is growing respectably, especially in the U.S. and Europe. The $3.77 estimate represents a 21% increase over 1998 earning estimates, which are 19% below 1997 results.
Johnson & Johnson (NYSE: JNJ) is priced at 25.8 times 1999 estimates of $3.02 per share, which represents 13% growth from this year's estimate. The company's slow sales growth of late, due to 48% of its revenue being international, could potentially make the '99 estimate more difficult to meet, but Johnson & Johnson's stock has been rising in part thanks to strong domestic growth in its pharmaceuticals, with sales up 26% last quarter. Plus, in the drug pipeline, the company has entities for Multiple Sclerosis, Alzheimer's disease, allergies, hormone replacement, contraception, and much more in Phase III trials.
J&J is expected to grow earnings per share 11% this year and the company is on track to do so, while 13% EPS growth for next year is more likely with any improvement in international currencies. If currency translations improve, sales growth will increase in kind. The growth is there, but masked.
Valued similarly, both companies' profitability performance is also similar. Intel's return on equity is 26.5% compared to JNJ's 26.3%. Intel's return on invested capital is 25.9% compared to JNJ's 24.3%. Finally, Intel's return on assets is 20.3% versus 15.7% for Johnson & Johnson. Intel's return on assets is dipping closer to 19% this year, but will likely rise again next year. Johnson & Johnson's numbers are steadily rising.
In other measures, JNJ has considerably higher gross margins than Intel (almost 70% versus 50%), but it also has 95,000 employees compared to Intel's 63,000 (and shrinking), so operating margins are about 10 points lower at Johnson & Johnson. For 1997, we find that JNJ had cash flow per share of $3.45 compared to $4.88 at Intel. Intel's book value is $13 compared to $9.90 at J&J. The stocks trade at below 7 and 8 times book value, respectively. (For fun comparison, Microsoft trades at 20 times book value and Coca-Cola at 17 times now, following a decline -- for whatever it's worth. Book value isn't the most useful measure in the world. Free cash flow is more meaningful.)
The past 60 months, J&J grew earnings per share 13.6% annualized and its dividend payment increased 12.4% per year. The past five years, Intel grew its earnings at a giant rate that can't be sustained now, and its dividend, which is extremely slight, grew 15% per year. J&J yields 1.20% and Intel pays 0.10%. We have $780 invested in Intel (3.1% of our total future investments of $24,500), and $460 invested in Johnson & Johnson.
Although I like both companies' valuations and situations equally at these prices, and I believe that Intel currently possesses higher potential for upside surprise in 1999 (with more risk of underperforming if increased expectations are not met), the Drip Port will send this month's $100 to Johnson & Johnson for two reasons: the difference in size of the two holdings in the portfolio, and the dividend yield that we lock in with J&J.
If Johnson & Johnson's $1.00 per share annual dividend payment (currently representing a 1.20% yield) grows just 10% annually, in 10 years our $100 investment this month will be yielding 3.3% annually. In 20 years -- again assuming 10% annualized growth in the dividend payment -- this $100 investment will be yielding 8.6% per year from the dividend alone. Never mind the capital appreciation of J&J stock, too, which could arguably compete with Intel's capital appreciation over the years given J&J's research & development expenditures and constant search for new growth in pharmaceuticals.
So we have capital appreciation to hope for, plus we're locking in the dividend payment.
Some Fools claim that dividends don't matter, and even some DRP advisor folks have stated as such on our Drip message boards. This belief shows a lack of knowledge, however, regarding how wealth has actually been created this century. The stock market has appreciated 10.5% annualized since 1926, but a whole 3% of that growth came from reinvested dividends. Without dividends, the annualized return is only 8.5% -- a giant difference. One hundred dollars invested in 1926 and growing at 10.5% annualized becomes $132,459. Growing at 8.5%, it becomes only $35,583.
Dividends do matter.
Our $100 will be sent to J&J next week. The investment date is the end of the first week of October.
Touchstone Friday. This week was rich with information thanks to Vince (TMF Elwood). On Monday, we mailed our check to Temper of the Times in order to begin our DRP with Mellon Bank (NYSE: MEL). In Monday's column, Vince wrote about beginning investment accounts for minors. This is excellent information and it might make you think about beginning to invest for your children or young relatives.
On Tuesday, Vince listed eight attributes to search for in DRP companies. Wednesday was the first ever "Drip Report Lite!" column, in which Vince answered questions from readers including one regarding Roth IRA accounts. Finally, on Thursday I wrote about valuation and why the price that you pay for a stock, at any time, does matter over the long term.
Next week we'll meet Brian Graney (TMF Panic), a Fool from the News Team who will be joining us for our next industry of study. We'll also ask, next week, what industry you want that to be.
Finally, if we can, we all might want to consider sending aid in whatever form to the Florida Keys if it turns out they need it. Looks like they might. Have a very Foolish weekend.
Fool on!
--Jeff Fischer
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