There are a lot of valid excuses a company can make for poor results: the ongoing COVID-19 pandemic, rising interest rates, inflation, a tight labor market, supply-chain constraints, etc. United Parcel Service (UPS 0.65%) continues to acknowledge these challenges and posts monster results, anyway.
UPS shares hit a fresh all-time high earlier this week after the company reported record Q4 and full-year results. The company also issued a 49% increase to its dividend. The Q1 2022 dividend of $1.52 per share is payable on March 10, 2022 to shareholders of record on Feb 22, 2022.
Here's what makes the company's dividend raise unique and how its banner year paves the way for future dividend raises.
Anatomy of a record raise
When a dividend-paying stock's price rises, the yield drops and the dividend becomes less attractive. There are only three ways around the problem.
- The stock price falls and the yield goes up.
- Dividend raises begin outpacing the rate at which the stock price goes up.
- The company issues a massive dividend increase.
The first two options aren't good for shareholders. But usually, investors are content with a strong-performing stock, even if the yield goes down. For example, the share price of Sherwin-Williams has increased eightfold over the last decade, so investors probably don't mind that its dividend yield has fallen from 1.5% to just 0.75%.
The third option -- which is a massive dividend raise in lockstep with the share-price increase -- is very rare. But it's exactly what UPS just did for its shareholders. The price of UPS shares are up 49% over the last year, easily beating the S&P 500's 22% gain.
Coincidentally, the company's dividend just increased 49%, as well. This means that UPS stock, despite trouncing the market, will still have an attractive dividend yield of 2.7%.
UPS can afford its dividend increase
All dividends aren't created equal. Sometimes, a company decides to pay a large dividend just to appease shareholders. Other times, it keeps raising its dividend so that it stays a Dividend Aristocrat, which is a member of the S&P 500 that has raised its dividend for at least 25 consecutive years. Companies that don't want to lose this coveted title will sometimes raise a dividend, even if it means funding it with debt.
Instead of UPS issuing a dividend increase just to make investors happy, its dividend raise is grounded in earnings and free cash flow (FCF) strength on the back of a record 2021 performance. "In June, we told you we were going to target a dividend payout ratio at year-end of 50% of adjusted earnings per share, and we're doing just that," said UPS CEO Carol Tomé on the company's Q4 2021 earnings call.
UPS earned $12.13 in adjusted earnings per share (EPS) in 2021. Its forward annual dividend of $6.08 per share is just a few pennies off from being precisely half of that figure, so UPS fulfilled its promise.
Income investors can take solace knowing that UPS will keep raising its dividends as it grows adjusted EPS. For example, if it grows adjusted EPS by 6% in 2022, it should raise the dividend by 3% in 2023.
A healthy raise for a healthy business
A payout ratio of 50% is a relatively healthy one, as it indicates UPS still retains plenty of earnings to reinvest in the business or anything else it could use free cash flow for. That's exactly what management intends to do in 2022 and beyond.
For 2022, UPS expects to spend $5.5 billion on capital expenditures, $5.2 billion on dividends, and $1 billion on share repurchases. However, during the Q4 2021 earnings call, Tomé answered an analyst question by clarifying that the $1 billion for share repurchases is more like a floor, and the board has authorized up to $4.5 billion in 2022 share repurchases. The company's dividend raise isn't hindering its ability to grow or buy back its own stock.
UPS is still a value stock
UPS stock is now up nearly 120% over the past three years. Yet because the company has grown earnings at such a breakneck pace, its price-to-earnings (P/E) ratio is only 19.1 -- which is well below the broader market average.
UPS represents a classic example that stock-price fluctuations aren't indicative of a stock being expensive or cheap. Even though UPS stock keeps outperforming the market and is currently at its all-time high, you could make the argument that it's still a great value stock, given its low P/E ratio.
UPS is the industry-leading package-delivery company and has room to grow its business both domestically and internationally. With a 2.7% dividend yield to boot, it's a great blue chip dividend stock that's worth buying now.