Even with the S&P 500 down 9% year to date, the index only yields 1.4%. That's much lower than the 4.3% average historical yield over the course of its history. With such a low dividend yield, income investors may not be able to rely on owning index funds that track the S&P 500.
Fortunately, some stocks pay higher dividends that are relatively safe. Pharma stock Merck (MRK 0.24%) appears to be one of those stocks. Let's explore several factors that could make Merck an attractive option for income investors also looking for growth prospects.
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Last month, Merck announced strong results for 2021. The company recorded $48.7 billion in revenue, a 17.3% rise over 2020. Meanwhile, its non-GAAP (adjusted) diluted earnings per share (EPS) soared 32.9% year over year to $6.02. Its non-GAAP net margin was equally as impressive, growing nearly 370 basis points to 31.4% in 2021.
So how did the company generate such tremendous growth? And what's the outlook for the business and its investors now? Let's take a look.
A robust product portfolio
Look to Merck's leading portfolio of drugs, vaccines, and animal health products to understand the company's strong, recent results.
Sales of Merck's crown jewel -- cancer drug Keytruda -- surged 19.5% higher year over year to $17.19 billion in 2021. Keytruda's significant growth stems from the fact that the drug received eight additional U.S. Food and Drug Administration (FDA) approvals in 2021. One of the more important FDA approvals came last August to treat patients with advanced renal cell carcinoma, which I estimated would add $400 million to Keytruda's annual sales.
Merck's human papilloma virus (HPV) vaccine, named Gardasil/Gardasil 9, saw its revenue soar 44.1% year over year to $5.67 billion last year. Because Gardasil vaccine can prevent certain HPV-related cancers, demand for the vaccine will likely only grow going forward. In fact, CEO Rob Davis pointed out in the company's recent earnings call that he believes Gardasil will be able to double its sales by 2030 on the back of this growing demand.
Finally, Merck's animal health segment generated $5.57 billion in sales last year. This represents an 18.4% growth rate over the year-ago period. Merck's animal health segment growth was mostly driven by its Bravecto line of products (used to kill adult fleas and ticks on cats and dogs).
A promising drug pipeline
Merck's results for last year were encouraging. But were they just a one-off event? Or can investors expect more solid growth ahead? I believe the latter is true.
The company boasts a deep drug pipeline of 71 programs in phase 2 clinical trials and 25 programs in phase 3 clinical trials. Thus, the company should have more than enough new drug indications coming to market to drive future growth.
That's precisely why analysts are forecasting 10% annual earnings growth in the next five years over the $6.02 base for 2021.
A sustainable dividend payout ratio
Merck's appeal doesn't end at its great operating fundamentals. Income investors should be pleased with the stock's low dividend payout ratio of 43.2%.
This should provide flexibility to build on its 11-year streak of dividend increases in the years ahead. That's because Merck is retaining the majority of its capital to focus on acquisitions, debt repayment, and share repurchases to further strengthen the business.
Merck's safe dividend payout ratio and bright earnings growth outlook prompted the stock to recently up its quarterly dividend per share by 6.2% to $0.69. Pairing its 3.6% dividend yield with 6%-plus annual dividend growth makes this an appealing dividend growth stock.
An unappreciated stock
Merck seems to be a fundamentally strong company. But it doesn't look like the market is giving the stock the recognition that it deserves.
The stock is trading at a forward price-to-earnings ratio of 10.6, which is slightly below the general drug manufacturer industry average of 10.8. Given that analysts' average forecast of 10% annual earnings growth for Merck is higher than the industry average of 7%, Merck should arguably be trading at a premium to its industry.
Merck also looks to be discounted compared to its own history. The stock's 3.4% trailing dividend yield is slightly above its 13-year median yield of 3.3%. Since Merck's fundamentals are possibly better than ever, the stock should be trading higher than its current $76 a share.
