Whether the stock market is near an all-time high or in a bear market, no one wants to pay more for a share of a company than it is worth. But that's easier said than done, given companies have varying growth rates and business strategies.
A dirt cheap dividend stock could be a company that is being valued at less than its historical metrics indicate. Or it could have a compelling growth runway. Or it could have an excellent management team that consistently executes on plans and has a track record for growing earnings. Phillips 66 (PSX -0.35%), Kinder Morgan (KMI -0.05%), and United Parcel Service (UPS 0.53%) are three industry-leading businesses that are all cheap stocks based on historical valuations. But they are also well positioned to keep growing their businesses in the years to come. Investing in equal parts of each company gives an investor a dividend yield of 4.6%. Here's what makes each dividend stock a compelling investment opportunity now.
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Rewarding shareholders is a firm part of this energy company's identity
Scott Levine (Phillips 66): The dog days of summer are now fully here, and higher prices are taking a bigger bite out of peoples' personal finances thanks to inflation. Consequently, many investors are combing the discount racks to find quality dividend tickers on sale. The keyword here, though, is quality. Fortunately, you don't have to dig deep into the bargain bin to find a compelling opportunity; Phillips 66 and its 4.4% forward dividend yield are ripe for the picking.
An energy leader, Phillips 66 has a significant midstream business, operates multiple refineries, and deals in other niches of the oil and gas industry. And shares of this high-quality company are available at a notable low price point. Down about 23% from their 52-week high, shares of Phillips 66 are currently valued at 5.8 times operating cash flow -- a steep discount considering the company's five-year average cash flow multiple is 10.1. Similarly, the stock is trading at 8.3 times forward earnings, less than half of its five-year average forward earnings ratio of 17.2.
There are a variety of questions to consider when evaluating high-yield dividend stocks -- namely, how dedicated is management to maintaining the dividend? In the case of Phillips 66, it's clear management is firmly committed. For one, the company has fostered a culture of rewarding shareholders. Since its founding in 2012, Phillips 66 has hiked its dividend at a compound annual growth rate of 18%. Management reaffirmed on its recent second-quarter 2022 earnings call its desire "to target a long-term capital allocation framework of 60% reinvestment in the business and 40% cash returned to shareholders in the form of dividends and share repurchases."
A bet on the growth of U.S. natural gas exports
Daniel Foelber (Kinder Morgan): Few companies blend value and a high dividend yield quite like Kinder Morgan, which has a price-to-earnings ratio of just 16.5 and a dividend yield of 6.2%. What's more, the pipeline and infrastructure giant's price-to-free-cash-flow ratio is sitting well below its five-year median.
Kinder Morgan is mainly in the business of transporting natural gas. Some of that volume is for domestic consumption. But an increasing amount of natural gas could be used for export. Rising demand for liquefied natural gas (LNG) sets the stage for increased U.S. natural gas production, which means more pipeline takeaway capacity. Kinder Morgan's projects are incredibly capital intensive. However, Kinder Morgan can land long-term fixed-fee and take-or-pay contracts that reduce the volatility normally associated with oil and gas prices.
As good as the outlook is today, it's worth remembering that Kinder Morgan would be impacted if the U.S. economy and natural gas buyers around the world shift heavily away from natural gas over the coming decades. That could render much of its infrastructure to be far less valuable and take a sledgehammer to its earnings and FCF. However, natural gas continues to separate itself from coal and oil as a critical fuel source that underpins global power generation. Support for LNG investments bodes well for natural gas and its ability to complement renewables. Kinder Morgan is the perfect stock for investors who want a reliable passive income stream and believe in the growth of LNG.
This company demonstrated admirable earnings growth in its second-quarter earnings
Lee Samaha (UPS): It's no secret that package delivery companies' end market prospects are tied to the economy. More economic activity equals more demand for deliveries and more volume opportunity. That argument still stands, but it's not the whole picture at UPS because its management has decided to be more selective about the type of delivery contracts it works with. Key to its plan is expanding relationships with small and medium-sized businesses (SMBs) and healthcare companies, and increasing business-to-business (B2B) deliveries. Meanwhile, UPS is willing to forgo some less profitable deliveries with significant customers such as Amazon. The idea is to focus on maximizing the assets within its existing network and growing its most profitable deliveries.
The good news is it's working. UPS managed to increase its revenue, profit margin, and profits in the core U.S. domestic package segment even though volumes declined. UPS U.S. volume was down 4% in the quarter but "more than half of the decrease" was due to actions UPS took to be more selective over volumes with a few large customers, the company said.
Meanwhile, its core objective of expanding SMB volumes is succeeding such that SMBs contributed 29.2% of total U.S. volume in the second quarter compared to 27.2% a year ago.
Everything points to a company that will continue structuring its business for long-term growth, whether or not a slowdown impacts its end demand. As such, UPS should emerge stronger from any slowdown, and trading on slightly more than 15 times estimated earnings in 2022 and offering a 3.1% dividend yield, UPS is an excellent value option right now.
