You probably encounter at least one Illinois Tool Works (ITW 0.05%) product every day. But you may have never heard of the company, let alone the stock.
Commonly known as ITW, the company makes a variety of products, including fasteners, plastic and metal components, welding equipment, fluids and adhesives, cooking, refrigeration, and other food equipment systems, and more. Its diversified business spans seven segments, including automotive, construction, food equipment, polymers and fluids, specialty products (zippers, plastic rings, etc.), test and measurement electronics, and welding.
Isn't not a glamourous business. But the name of the game is to turn as much revenue into operating profit as possible. And ITW does this extremely well, which supports dividend growth and share buybacks.
Last Friday, ITW announced a 7% dividend raise and a new $5 billion stock repurchase program. The raise pole-vaults ITW's dividend per share to $1.40 per quarter and $5.60 per year -- marking the 53rd consecutive year the Dividend King has increased its payout.
Let's discuss the company's ability to drive shareholder value through dividends and buybacks and why ITW remains an excellent option for risk-averse income-orientated investors.
Image source: Getty Images.
An impeccable track record
It's one thing to hear that a company has raised its dividend every year and another to grasp the impact that track record has on investors. The world was a much different place 53 years ago in 1970. And ITW was a much smaller company.
Over the years, it expanded its business -- to a fault. Bigger isn't always better. And ITW learned that lesson the hard way.
Its corporate strategy for a while now has been to focus on operating margin growth instead of revenue growth. Put another way, it is running a tighter, leaner business, and not just expanding for the sake of it.
Industrial companies tend to be more prone to market cycles, which causes earnings to ebb and flow. This pattern can make it more difficult to support year after year of dividend raises than it would be for a much more stable business like a consumer staples company. But ITW's structure helps combat the cyclicality of its individual business segments. A dip in construction or welding can be offset by growth in food equipment and specialty products, making ITW better equipped (no pun intended) to handle downturns in its end markets.
One of the healthiest dividends on the market
This chart, which illustrates ITW's ability to compound results over time, shows its annual free cash flow (FCF) per share, diluted earnings per share (EPS), dividend per share (DPS), and shares outstanding over the last 20 years.
ITW Free Cash Flow Per Share (Annual) data by YCharts
Notice that the company's FCF per share and EPS exceeded its DPS every single year -- which is consistency at its finest. There's steady FCF, earnings, and dividend growth as well. What's more, the company has reduced its outstanding share count by more than half over the last 20 years, and nearly a third in the last 10 years. ITW is able to afford an expensive buyback program due to its earnings and FCF growth and its manageable dividend.
ITW's goal is to raise its dividend by 7% per year. And it made good on that goal on Friday.
ITW's dividend raises are by no means insignificant. One thing that some Dividend Kings will do is simply raise the dividend by one cent per share just so they retain their Dividend King status. 3M has done this for the last few years.
ITW has raised its dividend by at least 7% per year for the last four years, and over 15% per year for the four years before that. The result is that the company's dividend has more than tripled in the last decade.
ITW stock may sport a forward dividend yield of just 2.3%, but that's more a result of its outperforming stock price and not a lack of sizable dividends. It's worth noting that the company could feasibly pay a much higher dividend, but it is choosing to instead pursue a dual strategy of dividends and buybacks.
This approach is great news for long-term investors, because a declining share count permanently boosts EPS -- making the stock a better value -- and a dividend provides steady quarterly passive income.
ITW stock can be a lifelong holding
ITW is a dream industrial stock because it benefits from the growth of the overall economy without being too vulnerable to a downturn in a particular industry.
The company's track record of returning value to shareholders is only possible because of its steady earnings and free cash flow growth.
It's one thing to be a Dividend King and quite another to be a Dividend King that is making meaningful raises and buybacks every year no matter what the economy is doing. For that reason, and due to the strength of its business, ITW is one of the best Dividend Kings out there, and the stock is worth buying and holding for life.
