Whether you're new to investing or have been at it for a lifetime, you need to understand the business models of the companies you invest in. Understanding exactly how a company makes money greatly reduces your overall investing risk.
In that spirit, today we're going to look at three companies with straightforward business models and strong dividends, focusing on companies that have been around awhile and look like they're going to stay around. Because what good is a great dividend if the company's not going to be there to pay it out?
Without further ado, then, here are three big, safe dividend stocks for the beginning investor, along with my personal favorite reasoned out at the end:
There's no mystery to how Coca-Cola makes money: selling carbonated, brown sugar water and related drinks to a thirsty public. And thankfully, the company has -- except for brief periods -- shied away from trying to diversify. Rival PepsiCo
Not Coke. For 125 years, the company has known what it's good at and has brilliantly stuck with it. Let's have a look at some important numbers for this bastion of American capitalism:
- We normally like to see dividend yields of around 3%: an arbitrary threshold, but one we feel separates the wheat from the chaff. Coke only pays 2.7% versus rival Pepsi's 3.1%. But Coke is such a steamroller of a company, consistently grinding out steady revenue and profit quarter and after quarter, that I'll gladly trade away the extra yield to stay with Coke.
- We like to see dividend-payout ratios of 50% or less: the lower the percentage, the more sustainable. At 51%, Coke is essentially right on the money. No complaints here. And at 51%, to be fair, Pepsi is also managing its dividend well.
- Gross margin is an indicator of brand strength, pricing power, and management and manufacturing efficiencies -- factors that directly affect the bottom line. With a gross margin of 60.5% over the past year, Coke dominates its sector. Pepsi, at 52.2%, is clearly No. 2.
Coca-Cola has a five-year average dividend yield of 2.8%, and also just turned in excellent first-quarter results -- with revenue growth of 5.9% year over year, income growth of 7.9% YOY, and worldwide volumes up by 5%. Coca-Cola is also, arguably, the strongest brand name on the planet.
Another bastion of American capitalism, Chevron has a business model that's delightfully easy to understand: extract, refine, and sell the fuels that cars, trains, planes, and lawn mowers around the world run on. The company also produces natural gas, a fuel currently experiencing a robust resurgence here in the United States. And the company's been at this straightforward yet profitable game since 1879.
Let's have a look at some important numbers for Chevron:
- We said we look for a 3% yield on our dividend stocks, and at 3.4% Chevron doesn't disappoint. ExxonMobil
only manages 2.6% here. (NYSE: XOM)
- Chevron's payout ratio is a low, sustainable 23%. On this metric, ExxonMobil matches Chevron exactly. Well done to both companies.
- Gross margin for Chevron is a 30.5% over the past year, the best in the industry, just edging out ExxonMobil's gross margin of 29.2%.
Chevron's earnings for the first quarter of 2012 were up a healthy 4.2% year over year. The company also declared a $0.90 dividend for the second quarter, $0.09 higher than the first quarter. We always like to see dividends going up.
3. Dow Chemical
Here's another straightforward business model for you. Dow Chemical manufacturers a range of chemicals that show up in products and economic sectors as far afield as agriculture, pharmaceuticals, rubber, plastics, electronics, and energy. For better or worse, industry has come to rely on chemicals --and Dow has been leading the way since 1897.
Let's have a look at some important numbers for Dow:
- The company pays a robust dividend of 3.7%, easily clearing our 3% hurdle.
At 54%, Dow's dividend payout ratio is right in the pocket and, hence, very sustainable.
The five-year dividend average is 4.6%, a good sign that it likely won't drop below the 3.7% it's at now. On that subject, while revenue and income are down, the company said it will raise its dividend by 28% in the second quarter.
And the winner is...
As thirsty as this world is for both great soda and fossil fuels, my personal favorite of the three selected dividend stocks is Dow. Not only does it have the current best dividend and the very real promise of more, chemicals are such an intricate part of our increasingly industrialized world that it's hard to see this company not doing well far into the future. And anywhere chemicals are used, Dow is there.
And there you have it: three great companies with business models any investor can get their head around, and stocks that offer some of the market's best, most sustainable dividends. If today's column has left you wanting more, check out this free Motley Fool special report: "Secure Your Future With 9 Rock-Solid Dividend Stocks." The title says it all. Get your copy while the stocks are hot by simply clicking here now.
Fool contributor John Grgurich is not a worldwide, chemically charged powerhouse, but is seriously considering becoming one. Nor does he own shares in any of the companies mentioned in this column. The Motley Fool owns shares of PepsiCo and Coca-Cola. Motley Fool newsletter services have recommended buying shares of PepsiCo, ExxonMobil, Chevron, and Coca-Cola, as well as creating a diagonal call position in PepsiCo. The Motley Fool has a sweet disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.