Everybody loves dividend stocks, and for good reasons. Dividends provide regular income to investors. Plus, a company must have strong fundamentals to generate the cash flow to deliver consistently growing dividends over time, so these payouts say a lot about the health of a business.
Apple (AAPL +1.21%), PepsiCo (PEP 0.50%), and Yum! Brands (YUM +1.06%) offer growing dividends, as well as solid fundamentals supported by valuable brands, a key source of competitive strength. Let´s look at these three companies and their potential for dividend growth in the years ahead.
Apple is plugged for dividend growth
Apple is the most valuable brand in the world, according to Forbes magazine. In the consumer electronics industry, trust and reputation are crucial competitive factors, and the Apple logo tells consumers they are buying a high-quality product supported by a deep ecosystem of software and applications.
Apple customers are known for their loyalty to the brand, and some studies even categorize this level of commitment as "blind loyalty." According to a survey by SIMOnlyContracts.co.uk, an amazing 59% of polled iPhone users said they wouldn´t even consider researching products from other companies when upgrading their smartphones.
Offering a similar perspective, CEO Tim Cook mentioned in the company's latest earnings conference call a ChangeWave study that found iPad Air users registered a 98% satisfaction rate, while users of an iPad Mini with Retina display reported an extraordinary customer satisfaction rate of 100%.
Source: Apple.
This tremendous level of brand power and customer loyalty enables Apple to generate big and growing cash flows, which the company is actively distributing to investors via dividends and share buybacks. Apple produced nearly $10.3 billion in cash flow from operations during the second quarter, and it distributed $8 billion of that money to shareholders.
Apple pays a dividend yield of 2%; the payout ratio is below 30% of the average earnings estimate for fiscal 2014, which leaves considerable room for dividend increases over time.
PepsiCo: a king among dividend aristocrats
Dividend aristocrats are companies that have proven their fundamental long-term strength by increasing their payouts over no less than 25 uninterrupted years. PepsiCo is not only part of the S&P 500 Dividend Aristocrats index, but the company has an extraordinary track record of 42 consecutive payout increases, which makes it one of the most remarkable names in that select group of high-quality dividend stocks.
Dividends don´t come out of thin air, of course. This global juggernaut in the snacks and soda business owns 22 brands that each make more than $1 billion each in annual revenue, including widely recognized names such as Pepsi, Mountain Dew, Gatorade, Tropicana, Lay's, Doritos, and Quaker.
A gigantic distribution network and abundant financial resources to invest in areas such as marketing and product innovation provide additional sources of competitive strength for PepsiCo.
Source: PepsiCo.
The trend toward healthier eating and drinking represents a challenge for companies in the business, but PepsiCo is actively investing in product innovation to adapt to changing consumer habits. PepsiCo's "good for you" portfolio of brands targets health-conscious consumers with a growing menu of low-calorie and natural product alternatives.
PepsiCo´s dividend yield stands at a generous 2.9%, and the payout ratio of roughly 57% of earnings forecasts for 2014 is quite sustainable for such a rock-solid global powerhouse.
Mouthwatering dividends from Yum! Brands
The fast-food industry is notoriously challenging and competitive, but Yum! Brands benefits from extraordinary brand power thanks to the global popularity of its leading chains: KFC, Pizza Hut, and Taco Bell. Including the three brands, the company owns 40,419 restaurants across the world as of the second quarter of 2014.
This gigantic scale means that Yum! Brands enjoys tremendous leverage when dealing with suppliers, which allows it to obtain convenient prices and favorable purchasing conditions. Brand recognition, cost advantages, and marketing firepower mean Yum! Brands is second to none in the fast-food business.
The company has been particularly successful in expanding into emerging markets in recent years, which provides superior opportunities for growth. Unfortunately, this also carries additional risks, particularly in China, a crucial market where Yum! Brands owned a total of 6,387 restaurants as of the end of the second quarter.
Source: Yum! Brands.
Yum! Brands was hurt in late 2012 by safety concerns regarding excessive use of antibiotics by poultry suppliers at its KFC division in China; this was followed by avian flu worries in the first months of 2013. More recently, an undercover report from Chinese TV in late July reported that supplier Shanghai Husi Food was using meat past its expiration date.
Just when the company seemed on its way to full recovery in China, with a 21% systemwide sales increase during the second quarter, management has recently admitted that the negative news coverage is having a significant negative impact on sales. So it looks like Yum! Brands will need to continue streamlining its supply chain and investing in fixing its image in China over the coming months.
Leaving the short-term uncertainty aside, exposure to emerging markets remains a compelling growth opportunity for investors in Yum! Brands in the years ahead. Besides, the company has a generous dividend growth trajectory, so sales and cash flows in emerging markets will most likely translate to increased dividends.
Source: Yum! Brands
Yum! Brands has a conservative payout ratio in the area of 40% of earnings forecasts for 2014, and the dividend yield is roughly 2%.
Key takeaway
Growing dividends are great, and when supported by a durable competitive advantage such as brand differentiation, they can be even better. Apple, PepsiCo, and Yum! Brands look particularly well positioned to continue paying growing dividends in the years to come.
