Dividend stocks can be the foundation of a great retirement portfolio. Dividend payments not only put money in your pocket, which can help hedge against any downward moves in the stock market, but they're usually a sign of a financially sound company. Dividends also give investors a painless opportunity to reinvest in a stock, thus boosting future payouts and compounding gains over time.
Yet not all income stocks live up to their full potential. Utilizing the payout ratio, or the percentage of profits a company returns in the form of a dividend to its shareholders, we can get a good bead on whether a company has room to increase its dividend. Ideally, we like to see healthy payout ratios between 50% and 75%. Here are three income stocks with payout ratios currently below 50% that could potentially double their dividends.
This week we'll start in an industry where we rarely look for substantive dividend growth potential, specialty chemicals, and examine why Westlake Chemical (WLK -1.18%) could be an attractive income stock that investors should consider.
First, let's get the primary concern out of the way: economic growth. Westlake is a global marketer of chemicals, vinyls, polymers, and fabricated building products which are used in things like food packaging and trash bags. A potential slowdown in economic growth could adversely impact Westlake Chemical and its pricing power. Thus, China's slowest annual growth in 25 years, compounded with the Bank of Japan pushing through a negative interest rate policy, is a bit worrisome.
On the flipside, there are a handful of exciting catalysts on the horizon for this specialty chemicals company. For example, Westlake made its offer public for rival Axiall (NYSE: AXLL) late last month, which valued the company at $2.9 billion, including debt. News of the proposed deal caused shares of Axiall to practically double, even though Axiall ultimately rejected the offer. Even though Axiall commented that the offer undervalued the company, a possible combination of these two businesses would greatly expand product diversification, improve the scale and efficiency of their operations, and likely provide an immediate boost to EPS. The simple fact that Westlake Chemical is on the prowl establishes that its balance sheet and cash flow are healthy enough to make a potentially attractive acquisition. I don't believe this is the last we'll see of Westlake's attempts to court Axiall.
Westlake has also done a good job boosting its shareholder yield from both ends. In addition to paying out $0.73 annually, good enough for a 1.7% yield, Westlake announced in November that its board had authorized the purchase of an additional $150 million worth of its common stock under its existing share repurchase agreement. This gives Westlake the ability to potentially boost EPS through repurchases, and to reward investors with a growing dividend.
Projected to deliver around $4.50 in EPS in fiscal 2016, Westlake could easily consider using some of its cash flow to eventually double its dividend and make the stock substantially more attractive to income investors. In a slow-growth environment, an above-average yield could go a long way to buoying Westlake Chemical's valuation.
Next up, we'll turn our attention to the consumer goods sector and take a closer look at why watch and accessories retailer Movado Group (MOV 0.13%) might be a smart name for income investors to consider.
As we saw with Westlake Chemical, there are concerns potential shareholders should be aware of. For starters, Movado's growth is often dependent on a growing economy. The 0.7% rise in U.S. fourth-quarter GDP is worrisomely low for a company dependent on discretionary spending. The other issue here is that Movado has to overcome the belief that watches are yesterday's news. In other words, smartphones and electronic devices can do everything a timepiece can, so there are concerns that watch sales could decline over time.
While the aforementioned concerns do have some merit, I don't believe these worries will hold up over time. The biggest factors working in Movado's favor are consumers' desire to own fashionable brand-name products, and its ability to remain on the leading edge of the timepiece innovation curve. Movado sits in a great niche -- its price is high enough to command brand exclusivity and luxury, yet it's not so far into the stratosphere that it excludes middle-class consumers. It also has its mix of stylish, traditional, and edgy timepiece designs. Even more intriguingly, Movado recently launched its Movado Edge series, which marks its entrance into the rapidly growing wearable technology category.
Also like Westlake Chemical, Movado has a long history of doing right by its shareholders. Following a $50 million share buyback announcement in 2013, the company announced a $50 million increase to the program in Nov. 2014 to a cumulative $100 million. This comes on top of the $141.5 million in net cash the company had sitting on its balance sheet as of the end of the third quarter.
Valued at just 11 times forward earnings and paying out $0.44 annually (a 1.8% yield), yet expected to bring in well over $2 in EPS in 2017, Movado's board very well may consider hefty dividend increases in the coming years.
Lastly, I'd encourage income investors to overcome their fears of volatility in the healthcare sector and dig deeper into Zoetis (ZTS -1.33%), the animal health company spun-off from Pfizer in 2013.
Recent weakness in Zoetis can pretty much be chalked up to two factors. First, we've witnessed a lot of pressure on drug developers in general since the vast majority are unprofitable. This isn't the case with Zoetis, but it hasn't stopped the company from losing more than 15% of its value year-to-date. The other concern has to do with the way drug developers price their products. Congress has been reviewing the pricing practices of a handful of drug developers, and the worry is that this could eventually lead to prescription drug reform. If reforms on pricing were to occur, it would mean bad news for all drugmakers.
Now for the good news: prescription drug reforms are probably not going to happen anytime soon. Systemic differences between the U.S. healthcare system and other healthcare systems around the world, such as drug exclusivity, the expediency with which drugs are brought to market, and sheer demand for pharmaceutical products in the U.S. should keep prices up for drug developers for a long time to come.
However, the bigger catalyst here is that buying Zoetis is a play on the growing companion pet market. According to data from the American Pet Product Association, U.S. pet industry expenditures have more than tripled, going from $17 billion in 1994 to an estimated $60.6 billion in 2015. This includes $23 billion in food, $15.7 billion in veterinary care, and $14.4 billion in supplies and over-the-counter medicine. Furthermore, a Harris Interactive poll from 2012 showed that of more than 2,600 surveyed adults, 91% said their pets were "a part of their family." Speaking as a pet owner who's dropped an insane amount of money on veterinary care over the past two years, I can attest that consumers are willing to pay to ensure the health of their "family members."
You should keep in mind that Zoetis still gets a big chunk of its revenue from livestock medicines, but with food a constant concern given a globally expanding population, over the long run Zoetis' opportunity in livestock should only increase.
Despite a current dividend of just $0.38 per share, I believe the long-term growth in companion pet and livestock medicines should allow Zoetis to double its payout sometime over the next decade.