Since I’m still so early in the accumulation phase of my dividend investing strategy, my number one priority right now is building that snowball to a decent size as quickly as possible. My goal for 2015 is to reach a point where my portfolio consistently spits out at least $50 a month in passive income. As such, I am literally throwing any and every penny I can get my hands on into the stock market these days. I try to find attractively priced companies that pay juicy dividends and that have proven track-records of increasing those dividends year after year. A week ago I rounded out a full position in Apple, and today I continued that trend by initiating a full position in the industrial titan and dividend aristocrat known as Emerson Electric. On 5/11/2015 I bought 34 shares of EMR at $58.82/share, for a total investment of $1999.88.
When deciding whether or not to buy a stock, I perform both a quantitative and qualitative analysis. All the data I use to calculate shit is pulled from Morningstar. So without further ado, let us first take a look at some of the numbers and ratios behind Emerson Electric.
When looking at a company’s revenue growth, I like to compute the compound annual growth rate over 10-year, 5-year, and 3-year periods. This allows me to see whether or not the business has been growing over time and it also shows me whether the growth has been accelerating or decelerating in recent years. Here’s a chart I created of Emerson Electric’s CAGR for those 3 time intervals:
Well, this is some very slow revenue growth there, which isn’t all that surprising for an industrial company that has been around for over a century. This is certainly not a stock where I would expect to see revenue growth anywhere near that of, say, Apple. The 3-year CAGR is especially sad, but the company has explained this decline due to short-term headwinds in the form of sluggish industrial spending, negative currency translations, and, most recently, decreased capital spend in both the telecom and energy sectors.
In raw numbers, Emerson Electric’s revenue grew from $17.305 billion in 2005 to $24.537 billion in 2014, which translates to an increase of about 41% over the span of a decade. This is still a very respectable number for a slow-growth company like Emerson Electric, and I think that it paints a better picture of the company’s profits than the painfully small revenue CAGR would suggest.
EPS growth is another important metric to look at because it will give you a better picture of a company’s financial health. Revenue growth is nice and dandy, but if net income isn’t increasing proportionally, then there’s clearly something wrong going on. Here’s what Emerson Electric’s EPS CAGR looks like:
Ouch. Even though things look like they’ve been going well over a 10-year or 5-year basis, it seems as though the company has been doing terribly over the past 3 years. So, what gives? Well, let’s look at Emerson Electric’s EPS over the last few years. In 2011, the EPS sat a high of 3.27, only to drop to 2.67 in 2012. It then increased slightly to 2.76 in 2013, and then more aggressively to 3.03 in 2014.
I’m not going to lie, a negative EPS growth is definitely not something I want to see. However, in this case it’s not something to be too worried about. Emerson Electric does belong to a cyclical industry, and the dip in earnings in 2012 corresponds to the short-term headwinds described above in the revenue section. Yes, the EPS was lower in 2014 than it was in 2011, which is why the EPS CAGR ends up negative. But the EPS has actually been moving up again since 2012, so it’s not like the company is continuing to go downhill. And looking at the TTM, the EPS actually sits at 3.79, which is a lot higher than it even was in 2011. So the company is actually recovering nicely from that temporary dip in 2012 at the heels of the recession, and, a year from now, the computed 3-year EPS CAGR will become positive again.
All in all, I am not worried about this negative 3-year CAGR, because it just isn’t representative of what is actually going on.
Return On Equity
I like to look at a company’s return on equity to get an idea of how much profit it generates with the money that shareholders invest in it. A really low ratio is synonymous with low profitability and begs the question of what the **** the company is doing with our cash. Emerson Electric absolutely kills it here; the industrial giant boasted a robust 20.74% in 2014, which strongly outperforms the industry average of 15.2%. And to sweeten the pot even further, the company’s TTM ROE currently sits at a superb 27.2%, thus thoroughly crushing its peers.
One caveat: a really high return on equity can be inflated due to heavy leverage, which is obviously not good. So before rejoicing at the sight of a high return on equity ratio, it’s a good idea to look at a company’s leverage ratios, which brings me to…
The debt-to-equity ratio will tell you if a company has been using a lot of leverage to finance its growth. Acceptable numbers here will vary depending on the industry you’re dealing with, with some sectors like the financials sector being notorious for their high levels of debt. Emerson Electric’s debt-to-equity ratio sat at a very low 0.35 in 2014, significantly below the industry average of 1.0 (which is already low in and of itself).
Interest Coverage Ratio
Another important ratio I like to look at is the interest coverage ratio, which you get by dividing a company’s earnings (before taxes, interest, rainbows, etc.) by its interest expenses. I usually like to see a number above 5 here, preferably even 10, though again this can vary significantly depending on the industry we’re dealing with. Emerson Electric’s interest coverage ratio was at a comfortable 16.36 in 2014, and its TTM interest coverage ratio currently hovers around an even healthier 21.5.
All in all, it seems like Emerson Electric is doing a wonderful job of managing its debt, which means that its strong return on equity isn’t the result of high leverage. High-five Emerson, yo!
The company boasts an attractive yield in the vicinity of 3.2%. As someone who is aiming for an average portfolio yield near 3.5%, I definitely like to see these kinds of numbers.
Emerson Electric’s payout ratio floated around 56.4% in 2014, which is healthy and leaves the dividend a good amount of room to grow. The TTM payout ratio sits at a lower 47.5%, which is of course even better.
Dividend Growth Rate
Dividend growth rate is one of the most important factors to look at as a dividend investor. Here are Emerson Electric’s 10-year, 5-year, and 3-year dividend CAGRs:
As we can see, Emerson Electric seems to have averaged an annual dividend growth rate of roughly 8% for the past 10 years, without much acceleration or deceleration. The 5-year CAGR is a little lower at 5.5% or so, which makes sense given the fact that the dividend more or less stagnated between 2009 and 2011, and only started picking up the pace again in 2012 (which is why the 3-year CAGR is more elevated).
Overall, a DGR of about 8%, combined with a yield in the neighborhood of 3%, gives us a Chowder number of 11 or so, which I find very acceptable for a company as established as Emerson Electric that is long past its days of high growth. I usually look for a minimum Chowder number of 10, so Emerson Electric makes the cut here!
I used a DDM (Dividend Discount Model) with a discount rate of 10% and a dividend growth rate of 7% to valuate the stock. Since the company’s payout ratio is under 50%, and since its 10-year DGR sits at 8.43% and its 3-year DGR sits at 7.62%, I think that that an expected DGR of 7% for the years to come is reasonable. Using these values, my fair value came out to $61.35, which means that I purchased the stock at a very slight discount. Not bad!
There isn’t too much to say here. Emerson is a good old, boring industrial company, very much like its other ‘Electric’ brethren, General Electric.
The business operates through five segments:
- Process Management. This segment produces a variety of solutions to help businesses control, regulate, operate, measure, and analyze the manufacturing or automation process. Such solutions include measurement devices, system services, final control & diagnostic services, and a bunch of other crap that I’m sure you don’t give a fuck about.
- Network Power. This segment protects and optimizes power supply for critical infrastructure such as data centers, communication networks, healthcare facilities, and industrial facilities. Basically the kind of stuff that you don’t want getting hacked like in Die Hard 4.
- Industrial Automation. This segment provides expertise and solutions to optimize automation. Services that you will find in this category include power generation, electrical protection, power quality, power transmission, fluid automation, machine motion, and precision cleaning. Products include motors and drives, industrial electrical products, materials joining, and wind turbine controls. Basically, all sorts of boring shit you’ll never use or need in your daily life at the individual level.
- Climate Technologies. This segment’s core offerings lie in commercial, residential, and industrial heating, ventilation, air conditioning, and refrigeration solutions for a variety of applications. When I first heard the term “climate technologies”, I was expecting machines that can, like, turn the planet into Northrend or something, not a synonym for freaking fridges and air conditioners. “Climate Technologies” sounds way too badass for that kind of crap.
- Commercial and Residential Solutions. This segment offers an extensive range of appliances, storage products, and tools that provide solutions for homeowners, contractors, and professionals. Yeah, cool story bro.
Emerson Electric’s huge size and global reach gives it a significant advantage over smaller competitors, which makes for extremely high barriers to entry in the industries in which it operates (see above). The company owns over 220 manufacturing facilities spread throughout the world, and it employs close to 115,000 people, of which more than 10,000 are engineers. Furthermore, Emerson Electric boasts a state-of-the-art R&D department, which further amplifies its competitive advantage to a scale that smaller competitors simply cannot match.
After recently closing my position in General Electric, I was on the hunt for a suitable replacement in the Industrials sector, and I think that Emerson Electric fits the bill in spades.
I personally think Emerson Electric is one of those “buy it and forget it, sleep good at night” stocks that you can literally shelve and not worry about for the rest of your life. It’s a company that’s been around the block for more than a century and that is closing in on its 60th year of consecutive dividend increases. And as a leading provider of technology and engineering solutions to the industrial and consumer markets, it boasts a wide economic moat and a thoroughly diversified business model. Together, I think these factors make for a stock that you can count on for forming a stable and reliable bedrock to any dividend portfolio.
What’s your opinion of EMR? Do you think it is fairly valued at current prices? What’s your favorite color?
Disclosure: long EMR