Published February 22nd, 2017 by Bob Ciura
Procter & Gamble (PG) is quite simply one of the most legendary dividend growth companies of all time. The stock has paid dividends for more than 120 years.
And, it has increased its dividend for 60 years in a row.
P&G is one of just 19 Dividend Kings, a select group of companies with 50+ years of consecutive dividend increases.
You can see the entire list of Dividend Kings here.
P&G’s dividend growth hit a speed bump in the last two years, as the company underwent a massive restructuring.
Since P&G is such an enormous company—it has a market capitalization of more than $230 billion—it needed time to see its turnaround efforts materialize.
But now that its restructuring is complete, the company is looking forward to accelerating earnings growth this year and beyond.
As a result, there is good reason for investors to expect P&G’s 2017 dividend increase to exceed its 2016 and 2015 dividend hikes.
P&G has a balanced business model. It operates five segments, and generates more than one-third of its total sales from emerging markets.
Source: 2016 Annual Report, page 2
Going forward, P&G will focus on 10 core categories, which encompass roughly 65 brands.
Source: Company Fact Sheet, page 2
One challenge that remains is a sluggish revenue growth rate. The dozens of businesses P&G sold off over the past few years will result in lost revenue.
And, P&G is still grappling with the strong U.S. dollar.
These factors caused P&G’s net sales to fall in 2016, by 8%. The weak sales figures came after a 5% drop in sales in 2015.
With these declines, it is easy to write off P&G’s turnaround as unsuccessful.
But this would be misguided.
The brands P&G sold were low-growth brands. The trade-off is that P&G has shifted its portfolio toward higher-value products.
The remaining core brands generate higher margins, which means earnings-per-share should continue to grow.
This was on full display in fiscal 2016. While sales fell, operating cash flow rose 5.5% to $15.4 billion, the highest level in the past five fiscal years.
Going forward, investors should keep their focus on earnings-per-share growth, which is key for P&G’s dividend growth prospects.
P&G’s massive asset sales allowed it to emphasize efficiency through higher productivity.
In the past five years the company exceeded $10 billion in cost savings across cost of goods sold, marketing, and overhead.
P&G’s massive cost cuts have had a significant impact on margins. In fiscal 2016, operating margin based on continuing operations expanded by 370 basis points, to 15.4% — marking the highest level in the past five years.
And, the company is not done — P&G believes it can deliver up to $10 billion in additional productivity improvements over the next five years.
In addition to cost cuts, share buybacks will be a driver of future earnings growth.
The billions of dollars P&G raised through the asset divestments can be utilized for share repurchases. For example, P&G expects to utilize $9.4 billion from the sale of its beauty brands portfolio to Coty (COTY), for share repurchases in 2017.
These trends are fueling strong results in fiscal 2017.
Last quarter, currency-neutral core earnings-per-share—which excludes restructuring costs, divestment gains, and foreign exchange—increased 9% year over year.
Source: Q2 FY17 Presentation, page 5
Operating profit margin expanded another 60 basis points during the quarter.
The top-two performing segments for P&G last quarter were grooming and health care, which grew core earnings-per-share by 10% and 13%, respectively.
The grooming segment benefited from volume growth due to product innovation, and price increases. Higher prices were particularly beneficial in the emerging markets, where sales of P&G’s grooming products rose by double-digits.
Source: Q2 FY17 Presentation, page 9
Meanwhile, the health care segment was boosted by higher pricing, and a favorable shift in product mix.
Source: Q2 FY17 Presentation, page 11
For the full fiscal year, P&G management expects core earnings-per-share will rise at a mid-single digit pace from fiscal 2016.
This will be more than enough to justify a dividend increase in 2017.
And, thanks to its accelerating earnings and operating cash flow growth, there is a good chance P&G’s dividend growth rate could accelerate as well.
P&G has endured some difficult years recently. For most companies, this would normally call into question its ability to continue raising dividends, in the face of a difficult operating climate.
But P&G is no typical company.
It has a long track record of making reliable dividend payments to shareholders, through good times and bad. In fact, 2017 represents P&G’s 127th year of paying dividends.
Source: Company Fact Sheet, page 2
P&G has proven the ability to navigate downturns, and continue increasing its dividend. It has raised its dividend for six decades, and it isn’t about to stop now.
Even better, P&G could pass along a higher dividend increase than it has in recent years.
Investors could not be blamed for being disappointed with P&G’s last few dividend increases. For example, in 2015 the company gave investors a 3% dividend increase.
Last year, P&G bumped up its dividend by just 1.1%.
The reason for this was that P&G management felt compelled to be cautious with the dividend raise, so as not to over-extend the company’s financial position and endanger its turnaround.
In fiscal 2016, the company generated core earnings-per-share of $3.67. The current annualized dividend is $2.68 per share.
Assuming a 4%-6% earnings growth rate in 2017, which would be in-line with management’s forecast, earnings-per-share could conceivably rise to roughly $3.82-$3.89 in fiscal 2017.
At the midpoint of that range, P&G’s payout ratio is roughly 70%, based on its current dividend.
That remains slightly higher than its historical average, which has remained around two-thirds of earnings-per-share.
But it’s still reasonable for investors to expect a 3%-5% dividend raise. This would not lift the payout ratio much, and would represent a dividend hike that at least beats inflation—unlike the 2016 raise.
The Dividend Kings are a rare breed, and have been among the most rewarding dividend growth stocks in history.
P&G has earned this distinction, with six decades of dividend growth under its belt.
While its turnaround has been a long and difficult process, there is a light at the end of the tunnel. P&G has emerged from its restructuring as a slimmer, more efficient company.
Now that P&G is growing earnings again, investors should look forward to a higher dividend increase from P&G this year than in years past.