There are a lot of things that one must consider
prior to buying stock in a publicly-traded company. Some of these
things include the strength of a company's business model,
geographic diversification, financial condition, valuation, and
Another important concern is the dividend that the
company in question pays out. Strength and sustainability of the
dividend are very important for dividend growth investors. In fact,
did you know that 42% of the total return of the S&P 500 over the
last 80+ years came from dividends? This is why dividends are so
important for any investment portfolio.
Today, let's dig into the consumer goods sector and
check out the dividends from Coca-Cola and Dr. Pepper Snapple. As most
everyone knows, these two companies are big players in the
non-alcoholic beverage industry. We will
look into the dividend history of each company, its historical
dividend growth rates, whether or not each company's dividend is
supported by cash flows, and whether the companies can sustain their
dividend growth rates in the future.
When talking about a
company's dividend, the first thing that normally comes to mind is
the dividend yield, which is the percentage of your capital that you
receive in return over the next 12 months, as long as the dividend
amount is not changed. Here are the dividend yields from both Coca-Cola
and Dr. Pepper Snapple.
Table 1: Dividend Yields of Coca-Cola and Dr. Pepper
The dividend yields of both of these companies are
about the same. These dividend yields reflect the dividend
increases that were announced by each company earlier this month.
The dividend yield of Coca-Cola is at its highest level in 3 1/2
years. Dr. Pepper Snapple has consistently traded at its current
dividend yield over the last couple of years. For this reason, a lot
of investors would say that Coca-Cola is a better value based on
historical dividend yield.
The dividend yield is just one of many factors that
need to be considered when it comes to the strength of a company's
dividend. A company's stock can have a high dividend yield due to an
unsustainable dividend payout ratio, or poor fundamentals that have
brought down the stock price. These items could then lead to a
dividend cut, which will reduce your yield on cost.
Dividend growth should also be considered. This is
because a company that increases its dividend payout every year
maintains the purchasing power of the income streams that are
received by its investors. If dividend growth rates can't keep up
with inflation, then investors are really losing money when they
consider the loss in purchasing power. Dividend increases also
signal a strong outlook by management and underscores their
commitment to shareholders. Many companies regard their dividends as
a sacred cow. Over time, dividend growth can supercharge an
investor's yield on cost. Consider Warren Buffett, who started
buying Coca-Cola back in the '80s. Now, he receives a yield on cost
of 40%, and growing every year as long as Coca-Cola keeps increasing
their payout. Sounds like a pretty good deal, no?
Let's see how the dividends of Coca-Cola and Dr.
Pepper Snapple have grown over the last 5 years. The numbers in the table
represent the average dividend growth rate over the last five years.
Table 2: Five-Year Dividend Growth Rates of Coca-Cola
and Dr. Pepper Snapple
Both of these companies have shown outstanding
dividend growth rates over the last five years, easily outpacing the
erosive effects of inflation. However, Dr. Pepper Snapple has the
highest 5-year dividend growth rate. This company has increased its
dividend every year since its spinoff, back in 2008. These numbers
are skewed a bit, as the company increased its dividend by 34%
between 2010 and 2011. The increases, however, have been
progressively smaller since then, with the most recent one coming in
at 7.9%, actually lower than Coca-Cola's recently-announced increase
Coca-Cola has had the most consistent dividend growth of the two,
with annual dividend growth ranging between 7% and 10% over the last
five years. Coca-Cola has now increased its dividend every year for the
last 52 years!
These strong dividend histories could not have happened
without each company's exceptionally strong business models and
brand strength. For right now, while Dr. Pepper Snapple has the
higher 5-year dividend growth rate, Coca-Cola's 52-year history of
consecutive annual dividend increases just can't be beat. With that
history, along with Coca-Cola's most recent increase beating out
that of Dr. Pepper Snapple, I give Coca-Cola the edge here.
Dividend Payout Ratio
High dividend yields and strong growth rates are all
well and good, but we need to make sure that the company in question
is making enough money to keep the dividends going. This is where
the dividend payout ratio comes in. The payout ratio is the
percentage of the company's profits that get returned to
shareholders in the form of dividends. You usually like to see this
ratio at 60% or below, as that will insure that the dividends will
continue to get paid, even if the company experiences a downturn
over a short period. Dividend payout ratios that approach or exceed
100% may signal future dividend freezes or cuts, which are not good
at all for investors.
The table below shows the dividend payout ratios for
Coca-Cola and Dr. Pepper Snapple, both on a trailing twelve month and a
four-year average basis. The earnings that I used in these
calculations are referred to as core earnings, which remove one-time
items that don't have an impact on the company's operations.
Table 3: Dividend Payout Ratios of Coca-Cola and
Dr. Pepper Snapple
From the looks of Table 3, the dividend payments of
both Coca-Cola and Dr. Pepper Snapple are in excellent shape. None of
them appear to be in any danger of getting cut. The current payout
ratios are slightly higher than the four-year averages.
While both companies are looking very good in this
category, Dr. Pepper Snapple has the lower payout ratio of the two.
How About That Free Cash Flow?
A lot of folks would end their analysis after
calculating the dividend payout ratio. However, we need to keep in
mind that that figure is based on dividend payout as a percentage of
earnings, not actual cash that comes into the business over a
certain period of time. Earnings often contain items like
depreciation, asset impairments, actuarial gains on pension plans,
and other non-cash items that can distort the picture as to how
healthy a company's dividend really is. For this reason, I like to
calculate the free cash flow payout ratio, which shows us what
percentage of cash that comes in over a 12-month period gets
distributed to shareholders. This paints a more accurate picture
when it comes to the dividend safety of the company in question.
Table 4 shows how much of both Coca-Cola's and
Dr. Pepper Snapple's free cash flow was paid out in dividends. Note that free
cash flow is calculated as operating cash flow, subtracted by
capital expenditures. Trailing 12-month and four-year average
figures are shown.
Table 4: Free Cash Flow Payout Ratios of Coca-Cola
and Dr. Pepper Snapple
Here, we see that the dividends that are currently
coming from each company are more than well-supported. With that
said, Dr. Pepper Snapple has the edge here as well, with less than
half of its free
cash flow being paid out as dividends. This should leave plenty of
room for future dividend increases, provided that the company can
continue its current free cash flow generation.
Coca-Cola also looks good here and should be able to
increase dividends going forward, as long as the company can
continue generating solid cash flows.
When it comes to the free cash flow payout ratio,
Dr. Pepper Snapple is the winner here.
Any Ways To Predict Dividends Going Forward?
A lot of folks would end their analysis here,
especially after looking at the free cash flow payout ratios.
However, these figures are all based on what happened in the past.
We need to find some clues as to whether the company can continue
paying steadily increasing dividends in the future.
Interest Coverage Ratio
The interest coverage ratio illustrates the size of
the company's pre-tax profits relative to the company's interest
payments. Generally speaking, the more debt a company has, the more
interest it has to pay, and the less that the company has left over
to pay out dividends. The interest coverage ratio is calculated by
dividing the company's earnings before interest and taxes (EBIT) by
the company's interest payments made over the same period of time.
Low interest coverage ratios (usually below 2) generally show that
the company is having a hard time just trying to make its interest
payments. That may signal dividend cuts or eliminations in the
future. For this reason, we like to see high interest coverage
Table 5 shows the interest coverage ratios of Coca-Cola
and Dr. Pepper Snapple over the last 12 months.
Table 5: Interest Coverage Ratios of Coca-Cola and
Dr. Pepper Snapple
Table 5 shows us that while Dr. Pepper was able
to cover its interest obligations almost 9 times last year,
Coca-Cola's interest coverage ratio is infinite. This is because the
company received a net $71M in interest income over the last 12
months. That means that while Dr. Pepper is spending money on interest,
Coca-Cola is making money on it.
So, while both companies are excellent in this regard,
Coca-Cola steals the show.
Net Debt To Equity Ratio
The amount of debt that a company has can ultimately
influence the future direction of the company's dividend. Companies
that have more debt typically pay more in interest. It should also
be noted that at some point, the company's debt will need to be
repaid. While many companies are working around this by refinancing
the debt at low interest rates, this option might not be as
attractive when interest rates head back up. When the company
finally does extinguish its debt, it may have an adverse effect on
whether it can continue paying dividends.
The net debt to equity ratio can offer us some clues
as to how much of a problem debt will be when it comes to paying out
dividends. It is calculated by subtracting the company's cash
position from the company's short and long-term debts, and then
dividing that by the company's equity position. The lower this
ratio, the better it is for not only the company in question, but
for us as investors. Ratios under one are typically considered to be
Table 6: Net Debt To Equity Ratios of Coca-Cola and
Dr. Pepper Snapple
Table 6 shows that while both of these companies look
decent here, Coca-Cola wins this comparison.
Forecasted Earnings Per Share Growth
Dividend growth can be driven by a couple of
different factors. One of these factors is the expansion of the
company's payout ratio, where the company decides to pay out a
higher percentage of its earnings or free cash flow to shareholders
as dividends. However, you can only expand the payout ratio so much.
Eventually, you must have free cash flow growth in order to pay
steadily increasing dividends. And, we all know that free cash flow
growth comes from earnings growth. To get a good idea as to the
prospects of a company's future dividend payments, it may behoove us
to look at analyst projections for future earnings per share growth
over the next couple of years. Table 7 shows the forecasted earnings
per share growth rates for Coca-Cola and Dr. Pepper Snapple over the next
couple of years. These numbers come from the analysts at S&P Capital
Table 7: Forecasted Earnings Per Share Growth for
Coca-Cola and Dr. Pepper Snapple
Both Coca-Cola and Dr. Pepper Snapple are expected to post
solid earnings per share growth over the next couple
of years. Dr. Pepper Snapple has better estimates for this year, but
Coca-Cola has better estimates for next year.
Today, we have looked at a number of different
factors in order to determine the strength and sustainability of the
dividends of Coca-Cola and Dr. Pepper Snapple. These factors include the
dividend yield, historical dividend growth rates, payout ratios,
interest coverage ratios, net debt to equity ratios, and analyst
projections for future earnings per share growth. After giving
careful consideration to all of these factors, we can conclude that
none of the dividends being paid by either of these companies appear
to be in any danger as of this writing.
When it comes to which company has the best dividends
going forward, it's very evenly matched. Both companies currently
have roughly the same dividend yield. While Dr. Pepper Snapple has a
higher 5-year dividend growth rate, Coca-Cola has it beat in the
consistency department with 52 straight years of dividend increases.
Dr. Pepper Snapple has lower payout ratios, both on an earnings and
a free cash flow basis, leaving plenty of room for future dividend
increases. However, Coca-Cola has Dr. Pepper Snapple beat when it
comes to a higher interest coverage ratio and a lower net debt to
At this point, I would say that both companies are
too evenly matched to say that one's dividends are better than those
of the other. If you have to choose one or the other for investing,
you may want to consider that Coca-Cola sells over 500 brands in
more than 200 countries, while Dr. Pepper Snapple has been retiring
about 5% of its stock every year in spite of its operations being
confined to North America.
I think that it would be wise to own both.