If you're looking to buy a partial ownership stake in
a publicly-traded company, then there are a number of things that
you should consider before doing so. These things include the
company's business model, historical earnings growth and corporate
governance. Another thing that you may want to consider is the
Dividends are very important as they can provide
some cushion for investors to the downside and can also signal
confidence from management in the company's future. Many investors
pursue dividend-paying stocks to augment their returns with a nice
income stream. Most of them prefer to diversify into many different
sectors of the economy in order to spread out their risk.
Today, let's take a look at Johnson
a huge player
in the healthcare sector of the economy. Let's see how the dividend
of Johnson & Johnson stacks up in terms of strength and
sustainability and what investors can expect going forward.
Considering that this article is about Johnson &
Johnson, many seasoned investors out there will consider this
analysis as having the same effect as saying that Michael Jordan was
a great basketball player. However, this article does provide a
framework by which an investor can determine the health of any
The first and most obvious consideration when
evaluating a company's dividend is the dividend yield, which
represents the percentage of your investment that you'll receive
back over the next 12 months at current share prices and dividend
Johnson & Johnson currently
yields 2.7%. This is the yield that is based on dividend payments
that were made over the last 12 months. The company is expected to
announce a dividend increase later this month. The dividend yield is
currently at its lowest level over the past five years. Over the
past five years, the dividend yield has ranged between
2.7% and 3.8%.
While the current yield is at its lowest level in
some time, it is still respectable. This figure should rise as soon
as the next dividend is announced.
When analyzing a dividend, it's not all about the
yield. As an income investor, you want that dividend to grow over
time in order to protect your income stream from the erosive effects
of inflation as well as to show confidence from management in the
Over the last five years,
Johnson & Johnson has increased its dividend by an average of 7.5%
each year. The company's most recent dividend increase was announced
in April 2013 and was a roughly 8% hike. These dividend growth rates
easily outpace inflation, which currently
sits at around 1.6%.
Johnson & Johnson has increased its dividend every
year for the last 51 years. There are very few companies who can
claim such a long streak of sending money back to shareholders.
Consider that fellow healthcare giant Pfizer has increased its
dividend just 5 years in a row, after cutting it in half back in
2009. Merck has only increased its dividend three years in a row
after freezing it from 2004 to 2011.
This long streak of dividend increases lands Johnson
& Johnson on the list of S&P 500 Dividend Aristocrats, an elite
group of companies that have increased their dividends for at least
25 years straight. The good yield and strong history of dividend
increases illustrate the commitment of Johnson & Johnson when it
comes to returning cash to shareholders.
Free Cash Flow Payout Ratio
While high dividend yields and strong dividend growth
are nice, we need to make sure that the company in question can
generate enough cash flow to cover its dividend payment. The free
cash flow payout ratio tells us what percentage of the company's
free cash flow is eaten up by dividend payments. Lower free cash
flow payout ratios are better as they leave more room available for
future dividend increases or other uses of the capital.
Free cash flow is the cash flow a company generates
in its operations minus capital expenditures.
Over the last 12 months,
Johnson & Johnson has paid out 53%
of its free cash flow to
shareholders in the form of dividend payments. This percentage is
inline with what the company has done over the last four years. Its
four-year average free cash flow payout ratio sits at just 50%. This
is a very healthy payout ratio, which leaves plenty of room for
future dividend increases, along with other value-creating
From looking at the company's free cash flow payout
ratio, it can be concluded that the dividend is in no danger at this
point in time.
Interest Coverage Ratio
One of the ways in which we can determine whether or
not a company will have trouble paying its dividend in the future is
by looking at how much interest it has to pay every year. More money
spent on interest means less money that is left for dividends. To
determine the effect that debt has on a company's ability to pay its
dividends and fund other activities, I calculate the interest
coverage ratio. This ratio is calculated by dividing the company's
earnings before interest and taxes by its interest payments over the
year. You generally like to see this ratio at or above 2. If it's
below this figure, then that may signal trouble ahead for the
company in question.
Fortunately, this is not a
problem at all for Johnson & Johnson. Its earnings
before interest and taxes over 2013 of $16B covered
its interest obligations a whopping 33 times. At this point, debt is
not having an effect on the company's ability to pay its dividends.
Earnings Per Share Growth Forecasts
While it's good to look at what
past dividend payouts have been and how they relate to past
earnings, we need to get an idea as to what future dividend payouts
are going to look like. One of the ways in which we do this is by
looking at analyst forecasts for earnings-per-share growth. This
year, analysts expect Johnson & Johnson to increase
its earnings per share by 5.4%, followed by a 7.9% increase in 2015.
It should be mentioned that these projections are based on non-GAAP
Earnings per share growth in the high single-digit
range should be more than enough to maintain the dividend going
forward as well as support dividend increases in the future.
The stock of Johnson & Johnson currently has a
reasonably attractive dividend yield. The company has shown a strong
commitment to returning cash to shareholders through its 51-year
streak of dividend increases. Its free cash flow payout ratios over
the last several years show that the company's dividends have been
well-supported by free cash flow, and that there is room for
continued dividend growth. With a very healthy free cash flow payout
ratio and expected mid to upper single-digit earnings-per-share
growth, I see no reason why shareholders should not expect high
single-digit dividend growth to continue for now. The company could
even decide to expand its payout ratio a little bit for a
double-digit dividend increase. We will see what the company decides
to do very soon.