Hello, this is Div4son,

Last month, I bought P&G a couple of times. This article captures my thought process.

Procter & Gamble Co. (P&G), is an American multinational consumer goods company founded by William Procter and James Gamble.

The company focuses on the following areas: Beauty Care; Baby, Feminine, and Family Care; Fabric and Home Care; Health and Grooming. It has world wide presence: Asia; Europe; India, the Middle East, and Africa (IMEA); Latin America & North America.

Last year, P&G announced it was streamlining the company, dropping around 100 brands and concentrating on the remaining 80 brands, which produced 95 percent of the company's profits.

In general, my basic DGI strategy is:

Good quality + high yield + high growth (+ time & patience)

This strategy follows the same framework as the SBI book.

I use a simple screen for stocks:

- Yield over Avg Yield > 1.10
- Yield > 2.5% (but less than 7%)
- Payout Ratio < 0.8
- Chowder > 10

Moreover, the Chowder Rule is also slightly below the threshold as we can see below.

PG 5/31/2015 | Area | Criteria | CheckList | Comment |

Quality Company
| Dividend Growth | >5 years | Yes | 58 years |

ROE/EPS/Op Margin | Stable | Yes | See Chart | |

Long term Avg Growth | Stable | Yes - but no for short term | See Chart; 7% growth from S&P Cap IQ | |

FCF over Dividends | Yes | Yes | See Chart | |

M* Moat | Wide Moat | Wide | M* Wide | |

M* & S&P Credit Rating | > BBB+ | Yes | S&P AA- M* AA | |

Cash to Debt & Interest Coverage, Debt to Equity | Cash Debt >1 or Interest Coverage > 5 | Yes | Cash to Debt 0.41 Interest Coverage Debt to Equity 21.56 | |

M* & S&P Stars | > 3 Stars for both | Yes | M* 4 Stars S&P CapIQ 3 Stars A Quality | |

Payout Ratio | <60% | No | 0.69 Current Q | |

Dividend Growth
& Yield | Dividend Yield | >3% | Yes | 3.40% |

Dividend Growth | >5% | Yes | 8.30% | |

Chowder | >12% | No | 11.7% | |

Valuation
| Yield/Avg Yield | >1.1 | No | 1.03 |

Dividend Yield Theory Mid Point | Below Mid Point | Yes | Mid Point 81.31 Low Point 70 | |

DRRM | ~10% | No | Assuming 7% growth; projected return=8.96% | |

M* Estimate | <M* est | Yes | M* 90 | |

S&P Estimate | < S&P cap IQ est | Yes | S&P Cap IQ 85 |

However, P&G is one of those companies you would want to build up your portfolio with.

__Quality analysis__**Years of Dividend raises**

P&G has 58 years
of dividend raises.This is a excellent sign of stability of the underlying company and a good indication continued dividend raises.

**Stability of key metrics**

**Free cash flow over dividends**

I use the free
cash flow per share and compare this with dividends per share. FCF
should cover the dividends. As you can see P&G's FCF YoY are covering
the dividends. This is a good indication of future dividends.

**Average growth**

Here, I look for the stability of growth indicators over ten years using the EPS and Revenue. From a ten year perspective, there is clearly growth. However, from 2010 until now, the revenue and EPS are essentially flat.

The same trend is reflected on the 10yr and 3yr running averages. From a 10 year growth perspective, P&G looks okay.

But the 3yr averages are clearly not very good.

**M* Moat**

I simply use
the moat indicator from M* to validate my findings. M* indicates that P&G has a wide moat. This is due to world wide P&G extensive brand recognition.

**Credit rating**

Here, I look
for companies with credit rating of BBB+. Just like banks wanting good
credit from you when you apply for a loan, you want companies which are
stable from a credit perspective.

P&G's credit rating from S&P is AA-. M* gives a rating of AA.

**Debt**

I look at the debt to equity ratio (<50) and cash to debt (<1) and interest coverage (>5).
Sometimes, a little good debt is good for a business. But too much debt can be a burden.

P&G's Cash to Debt 0.41 with Interest Coverageat around 51 which means the debt can be easily covered. The Debt to Equity is 21.56 which is way below the 50% threshold.

P&G's Cash to Debt 0.41 with Interest Coverageat around 51 which means the debt can be easily covered. The Debt to Equity is 21.56 which is way below the 50% threshold.

Over the years, the debt to equity ratio is well controlled.

**M* and S&P capital IQ rating**

I am looking for 3 stars and above from either. A four/five star is a bonus.

M* gives P&G 4 Stars and S&P CapIQ gives 3 Stars with A quality company

I am seeing that if the combined M* & S&P Capital IQ stars is 7 or more, then this usually is a good indication to buy (if the company has good fundamentals).

P&G combined stars is 7 - which means it is a good indication to buy.

__Dividend Yield and growth__
Dividend yield is 3.4% which is at my threshold of 3%.

5Y CAGR dividend growth is 8.30% which is higher my threshold of 5%
Chowder is 11.70 which is below my 12% threshold.

As you can see, the dividend growth has decreased significantly in recent years. In some ways, this is the effect of low top-line growth.

__Payout Ratio__
The payout
ratio for P&G is around 69% for the current quarter which is slightly above the threshold of
60%. The 2014 end of year numbers are close to the 60% threshold.

It looks like P&G is keeping the payout ratio within the 60% number - so I don't expect significant dividend growth in the near term.

__Value analysis__

**Average yield**

The current
yield per average yield for 5 years ratio is 1.03. I use this as a
quick indicator for valuation.This is no surprise, P&G is basically close to average value.

**Dividend yield theory mid point**

Using the
dividend yield theory spreadsheet (based on the Dividends Don't Lie
book), I calculate the mid and high points for the yield, from which I
derive the price.

Note: You can get the spreadsheet at: http://div4son.blogspot.com/2015/03/dividend-yield-theory-spreadsheet.html

Note: You can get the spreadsheet at: http://div4son.blogspot.com/2015/03/dividend-yield-theory-spreadsheet.html

This gives a mid point price of around $81, with a low price $70.

High Price: | 92.59 |

Mid Price: | 81.33 |

Low Price: | 70.07 |

**Dividend Drill Return Model**

Also, using the
DDRM model per the Dividend Playbook, I try to estimate the total
return. Using the growth information from above, I estimate a
conservative growth rate of 7% based on the 3yr EPS estimate from S&P Cap IQ report.

DDRM | |

Dividend Rate ($) | 2.67 |

Divided by: share price | 78.54 |

Current yield (%) | 3.40 |

Core Growth Estimate (%) | 7.00 |

Divided by: ROE (%) | 13.72 |

Multiplied by: EPS ($) | 3.15 |

Cost of Growth (%) | 1.61 |

Earnings per Share ($) | 3.15 |

Minus: Dividend | 2.67 |

Minus: Cost of Growth | 1.61 |

Funding Gap ($) | -1.13 |

Divided by: Share Price ($) | 78.54 |

Share Change (%) | -1.44 |

Core Growth (%) | 7.00 |

Plus: Share Change (%) | -1.44 |

Total Dividend Growth (%) | 5.56 |

Plus: Dividend Yield (%) | 3.40 |

Projected Total Return (%) | 8.96 |

9% total return is under my 10% threshold.

Using the dividend growth:

Dividend Rate ($) | 2.67 |

Required Return (%) | 10.00 |

Growth (%) | 5.56 |

Price | 60.20 |

Using the 3 Yr Est EPS growth (S&P Cap IQ)

Dividend Rate ($) | 2.67 |

Required Return (%) | 10.00 |

Growth (%) | 7.00 |

Price | 89.01 |

Therefore, I estimate the fair price of around mid 70s. With the current price around $78, I think P&G is trading around the fair price range.

**M* and S&P valuations**

Morningstar gives P&G a target of $90. S&P capIQ gives a target of $84. Therefore, with a current price around $78, P&G is reasonably priced.

**Plus Points**

- P&G has a portfolio of leading brands across the household and personal-care areas.
- P&G recently implemented a $10 billion cost-cutting initiative - which should greatly improve the bottom line.

**Risks**

- P&G is having a difficult time to improve its top line growth.
- P&G is suffering from the strong dollar

**Conclusions**

I think the P&G is an excellent company suffering from top-line growth. P&G management has implemented a $10B cost cutting measure that should help.

Overall, I think P&G is currently trading at fair value, and it is one of those companies that you want to build up your portfolio with.

In May, I added 2 more positions in P&G at ~$79 and ~$78. My P&G holdings (~80 shares) will provide me with $220 forward dividends.

Since P&G is my largest holding in my portfolio, I will probably not add more in the near term and let my other positions catch up. (Eg UNP return in investment is almost 11% compared with P&G 9%!)

That's it for now. What do you think of P&G?

Div4son

Div Son,

ReplyDeleteGreat job on picking up this Dividend King sub $80. We have made 2 purchases of PG recently as well with an average basis of $79.44. We feel that this a cornerstone holding in our portfolio and will continue to add more. Thank you for sharing your analysis and congrats on that added dividend income.

All the best.

FD

Forward Dividends,

DeleteThanks for commenting. Mr. Market is providing more opportunities to get P&G today. I ended up adding more DEO, KO and PM since I am overloaded with P&G. It's funny how the market reacted to DEO after some buyout talks.

D4S