I had presented stock analysis for CBY and observed that it is good dividend growth company. CBY is an international dividend achiever has been raising its dividends for last 11 years. The most recent dividend increase was in February 2009. Investors holding CBY shares are hedged against international growth, dollar fluctuations, and emerging markets. In addition, it continues to maintain its leadership position in confectionery business with its unparalleled reach across the global, multiple brands, and diversified revenue streams. Therefore, CBY knows its market positioning and brand potential.

In my view, overall KFT’s offer was a good for CBY shareholders and they should take the money and run. But the inclusion of KFT stocks in the bid offer is what I think makes CBY as undervalued. CBY is much bigger global brand than KFT, for which KFT needs to dole out cash (and not its shares). Accordingly, CBY rejected the first bid offer hoping to stoke competitive bidding from Nestle and Hershey. This is a good scenario for CBY and its shareholders.

This leaves KFT in a very intriguing position. KFT acquisition seems to be driven by its quest to become more competitive to Mars, inorganically get into higher profitability business, and expand into emerging markets. KFT made an offer worth USD 16.7 billion which includes cash and stock component. It will have to increase proportion of cash in its bid offering or raise the offer all together. KFT shareholders are being motivated by the statistics that their revenue growth will increase to 5%+ (instead of 4%+) and earnings per share will grow 9% to 11% (instead of 7% to 9%). If I were KFT shareholder, I would question these projections and its implications. Do I really want to spent USD 16.7 billion, probably more, to get this 2% additional growth in EPS? In a nutshell, management is saying, we cannot increase shareholder value organically, or give us USD 16 billion for inorganic growth of 2%?

Furthermore, KFT already has close of USD 25 billion of debt on the books. The acquisition of CBY will add financing debt and CBY’s existing debt. I would tend to assume that the total combined debt will easily go beyond USD 30 billion. Therefore, two or three years down the road  the value preposition or growth projection that KFT management is showing is likely to be out of whack.

I do not think KFT’s existing management which made this offer knows what is growth or value to shareholders. We investors need to understand that real growth or values means increased return on capital. Putting the company under huge debt for 2% top line growth is not a wise decision. What this does is (1) it generates enormous fees for investment bankers; and (2) C-suite officers get brownie points for building large global companies. These managers and investment bankers will not structure a deal which includes a clause for scheduled payments depending upon how it works out over a period of time. They take their fees and run. KFT shareholders are getting a raw deal.

To me, it is immaterial whether KFT increases its dividends or not, it is immaterial whether this acquisition goes through or not. KFT management has shown lack of vision by going after and overpaying (or over offering) for 2% revenue growth.

Cadbury Plc (CBY), a UK-based Company, is world’s leading confectionery company. In year 2008, it divested its beverage business into separate entity. Now Cadbury Plc is solely a confectionery company. It offers chocolate, gum/mints, and candy products under various brand names, including Bubbaloo, Cadbury Creme Egg, Cadbury Dairy Milk, Clorets, Dentyne, Eclairs, Flake, Green & Blacks, Halls, Hollywood, Stimorol. It operates in 60 countries.

CBY is an international dividend achiever has been raising its dividends for last 11 years. The most recent dividend increase was in February 2009. CDY can play a role of international equity in a dividend portfolio. It can also be viewed as a hedge for dollar and emerging markets (20% revenue from emerging markets). My objective here is to analyze if CDY still continues to be a good dividend growth stock and how does it rate on my scale of risk-to-dividends.

Trend Analysis
Here I am looking at trends for past 10 years of corporation’s revenue and profitability. These parameters should show consistently growth trends. The trend charts and data summary are shown in images below.

• Revenue: In general, a growing trend since 1999. The reduction in 2008 is due to divestiture of business unit. The average revenue growth for last 10 years has been approximately 9%.
• Cash Flows: Operational and free cash flow has been more or less stable until 2005. Although year 2008 cash flow issues can be arrtibuted to divestiture of business unit, it is difficult to understand what happened in year 2006 and 2007. Not a good observation.
• EPS from continuing operation: In general, it is range bound, but there is no consistency in earnings.
• Dividends per share: Dividends in local currency (i.e. GBP) has been growing consistently since 1997. Minor differences or reductions are reflection of currency fluctuations.

CBY - Summary of Trends

CBY: Data Summary

Risk Parameter Calculation
Here I use the corporation’s financial health to assign a risk number for measuring risk-to-dividends. The risk number for risk-to-dividends is 2.00. This is a medium risk category as per my 3-point risk scale. The reduced operating margin and lower current yield (relative to historical average) makes it a medium risk to dividends.

Quality of Dividends
This section measures the dividend growth rate, duration of growth, consistency over a period of past five years.

• Dividend growth rate: The average dividend growth of 8.7% (stdev. 10%) is higher than average EPS growth rate of 6.8% (stdev. 29.1%). Dividends have grown faster than earnings per share.
• Duration of dividend growth: 11 years.
• 4 year rolling dividend growth rate for past ten years: Less than 10%
• Payout factor: In the past 10 years, the average has been 75%. Presently it is at 63%. Historically, the company has maintained high payout ratio.
• Dividend cash flow vs. income from MMA: Here, I analyze how the dividend cash flow stacks up against the income from FDIC insured money market account. The baseline assumption is (a) stock is yielding 2.9%; and (b) MMA yield is 3.4%. Last 10 years average dividend growth rate has been 8.7%, however, my projected dividend growth rate is 6.8%. With my projected dividend growth of 6.8%, the dividend cash flow is equal to MMA income in 10 years time period. For dividend cash flow to be twice the MMA income, the pricing has to be $21.12 (i.e. yield 4.9%)

Fair Value Calculation
This section determines what price I should pay to buy a given stock

• Net present value (NPV) price based on 15 year DCF: $19.3
• Average high yield price calculated based on past 10 years: $24.1
• Pricing based on past 10 year relative price-to-earnings ratio. $35.6
• Pricing based on price-to-earnings ratio of 12: $20.4
• Graham number: $20.3

The range of fair value is calculated as $21.9 to $23.6. This is determined by taking average (for high value) of above five parameters and then subtracting it with half the standard deviation (for low value).

Qualitative Analysis
CBYs history can be traced back to 1824. It has survived all the significant ups and downs in the global. This demonstrates that it keeps adapting to changes in the market place.

• CDY continues to maintain its leadership position in confectionery business, with its unparalleled reach across the global, multiple brands, and diversified revenue streams.
• It is operates in a consumer staples industry, which historically does not get affected by recessions. However, history apart, CDY has shown signs of slowing growth.
• Year 2007 and 2008 results may show erratic cash flow. However, I believe those are due most likely due to divestiture of business unit.
• One significant concern that I have is the reduced operating margins and high payout factor. Both on these metric may affect the near future dividend growth. Management has acknowledged this as an issue and has been focusing on profitability. Most of which is centered around cost cutting.

Conclusion
I like CBY’s global presence. Overall, it is a company that will provide international exposure, hedge against dollar fluctuation, and proxy for emerging markets. It has been raising dividends for last 11 years. The stock’s current risk-to-dividend rating is 2.00 (medium risk). However, the current pricing of $35.87 is much higher than my fair value range. I would buy a long position, when it falls into my buy price.

Full Disclosure: No position at the time of writing.

TIP Guy at TIPBlog.in presented his thoughts on how dividends are perceived at least in India’s corporate world. I am reproducing certain snippets (with author’s permission).

The lack of consistent dividend growth companies in emerging markets can be interpreted in different ways

1. Emerging economies need very dollar to invest back in their businesses. The cost of external capital is typically higher, and hence it is advisable to use internal resources. Shareholders can get their return by capital appreciation on their share values.
2. The managements are not mature enough to understand the importance of common shareholders, or sharing a piece of profits with shareholders, and/or prudent cash management over longer term.
3. The taxation policies which do not favor dividend distributions.

I believe most of the corporations in emerging markets are personality driven, and lack any institutional management philosophy. The corporations are primarily driven by personal aspirations (both, good and bad), and as a result the shareholders have miniscule holdings (and contributions). I cannot recall any instance where majority shareholders (other than family and friends) or banking institutions that have been able to make any change. And hence, this has a part in driving the dividend strategies. Common shareholders have such a small percentage holdings that they always remain in back burner.

There are approximately 400 companies in India that have at least paid dividends for last 10 years. However, they have not been growing consistently. Furthermore, the dividend strategies also hinge upon governments taxation policy and cost of available capital. I believe as that as Indian economy grows and competition increases, the cost of capital will come down, and taxation policy will evolve slowly towards friendlier dividends. As of today, at least the dividends are tax free for individuals.

Certainly, there are issues about Indian corporate’s dividend friendliness. However, there are 400 companies that still pay dividends. If we look back 30 or 40 years, I tend to believe that’s how US companies and corporate may have viewed the dividends. As US economy matured, few selected companies continued to follow their strategy resulting in Aristocrats’ and Achievers. While I tend to agree that, over time, Indian corporate may evolve towards dividend friendliness, I do not think it is at a point where they can be attractive on its own. There is promise, but not yet.

Until then I believe using US-based multinationals that generate revenue from emerging markets are best proxy for investing in emerging markets. Some examples are:

• QCOM (my analysis)
• BDK (my analysis)
• CBY (my analysis)
• INTC (my analysis)
• ADM (my analysis)
• PG
• UL/UN
• Nestle

What investment vehicles do you use for investing in emerging markets?

A quick and simple answer is, no it does not affect dividend growth if dividend investors understand what it really means.

Corporations pay dividends from the combination of profitability, cash flow, income, prudent money management, etc. With the current state of economy in United States (and other parts of the world) majority of the corporations are facing negative growth. In such a scenario where will dividend growth come from? In these challenging environment dividend investors need to look at the macro economic scenario and understand how it will play out in long haul over a period of next 10 years, 20 years, or 30 years.

We read a lot about demise of US dollar. At a very fundamental level, which country’s currency becomes a global currency will depend upon political maturity and economic stronghold at global level.

• United States: Every nation in this world wants to do business with US because of its strength in free market system, strength of its institutions, innovative and entrepreneurial business environment, and open minded consumer base. History shows us that every bust is followed by a boom albeit of a different economic form or shape or pattern. Looking back 100 year or more we can see boom and bust in different sectors such as first in textile industry, then infrastructure industry, then automobile industry, then space and airline industry, then hardware and software industry, and finally real estate and financial industry. The present financial crisis may shrink US GPD by couple of trillion dollars from 13 trillion, but still it will be the largest economy.

There is definitely some rational logic behind demise of dollar and I would agree to most of them. However, there is fundamental flaw in this chain of reasoning. While there is lot of talk of demise of dollar, it does not talk about its replacement? Which currency in the world will replace US dollar? There is also a lot of discussion that emerging markets (particularly BRIC nations) will be the driver of global economy. In order for BRIC nations to provide leadership at global stage, these nations have to demonstrate political maturity and economic foresight to the global citizens.

• China: It has a long way to go in demonstrating trust among in own people first and then among League of Nations. History suggests that world domination comes only after prosperity of its own citizens. A nation cannot dominate beyond its borders with struggling and constraint population. It’s currency, Yuan, has trust issues among the global nations. Who wants to trade in Yuan?
  
• Brazil: It is still just a potential and needs to show political maturity and independent thought at world stage.
• India: It is too diverse, too much democratized, and busy with inconsequential bickering with neighbors. It’s economy is growing but still not in top five to have any meaningful bargaining power. It’s currency, Indian Rupee, is still searching an identity and role at world stage.
• Russia: It may perhaps have some legacy military strength; however, it is still confused between communism and free market economy. Its currency, Rubble, is no way near to be global currency.
• Japan’s stagnant economy and aging demographics is not able to support the cause of Yen being global currency.
• The nearest contender is European Euro. Last few years it has thrown challenge to the US Dollar’s status. I believe the issue with Euro is that it represents the bigger economies (e.g. UK, France, Germany, etc) and smaller economies (other European nations). It represents multiple countries. Other than the largely available European market, it does not have any other argument or bargaining strength. Individual countries still continue to use their own currencies and have not shows any inclination to phase it out. I believe it is still in its infancy, in a sense that it still needs to shows its resilience amidst fragmented political landscape.
  

While in long term evolutionary basis, 30 or 40 years down the line, one may see the change, but I don’t expect this to see within next 20 years time frame. I would go only so far as saying that for next 12 to 20 years, BRIC nations will be the catalyst in real global growth and corporate earnings. Here in US we are facing some head winds and perhaps may continue to do so in near future. I cannot predict when this will end.

I can say that in next 10+ years, there will be quite a large number of US and other multinational corporations that will still standing on their own strengths. There are quite a few corporations that are well positioned to continue their growth in developed markets and emerging economies. Mentioned below is the list of companies that are deriving their revenue (and hence earnings) from all types of economies. Figures in bracket indicate approximate percentage revenue from emerging markets. Most of these corporations have paid growing dividends in last five years as measured in their native currency.

• Proctor and Gamble (35%)
• Unilever (30%)
• Johnson and Johnson (60%)
• Qualcomm Inc. (60%)
• Intel Corporation (50%)
• International Business Machines (45%)
• Microsoft Corporation (33%)
• ABB (27%)
• The Coca Cola Company (60%)
• Pepsico Inc. (50%)
• Cadbury PLC (24%)
• Nestle (26%)
• Siemens AG (23%)
• Vodaphone PLC (20%)
• Exxon Mobil Corporation (60%)

Summary is…

I cannot predict what will happen to the value US Dollar and/or future growth from emerging markets. Dividend growth investors have many choices to position themselves which will blunt the effect of these issues. Invest in dividend growth companies that have notable presence in all markets. After that, the discussion of dollar demise becomes purely academic in nature.

Another option is to simply track Dow Index which can done by Dow Diamonds (DIA).

Full Disclosure: Long on PG, UL, PEP, JNJ, and INTC