We can get a true picture by looking for consistency. Two simple statistical measures of average and standard deviation can help us measure consistency. A standard deviation that is narrow and lower than average is a good observation. The table below shows some examples of randomly selected financial metric for few companies.

Representative Financial Metric

• SYY is showing consistent performance with narrower standard deviations that are lower than averages.
• WMI has erratic revenue and EPS growth with variations more than averages. Indicating negative performances in past.
• QCOM has wide moat in its market domain and has consistency but its dividend growth is erratic.
• INTC is another example of wide moat in its market domain, with no competitor worth a mention. But its growth in dividends, revenue, and EPS is erratic.

For a given financial metric, when we compare the company’s current performance with historical averages (and standard deviation) is provides some insights into which direction the company is heading into. For example, decreasing operating margins and increasing payout factors are signs of trouble; highly varying metric with many ups and downs is also likely sign of trouble, etc.

I don’t like to get high. Companies that continue to strike balance in their year over year performances are the ones that provide long term sustainable returns.

This post was originally published on The DIV-Net on July 2,  2009.

Campbell Soup Company (CPB), and its subsidiaries, does business in manufacture and marketing of branded convenience food products worldwide. It has four business segments, viz., (1) U.S. Soup, Sauces, and Beverages; (2) Baking and Snacking; (3) International Soup, Sauces, and Beverages; and (4) North America Food Service. The company was founded in 1869 and is headquartered in Camden, New Jersey.

CPB is neither a dividend aristocrat nor a dividend achiever. CPB has been paying dividends since 1980, albeit it has not been growing it consistently. My objective here is to understand if CPB has any potential to be a dividend growth investment.

Trend Analysis

This section looks 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, slowly growing trend, but not consistent (down years in 2002 and 2006). The average revenue growth for last 10 years is 4.6% (with 4.3% standard deviation).
• Cash Flows: Fluctuating operating cash flow. The concern I have is that the free cash flow is less than net income. There is very little room for flexibility in allocating cash for dividends.
• EPS from continuing operation: In general, the EPS has not been consistent. EPS reduced for year 2008.
• Dividends per share: Although dividends are being paid consistently, it’s trend is more or less flat.

CPD Trends

CPB - Data

Risk Parameter Calculation

Here I use the corporation’s financial health to assign a risk number for measuring risk-to-dividends. I have discussed this in more detail at Dividend Tree. The risk number for risk-to-dividends is 2.43. This is a high risk category as per my 3-point risk scale.

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 10.5% (stdev. 5.6%) is more than average EPS growth rate of 6.1% (stdev. 11.9%). This is sign of not a good quality of dividends. Dividends are growing faster than earnings!
• Duration of dividend growth: In recent times, dividends have grown only since last 4 years.
• 4 year rolling dividend growth rate for past ten years: No
• Payout factor: In the past 5 years, it has been consistently less than 50%. In 2008 it increased to 53%. This is not a good indicator.
• 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 3.7%; and (b) MMA yield is 3.4%. Considering the last 10 year average dividend growth rate of 10.5%, the stocks dividend cash flow at the end of 10 years is 2 times MMA income. In addition, with my projected dividend growth of 2.3%, the dividend cash flow is equal to 1.10 times MMA income.

Fair Value Calculation

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

• Net present value (NPV) price based on 20 year DCF: $14.4
• Average high yield price calculated based on past 10 years: $30.5
• Pricing based on past 10 year relative price-to-earnings ratio. $36.1
• Pricing based on price-to-earnings ratio of 12: $22.6
• Graham number: $6.5

The range of fair value is calculated as $16.1 to $22.0. This 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

CPB strength is its branded food products in North America. Two third of its revenue comes from North American markets. Looking forward, it is spreading its wings in emerging markets.

• It has a very simple business model to sell packaged food products. Operational efficiency and product sourcing is what drives profitability.
• It is expected to face challenges from non-branded products. It may continue to face pricing pressures and recession driven shift in consumption pattern.
• Assuming that the corporation’s existing trends in earnings, cash flow, and profitability continue ‘as is’, the payout factor of more than 50% puts pressure on dividend growth.

Conclusion

The dividend cash flow is at par with MMA income based on current yield of 3.7% and conservative estimate of dividend growth (2.3%). However, the stocks current risk-to-dividend number is 2.43 (high risk category). The lower free cash flow, negative EPS growth rate, and reduced margins are making it a high risk to dividends. I will not be initiating any position in CPB, because in my dividend growth portfolio, I am not adding any stock with high risk to dividends.

Full Disclosure: No position at the time of this writing.