Friday, March 18, 2016
Cummins Inc. CMI could be the next M* 2016 Dividend Stock but it is not
When I review my personal portfolio, which I do quite often, and compare it with the portfolios I wrote about, I always wish I had bought every stock I profiled especially in 2011. In 2011 stocks were cheap compared with now. That portfolio is up by over 60%. On the other hand, had I bought every stock profiled in 2014 when the market was at a high, the results would not have been as good. 2014 is up 2% and 2015 is flat. Perhaps in 4 or 5 years, these portfolios will be up like the early portfolios.
I made a change in 2016 and every stock I add to the portfolio I bought at the price profiled. I also sold every call described. The 2016 portfolio is not a model portfolio, it is reality. So far so good as the combined return is up 15%. This includes the cash generated from paid dividends, covered call option premiums and capital gains.
Adding Cummins Inc. symbol CMI
Today, I am adding to my stake in CMI but it fails to make the grade for the 2016 stable. Cummins Inc. symbol CMI, has made quite a move since I added it to the 2015 portfolio. Full disclosure, I bought it at that time with a cost basis of $105.20. When CMI sunk to $79.88 a share in mid January, I looked like a fool. I liked it well enough personally to add to my personal position. At that time, I did not add it to the 2016 portfolio because no covered calls were available and because revenue growth just misses my 4% hurdle. More on that below.
Cummins Dividend Growth
I am adding to my CMI position again today at the elevated price of $108.90. My reasons for adding CMI is the dividend growth. The next ex-dividend date is 5/19/2016; the quarterly dividend is $.975 for a yield of 3.58%. The dividend growth over the past five years has averaged 60% per year. Dividends paid in 2010 were $.875 for the year and in 2015 $3.51 for the year. That is phenomenal. As an income investor, I really need robust dividend growth and CMI has it.
Revenue growth is the big change I made for 2016. I added that metric to improve the chances that both dividends and price would go up. Revenues drive earnings and earnings drive dividends and often times stock price. This is not a perfect predictor, however, as noted above, CMI's stock price really suffered in mid January in spite of the revenue growth. Yet, the stock price has returned to a more normal level recently.
While I go back five years to compare dividends, I restrict revenue growth to three years. I want to know what is happening now. CMI's 2012 revenues were $17,334 (m) and in 2015 revenues were $19,110 (m). That is a revenue growth rate of 3.42% per year. Not quite the 4% I want. Notice that dividend growth exceeds revenue growth. Moreover, EPS is not parallel to either dividends or revenues. Every investor needs to think about that. EPS can be altered by efficiencies or factors such as currency exchanges.
Cummins Covered Call
Selling covered call options boosts income. They can also help reduce the pain when a stock as good as CMI tanks like it did in January. When the call expires and when the stock takes off again, you can sell more calls for more income. A well structured call should provide at least 8.5% capital gain should the stock be called away.
Another metric, in addition to revenue growth, that I added in 2016 is the availability of covered calls. Today, CMI has a call that expires in June, which means I will most likely receive the May dividend which will be paid before the call expires. The strike price of $120 is 10.19% above my cost basis and the premium of $1.25 is another 1.147% of yield.
Just as important as finding a stock with a good yield, good growth, and covered call options, is finding a stock with a solid balance. A solid balance sheet implies that even when the overall market tanks and takes down the prices of even the best stocks, the company will survive to pay the dividend.
I use debt to equity ratio (D/E) as the quickest way to determine if a stock has a strong enough balance sheet. Again, it may not be a perfect measure but the data are readily available from MSN Money or YCharts. For the purist, you can go to the company's website and peruse the financial statements to determine if you think the company is on solid financial footing. Cummins carries a D/E ratio of .2213 and this is very good. Anything below 1 is excellent.
CMI Fundamentals Table
The Table below presents all the data I used to make CMI my next 2016 stock. Consider CMI for the income producing portion of your portfolio.
Disclosure: Long CMI with calls