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Consolidated Edison is known as a slow growing utility. Yet this alone has not precluded the security from providing reasonable returns. This article illustrates what an investor ought to require in order for the company to have a place in your dividend growth portfolio. Tracing its roots back over 180 years, Consolidated Edison (NYSE: ED ) provides electricity for 3.3 million customers and gas to 1.1 million customers in and around New York City. You might imagine that this business is fairly stable. Indeed, the company has not only paid but also increased its dividend for 41 consecutive years . That’s an investing lifetime for many, each and every year waking up to more and more Consolidated Edison dividends. The way the company operates is a slightly different from your typical dividend growth firm. That’s to be expected: it’s a regulated utility. Yet this alone does not preclude it from providing reasonable returns. I’ll demonstrate both points below. Here’s a look at both the business and investment growth of Consolidated Edison during the 2005 through 2014 period: ED Revenue Growth 1.1% Start Profit Margin 6.2% End Profit Margin 8.3% Earnings Growth 4.5% Yearly Share Count 2.0% EPS Growth 2.1% Start P/E 15 End P/E 18 Share Price Growth 4.0% % Of Divs Collected 46% Start Payout % 76% End Payout % 70% Dividend Growth 1.1% Total Return 7.3% The top line growth certainly isn’t impressive. As a point of comparison, companies like Coca-Cola (NYSE: KO ), Boeing (NYSE: BA ) and Procter & Gamble (NYSE: PG ) were able to grow revenues by 8%, 6% and 4% respectively over the same time period. Of course this is easily anticipated: utilities by their nature tend to be slow growing. The demand for their product is fairly consistent and doesn’t suddenly accelerate with the advent of a new higher efficiency light bulb. So 1% annual revenue growth sets the stage. From there the company has been able to increase its net profit margin, resulting in total earnings growth that outpaces total revenue growth. If the number of common shares outstanding remains the same, total earnings growth will be equal to earnings-per-share growth. Yet this situation rarely holds. With you typical dividend growth company you see shares being retired over the years due to share repurchases. As a point of reference, about three-fourths of the current Dow Jones (NYSEARCA: DIA ) components have reduced their share count in the last decade. Utilities tend to do the opposite – selling shares to raise capital. Consolidated Edison has been no exception, increasing its share count from about 245 million in 2005 to 293 million by 2014, or an average compound increase of about 2% per year. As such, EPS growth trailed overall company profitability, coming in at just over 2% per year. If the earnings multiple remains the same at the beginning and end of the observation period, the share price appreciation will be equal to EPS growth. In this case, investors were willing to pay about 15 times earnings at the start as compared to roughly 18 times at the end of 2014. As such, the share price increased by 4% per year. If you were to look at a stock chart, this is all that you would see. Yet an even larger component to the overall return was dividends received. Remember, investors were able to collect a rising stream of income over time. The magnitude of these increases has not been impressive in any sense: coming in at just over 1% annually. Yet the beginning payout ratio was above 75%. When coupled with a reasonable valuation, this equates to starting dividend yield of about 5%. So investors were able to collect nearly half of their beginning investment in this slow grower. All told capital appreciation would have accounted for about $20 worth of additional value while you would have also received about $21.50 in dividend payments. Your total return would have been roughly 7.3% per year. Now surely this isn’t overly impressive – it’s more or less in line with what I would deem “reasonable” returns. Yet it should be noted that the slow growth didn’t prevent you from increasing your wealth. Moreover, the annual return is in-line with or better than what Procter & Gamble, Caterpillar (NYSE: CAT ), UnitedHealth (NYSE: UNH ) or Intel (NASDAQ: INTC ) provided during the same time period. Its not always about the growth, the interaction of the value components also makes a difference. The reason that Consolidated Edison provided reasonable returns was related to two factors: investors were willing to pay a higher of a valuation and the dividend yield started near 5%. Moving forward, you likely want to think about the repeatability of those components. More than likely Consolidated Edison isn’t going to “wow” you with its upcoming growth. Analysts are presently expecting intermediate-term growth in the 2% to 3% range , much like the past decade. As such, the valuation that you require to invest should be paramount. You can pay a bit more for a company that grows by 8% or 10% and “grow out of” a slight premium paid. When you have a much lower growth rate, your margin of error is much lower. As a for instance, imagine company that grows earnings-per-share by 2% annually over the next five years. If you paid say 17 times earnings and it later trades at 15 times earnings, this results in negative capital appreciation. On the other hand, if you pay 17 times earnings for a company that grows by 8% per year and it later trades at 15 times earnings, this equates to 5.3% annual price appreciation. The penalty of “overpaying” is far less severe for faster growing companies. Thus in contemplating an investment in Consolidated Edison you should be especially mindful of the price paid. (Naturally this holds for any company, but even more so with slower expected growth.) Over the past decade shares have routinely traded in the 12 to 18 P/E range. While its possible to see a valuation outside of this range, you’d likely want to demand something on the lower end of the spectrum in order for the security to look comparatively compelling. The second important thing to note is that the dividend payment is apt to play a much larger role than your typical investment. You know the rate of dividend increases likely isn’t going to be substantial, so once more the focus is on demanding a reasonable starting yield. It’s the high starting yield that allows an investment in Consolidated Edison to rival that of the Procter & Gamble’s of the world. Without a reasonable yield premium the investment doesn’t have many more levers at its disposable. An investment in Consolidated Edison is an investment in the dividend, with the occasional revision in valuation. Alternatively, with a reasonable dividend yield and reinvestment, it’s a reliable way to see your income increase by 5% or 6% annually. In short, just because Consolidated Edison hasn’t grown very fast doesn’t mean that it can’t be a reasonable investment. As illustrated above, just 1% annual revenue growth turned into 7%+ yearly returns. Moving forward, the same drivers – valuation and dividends received – will continue to play an outsized role in future returns. As such, focusing on these components from a slow growing utility becomes central to a successful investing process. Scalper1 News
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