Investing in stocks that pay high dividends is an effective way for the conservative investor whose concern is mainly with the preservation of capital. When investing for a high dividend yield, the most important consideration is the sustainability of such dividends. Hence research into the underlying dividend payer is crucial.
Please be advised I’m not making any tacit recommendations. Any investor who is contemplating investing for a high dividend should use these articles a base from which to do further research and in depth analysis.
Kraft Foods (KFT) is yielding 3.83% in dividends at the current market price of $30.25. Kraft manufactures and markets packaged food products, including snacks, beverages, cheese, convenient meals and various packaged grocery products. It sells the products to consumers in approximately 160 countries. The Company operates three segments: Kraft Foods North America, Kraft Foods Europe and Kraft Foods Developing Markets. In February 2010, the Company announced that it has acquired the control of Cadbury plc for $19.5 billion. Cadbury operates a worldwide confectionary business that includes brands such as Cadbury Dairy Milk, Trident gum, Dentyne, Stimorol, Halls and Maynards.
Kraft is a great company in many ways. It has a huge barrier to entry (or economic moat) that protects it from competitors. It has pricing and branding power in the majority of the market it operates. The company has a high return on equity (12.5%), a conservative debt to equity ratio and is financially and operationally very strong. In addition, the company’s largest shareholder is Warren Buffett’s Berkshire Hathaway (BRK.A).
The company paid a dividend of $1.16 in 2009, which was 3.5% above that of 2008. Over the past five years the dividend has risen 33%, from $0.87 in 2005. Kraft was one of the few companies in the S&P 500 that did not suffer an earnings decline in 2008 or 2009, instead growing net income by 4.75% in the last fiscal year. The dividend cover in 2009 was 1.75 times, which represents a 57% payout ratio. As the company has a return on equity of 12.5% this is understandable (the company uses roughly half of earnings to invest in growth which is yielding 12.5% - much higher than a cash dividend in the hands of a stockholder).
Kraft has on its balance sheet to the tune of about $19 billion. This represents a debt to equity ratio of 73%. Some might consider this high but the nature of a large consumer business such as Kraft makes a higher debt level the optimal capital structure. One need only realize that Kraft is a strong cash generator which produced over $5 billion in cash from operations last year. The interest expense on the debt pile was $1.26 billion. To see whether there is enough for dividends, if you subtract that amount (total dividends were $1.715 billion), Kraft is still left with over $2 billion in cash from operations.
As such a high yielding dividend stock that generates cash and observes a very standard and conservative capital structure would be a great addition to the dividend seeking investor’s portfolio.
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