didn’t have 10 years of data available. That whittled the universe down to 168 companies, which we analysed further to find those companies which consistently raised or maintained their dividends, rather than picking the fastest growers. One caveat we should point out is that the limitations of the available data from SharePad restricted the time period to the last 10 years which roughly coincided with the end of the financial crisis and the start of the latest economic expansion. Therefore we suspect that the growth rates shown probably overstate the natural long-term growth rate because the start date represents an abnormally low point in the cycle. That said, the results are still interesting and informative as well as surprising. For example, not many people would have guessed that silver and gold miner Fresnillo (FRES) would top the dividend growth table, with a 10-year average growth rate of 72.7%. However, the average masks very high volatility. The dividend was cut on four occasions over the last 10 years and some of the cuts were pretty brutal. In the three years from 2012, the dividend was cut by 41%, 92% and 36% respectively, not a pleasant result for investors relying on the company to provide them with a steady income. In addition the cover ratio (the amount of times the dividend is covered by earnings) fell steadily from around five-times to under two-times, a level we consider a minimum to give confidence in the reliability of the dividend actually being paid. WE WANT SUSTAINABLE GROWTH As we saw with the likes of Fresnillo, focusing on growth rates alone is not necessarily the best approach to finding inflation-busting companies. What’s more relevant is the sustainability of the dividend and its future growth rate, which should
be above the inflation rate of 2.1%. There are so few companies that always increase their dividends which suggests that it doesn’t happen by chance, but is the result of strong and stable fundamentals. It also probably means that management run operations smoothly. There is something called the Lindy effect, coined in 1964 by Albert Goldman. In the present context, this means that a company’s track record of growing dividends is a good indicator of its future growth rate. However, we should point out that, like many things in life, nothing is guaranteed to continue forever. THE NEXT STEPS IN OUR SEARCH In our screening exercise we excluded companies that had reduced or suspended their dividend as well as those unable to grow the dividend faster than the rate of inflation. This reduced the universe from 168 to just 37 companies. Our next step was to filter the list by removing those companies whose dividends were less than twice covered by earnings. We would be particularly sceptical of any company that borrowed money in order to pay its dividend, as they are just storing up trouble for the future. Filtering for at least two-times dividend coverage reduced our universe to 20 companies. To guide us towards the best five companies we applied another measure of financial robustness which also has the added benefit of steering us away from the most expensive shares. FREE CASH FLOW YIELD Free cash flow yield is measured by taking the cash generated by the business, deducting capital expenditure, then dividing this figure by the total value of the company, or enterprise value. The
Silver and gold miner Fresnillo tops the dividend growth table. Is this sustainable though?
24
| SHARES | 05 September 2019