Bill Gates operates the Bill and Melinda Gates foundation, and oversees its enormous portfolio. In his close association with Warren Buffett, the investment style of Gates seems to have been significantly inspired by the oracle. Like Buffett has in recent decades, the Gates Foundation primarily focuses on moderate-dividend-yielding, large-cap companies with a powerful economic "moat," or competitive advantage. He also has a relatively low portfolio turnover rate, keeps only a moderate number of stock selections, and focuses on having a set of overweight positions in his highest-certainty choices.
This article provides an overview of the top five dividend holdings, based on portfolio percentage, of the Gates Foundation led by Bill Gates. These are the largest holdings of the portfolio Gates has entrusted much of his fortune to. His largest holding, Berkshire Hathaway, doesn't pay a dividend, so the next five largest holdings, Caterpillar, McDonalds, Coca Cola, Waste Management, and Canadian National Railway, are considered in this overview. All five of these businesses pay dividends, and all have respectable economic moats.
Caterpillar Inc. (CAT, Financial)
Caterpillar is the largest manufacturer of heavy construction and mining equipment in the world, and can trace its roots back to the early 1900s. The company faced a very large reduction in revenue and profits during the recession and financial crisis, but revenue has rebounded back to near record levels, and profits have surpassed previous records.
The company faces continued risk from its largest competitor, Komatsu, but due to its extensive service network, has a fairly strong competitive advantage. Caterpillar is expanding abroad, but I expect that in the U.S., where its market share is largest, Caterpillar has enormous opportunity as well. The interstate highway system is in need of significant regeneration, and the same can be said for all of the power infrastructure.
Caterpillar pays a 2.25% dividend yield, and has a long history of dividend growth stretching back to the 1990s. The dividend growth, however, does have some inconsistent spots. During the recent financial crisis, the company skipped a year of dividend growth, and held the quarterly payout at $0.42 per share for eight quarters. The same thing happened during a recession in 2002. The payout ratio is only around 30%, so the long-term prospects of the dividend are safe in that regard, even if the dividend may be held static during times of uncertainty and reduced profits. Total debt/equity, however, is rather high at 2.6. The interest coverage ratio is less than 5. This balance sheet weakness is not a short-term problem but presents a risk to the dividend over the long term.
With a current valuation of 13 times earnings, and 10 times estimated forward earnings, the stock price seems to be a reasonable buy, and the market is taking into account the possibility of an upcoming recession, as well as taking into consideration the heavy debt load.
McDonald's Corporation (MCD, Financial)
McDonald's Corporation has a lot going for it. The company increases sales almost like clockwork, has vast international expansion, a reasonable balance sheet, shareholder friendly management, a recession-resistant business, and a business model that is highly scalable. Perhaps with so much to like from an investor perspective, the only thing not to like is the valuation.
McDonald's is the largest restaurant operator by revenue. More telling about their success is that the net profit margin of McDonald's surpasses its competitors completely. Yum Brands (YUM) and Starbucks (SBUX) have half the net profit margin of McDonald's. Wendy's is just breaking even with no profit. This difference is due to scale, efficiency and focus.
Unfortunately, the PEG ratio is a bit high. EPS growth doesn't match the the earnings multiple, even if the dividend yield is added to the growth rate. With all MCD has going for it, it's the expected risk-adjusted returns rather than absolute returns that need to be taken into account. I think MCD is a solid purchase for a conservative part of a portfolio. The balance sheet is moderately strong, with an interest coverage ratio of over 16, little goodwill, and a debt/equity ratio of a bit under 0.80.
The strong business is completed with a strong dividend. The yield is 3.17%. The most recent dividend increase was nearly 15%, and this comes after a multi-decade period of consistent dividend growth. With a payout ratio of under 60%, MCD is paying generously and safely.
The Coca Cola Company (KO, Financial)
I view Coca Cola similarly to how I view MCD; there's not much to dislike from an investor standpoint, but the valuation leaves a lot to be desired. The current low P/E ratio is misleading, as it takes into account one-time events. The true P/E ratio is around 20.
However, if I were to put aside money and not be allowed to look at it for years, KO would be a likely choice for part of that capital. Like MCD, I think the potential risk-adjusted returns are reasonable. The realistic long-term goals of KO, focused on meeting certain growth targets by 2020, should provide substantial shareholder return.
Of particular importance, the dividend is safe. The current yield is unfortunately only 2.80% due to the valuation of the stock, but the growth rate is around 7%, and the payout ratio is only around 50% of earnings, and is well-covered by free cash flow as well. Although KO took on some debt with the recent bottler acquisition, the company still has significant financial strength to support the dividend and growth.
I've covered KO a number of times in previous portfolio analysis articles, as Buffett, Van Den Berg, and Gates all have sizable positions in the company. Areas for growth include increased penetration of key markets (several of the most populous countries in the world consume only a small fraction of the Coca Cola products, including sodas, juices, teas and water, as the United States does per capita), as well as an increased focus on healthy products to complement their less-than-healthy top brands.
Waste Management Inc (WM, Financial)
Waste Management is the largest collector and disposal of trash in North America. The business operations, while aesthetically unattractive, are enviable from a financial perspective. Customers collectively pay them to take their trash, and then Waste Management recycles some of the waste to bring in additional income, turns some of the waste into energy for another stream of income, and puts the rest of the waste into landfills, and then pulls in more income from other trash companies that want to use their landfills.
Opening a new landfill is not only expensive, but time-consuming, as many communities don't want a landfill in their backyard. This, combined with the large size of the company, presents a durable competitive advantage.
The dividend, which has had consistent growth for several years now, is worth watching. Currently, the yield is 4.11%, but unfortunately, the dividend has been growing while EPS has not. EPS has been basically flat since 2005. The earnings payout ratio for the dividend, over this time period, has increased from under 40% to over 66%. This isn't exactly alarming; I expect WM's fortunes over the next five years to be an improvement over the past five years. Trash output is reduced during a recession, so even though this is a defensive business, growth will suffer in times of trouble. With WM's net share repurchases, even if they can merely stabilize net income, they'll be able to comfortably grow the dividend into growing EPS with a static payout ratio. Still, this expectation of earnings improvement is only an estimation, and obviously a growing dividend into static EPS is not sustainable. One or the other must change course. For this reason, while I consider WM's dividend to be relatively safe, I don't consider it to be quite as safe, or to have as reliable growth prospects, as some of the other names on this list.
Canadian National Railway (CNI, Financial)
Canadian National Railway is the largest railway in Canada and has extensive track in the U.S. as well. The track extends from the Atlantic Ocean to the Pacific Ocean through Canada, and also extends southward to the Gulf of Mexico. Revenue and earnings have rebounded nicely from recession levels, and increasing sophistication of automation is improving railway profits. The stock trades for about 15 times earnings.
Free cash flow is a bit light for this company, due to the heavy capital expenditure necessary for maintaining and improving a rail network. To quantify this, over the trailing 12 month period, free cash flow equaled only approximately half of net income. This ratio changes from year to year, but that figure is a fairly accurate, if rough, representation of the free cash flow over time.
Still, free cash flow covers dividend payments twice over. The earnings payout ratio for the 1.82% dividend yield is only around 25%. I think it would be preferable to have a higher yield, but the double-digit dividend growth is a positive. With an interest coverage ratio of 9, and a debt/equity ratio of only 0.53, the railway also has a very strong balance sheet. Overall, I think CNI makes for a decent risk-adjusted pick as well.
Full Disclosure and Disclaimer: At the time of this writing, I own shares of KO, and none of the other companies mentioned. My portfolio can be seen here. Any investment decisions should be performed knowledgeably or with the assistance of a professional.
This article provides an overview of the top five dividend holdings, based on portfolio percentage, of the Gates Foundation led by Bill Gates. These are the largest holdings of the portfolio Gates has entrusted much of his fortune to. His largest holding, Berkshire Hathaway, doesn't pay a dividend, so the next five largest holdings, Caterpillar, McDonalds, Coca Cola, Waste Management, and Canadian National Railway, are considered in this overview. All five of these businesses pay dividends, and all have respectable economic moats.
Caterpillar Inc. (CAT, Financial)
Caterpillar is the largest manufacturer of heavy construction and mining equipment in the world, and can trace its roots back to the early 1900s. The company faced a very large reduction in revenue and profits during the recession and financial crisis, but revenue has rebounded back to near record levels, and profits have surpassed previous records.
The company faces continued risk from its largest competitor, Komatsu, but due to its extensive service network, has a fairly strong competitive advantage. Caterpillar is expanding abroad, but I expect that in the U.S., where its market share is largest, Caterpillar has enormous opportunity as well. The interstate highway system is in need of significant regeneration, and the same can be said for all of the power infrastructure.
Caterpillar pays a 2.25% dividend yield, and has a long history of dividend growth stretching back to the 1990s. The dividend growth, however, does have some inconsistent spots. During the recent financial crisis, the company skipped a year of dividend growth, and held the quarterly payout at $0.42 per share for eight quarters. The same thing happened during a recession in 2002. The payout ratio is only around 30%, so the long-term prospects of the dividend are safe in that regard, even if the dividend may be held static during times of uncertainty and reduced profits. Total debt/equity, however, is rather high at 2.6. The interest coverage ratio is less than 5. This balance sheet weakness is not a short-term problem but presents a risk to the dividend over the long term.
With a current valuation of 13 times earnings, and 10 times estimated forward earnings, the stock price seems to be a reasonable buy, and the market is taking into account the possibility of an upcoming recession, as well as taking into consideration the heavy debt load.
McDonald's Corporation (MCD, Financial)
McDonald's Corporation has a lot going for it. The company increases sales almost like clockwork, has vast international expansion, a reasonable balance sheet, shareholder friendly management, a recession-resistant business, and a business model that is highly scalable. Perhaps with so much to like from an investor perspective, the only thing not to like is the valuation.
McDonald's is the largest restaurant operator by revenue. More telling about their success is that the net profit margin of McDonald's surpasses its competitors completely. Yum Brands (YUM) and Starbucks (SBUX) have half the net profit margin of McDonald's. Wendy's is just breaking even with no profit. This difference is due to scale, efficiency and focus.
Unfortunately, the PEG ratio is a bit high. EPS growth doesn't match the the earnings multiple, even if the dividend yield is added to the growth rate. With all MCD has going for it, it's the expected risk-adjusted returns rather than absolute returns that need to be taken into account. I think MCD is a solid purchase for a conservative part of a portfolio. The balance sheet is moderately strong, with an interest coverage ratio of over 16, little goodwill, and a debt/equity ratio of a bit under 0.80.
The strong business is completed with a strong dividend. The yield is 3.17%. The most recent dividend increase was nearly 15%, and this comes after a multi-decade period of consistent dividend growth. With a payout ratio of under 60%, MCD is paying generously and safely.
The Coca Cola Company (KO, Financial)
I view Coca Cola similarly to how I view MCD; there's not much to dislike from an investor standpoint, but the valuation leaves a lot to be desired. The current low P/E ratio is misleading, as it takes into account one-time events. The true P/E ratio is around 20.
However, if I were to put aside money and not be allowed to look at it for years, KO would be a likely choice for part of that capital. Like MCD, I think the potential risk-adjusted returns are reasonable. The realistic long-term goals of KO, focused on meeting certain growth targets by 2020, should provide substantial shareholder return.
Of particular importance, the dividend is safe. The current yield is unfortunately only 2.80% due to the valuation of the stock, but the growth rate is around 7%, and the payout ratio is only around 50% of earnings, and is well-covered by free cash flow as well. Although KO took on some debt with the recent bottler acquisition, the company still has significant financial strength to support the dividend and growth.
I've covered KO a number of times in previous portfolio analysis articles, as Buffett, Van Den Berg, and Gates all have sizable positions in the company. Areas for growth include increased penetration of key markets (several of the most populous countries in the world consume only a small fraction of the Coca Cola products, including sodas, juices, teas and water, as the United States does per capita), as well as an increased focus on healthy products to complement their less-than-healthy top brands.
Waste Management Inc (WM, Financial)
Waste Management is the largest collector and disposal of trash in North America. The business operations, while aesthetically unattractive, are enviable from a financial perspective. Customers collectively pay them to take their trash, and then Waste Management recycles some of the waste to bring in additional income, turns some of the waste into energy for another stream of income, and puts the rest of the waste into landfills, and then pulls in more income from other trash companies that want to use their landfills.
Opening a new landfill is not only expensive, but time-consuming, as many communities don't want a landfill in their backyard. This, combined with the large size of the company, presents a durable competitive advantage.
The dividend, which has had consistent growth for several years now, is worth watching. Currently, the yield is 4.11%, but unfortunately, the dividend has been growing while EPS has not. EPS has been basically flat since 2005. The earnings payout ratio for the dividend, over this time period, has increased from under 40% to over 66%. This isn't exactly alarming; I expect WM's fortunes over the next five years to be an improvement over the past five years. Trash output is reduced during a recession, so even though this is a defensive business, growth will suffer in times of trouble. With WM's net share repurchases, even if they can merely stabilize net income, they'll be able to comfortably grow the dividend into growing EPS with a static payout ratio. Still, this expectation of earnings improvement is only an estimation, and obviously a growing dividend into static EPS is not sustainable. One or the other must change course. For this reason, while I consider WM's dividend to be relatively safe, I don't consider it to be quite as safe, or to have as reliable growth prospects, as some of the other names on this list.
Canadian National Railway (CNI, Financial)
Canadian National Railway is the largest railway in Canada and has extensive track in the U.S. as well. The track extends from the Atlantic Ocean to the Pacific Ocean through Canada, and also extends southward to the Gulf of Mexico. Revenue and earnings have rebounded nicely from recession levels, and increasing sophistication of automation is improving railway profits. The stock trades for about 15 times earnings.
Free cash flow is a bit light for this company, due to the heavy capital expenditure necessary for maintaining and improving a rail network. To quantify this, over the trailing 12 month period, free cash flow equaled only approximately half of net income. This ratio changes from year to year, but that figure is a fairly accurate, if rough, representation of the free cash flow over time.
Still, free cash flow covers dividend payments twice over. The earnings payout ratio for the 1.82% dividend yield is only around 25%. I think it would be preferable to have a higher yield, but the double-digit dividend growth is a positive. With an interest coverage ratio of 9, and a debt/equity ratio of only 0.53, the railway also has a very strong balance sheet. Overall, I think CNI makes for a decent risk-adjusted pick as well.
Full Disclosure and Disclaimer: At the time of this writing, I own shares of KO, and none of the other companies mentioned. My portfolio can be seen here. Any investment decisions should be performed knowledgeably or with the assistance of a professional.
