The health care sector is considered a defensive sector as people will seek out treatment for illness and aliments regardless of the status of the economy. Many companies in this sector literally provide products that consumers cannot live without. This allows for earnings and revenue growth to be more consistent even in a recession.
Many of these companies are able to pay and raise their dividends for long periods of time.
One of my favorite names in the health care sector is Becton, Dickinson & Co. (BDX, Financial). We will examine the company's historical performance, dividend history, recession performance, debt and valuation to determine if now is the right time to buy shares.
Company background and historical performance
Becton, Dickinson, or BD, is a medical device manufacturer. Following the company's $24 billion acquisition of C.R. Bard, BD has three reportable business segments: Medical, which produces medical devices used to manage and delivery medicines, Life Sciences, which manufactures diagnostic and preanalytical systems, and Intervention, which produces products used in urology and critical care. BD has a current market capitalization of almost $70 billion and generated revenue in excess of $17 billion in fiscal 202 (the company's fiscal year ends Sept. 30).
BD has consisttently grown over the years.
According to Value Line, both net sales and earnings per share have increased with a compound annual growth rate of around 9% over the last decade. This is an impressive result, especially on the bottom line considering that BD has issued more than 40 million shares over this period of time due to acquisitions in recent years. Net profit has nearly tripled over the last 10 years, having increased with a CAGR of more than 10% over this period of time. BD has also benefited from a rising net profit margin, which was 18.5% last year compared to 16.1% in 2010.
As you might expect from this historical growth rate, BD scores very highly on GuruFocus' profitability ranking.
The company receives an 8 out 10 on its profitability rank from the GuruFocus system. This is due in large part to the company's operating margin that was just discussed. According to GuruFocus, BD's operating margin scores higher than more than two-thirds of the 661 companies in the medical devices and instruments industry. Return on capital is quite strong as well, scoring higher than more than 70% of companies in the same sector.
BD's three-year earnings per share growth rate is lower than 61% of peers, but net profit has increased by 43% from 2017 to 2019.
The company has demonstrated that is very adapt at growing both revenue and earnings per share over the long term. Earnings growth has slowed in recent years, but this is due in part to the issuing of shares to help fund purchases. Net profit continues to grow at a high rate. In fact, only twice since 2010 (2012 and 2017) has BD failed to see higher net profits then the prior year. BD has proven that is one of the rare companies that can consistently grow over a long period of time.
Dividend analysis
BD has increased its dividend for 49 consecutive years. This means the company is just one year away from joining the exclusive Dividend Kings, which are a group of 30 stocks that have paid a rising dividend for at least 50 years.
According to The Dividend Investing Resource Center, which maintains a database of companies that have at least five consecutive years of dividend growth, BD dividend has increased by an average of:
- 4.6% over the past three years.
- 6.8% over the past five years.
- 8.9% over the past 10 years
Dividend growth has slowed in the near term as BD used cash to pay approximately 70% of the purchase price for Bard. The company raised its dividend 2.6% and 2% the last two years before announcing a 5.1% increase for the upcoming Dec. 31 payment.
The company is given mixed reviews for its dividend and buybacks from the GuruFocus system.
The current yield of 1.3% is on the low side, but still ranks higher than 60% of companies in its industry. This is slightly lower than the stock's median yield of 1.6% over the last decade. The forward yield is also better than most peers and the payout ratio is very low. On the other hand, dividend growth ranks below two-thirds of peers.
According to Value Line, shares of BD have averaged a dividend yield of 1.8% since 2010. Were shares to average the current yield for an entire year, it would tie the average yield for 2018 and 2019 as the lowest since before the Great Recession.
The trade-off for the low yield is that the dividend is very safe.
As you can see above, BD's dividend is usually more than covered by both earnings per share and free cash flow per share. There have been some periods of time where the dividend wasn't covered by one or the other over the last 30 years, but this has usually been for a short period of time.
Let's look at dividend coverage over the recent term.
BD has distributed $3.20 of dividends per share over the last four quarters, while producing $10.19 of earnings per share for a payout ratio of 31%. This is identical to the 10-year average payout ratio of 31%. BD's ability to have fairly predictable earnings growth over a long period of time have allowed the company to maintain a low payout ratio. For context, the payout ratio has never been above 35% over the last decade.
Free cash flow also shows a very low payout ratio. BD has distributed slightly more than $1 billion in dividends over the last four quarter while generating $2.7 billion in free cash flow for a payout ratio of 37%. This is just below the payout ratio of 42% that the company has averaged for the three previous years.
BD's dividend growth streak is approaching rarified air. The stock's yield is on the low side, but dividend growth is starting to increase again as the company has absorbed the Bard acquisition. The company's earnings per share and free cash flow payout ratios are the same or below their respective averages, leaving plenty of room for future increases.
Recession performance
Listed below are BD's earnings per share results for the years before, during and after the last recession:
- 2006 earnings per share: $3.28
- 2007 earnings per share: $3.84 (17.1% increase)
- 2008 earnings per share: $4.46 (16.1% increase)
- 2009 earnings per share: $4.95 (11% increase)
- 2010 earnings per share: $4.94 (0.2% decrease)
- 2011 earnings per share: $5.62 (13.8% increase)
BD showed during the last recession that not only is it immune to the impacts of a recession, but that it can also prosper under adverse economic conditions. Earnings per share grew nearly 29% from 2007 through 2009. Since 2004, there have been just two years (2010 and 2012) where earnings declined year over year. In both cases, earnings per share rebounded to make a new high the very next year.
Listed below are the company's dividends paid before, during and after the last recession.
- 2006 dividends: 86 cents
- 2007 dividends: 98 cents (14% increase)
- 2008 dividends: $1.14 (16.3% increase)
- 2009 dividends: $1.32 (15.8% increase)
- 2010 dividends: $1.48 (12.1% increase)
- 2011 dividends: $1.64 (10.8% increase)
As you can see, BD's dividend growth was in the double digits throughout the Great Recession. Only recently has dividend growth even slowed below this level.
BD's dividend growth through the last recession isn't surprising as the company has raised its dividend through five separate recessions. This is thanks to product offerings that customers need even when the economy is struggling. BD's earnings and dividend growth are evidence that it is one of the more recession-proof companies in the market. This is a major reason why BD is on the verge of joining the Dividend Kings.
Debt
BD receives a mid-range score on GuruFocus' financial strength rating.
For this metric, BD scores a 4 out of 10 rating, driven by a cash-to-debt score that is below almost 90% of companies in its industry. Again, this can be largely attributed to the use of cash in recent acquisitions. The lack of cash is also why the company slowed its dividend growth over the past several years.
The low cash score is also the result of BD aggressively paying down debt. Total debt stood at $17.9 billion at the end of the most recent quarter. This compares favorably to debt of $21.5 billion in the prior fiscal year.
The reduction in total debt has also led to a decrease in interest expense. Interest expense was $123 million in the most recent quarter, which gives the company a weighted average interest rate of 2.3%. Free cash flow is more than enough to cover both interest expense and dividend payments. BD also has just $706 million of debt due within the next year.
Though it is carrying significant debt, BD looks well positioned financially to meet its obligations. This is good news for dividend investors as debt doesn't appear to be a headwind to dividend safety and growth.
Valuation
BD closed Thursday's trading session at $242.33. Analysts surveyed by Yahoo Finance expect the company to earn $12.52 in the new fiscal year, which gives the stock a forward price-earnings ratio of 19.4. This is above the stock's 10-year average multiple of 17.6 times earnings. The current valuation looks better against the five-year average price-earnings ratio of 19.8.
GuruFocus believes that BD is trading below its intrinsic value.
As of yesterday, the GF Value for BD is $248.86, giving the shares a price-to-GF Value of 0.97. This earns the stock a rating of fairly valued. This means that the current share price for BD is only 2.6% away from its intrinsic value.
Final thoughts
Health care companies often prove themselves during a recession as their top and bottom lines tend to hold up better than the more cyclical companies in the market. BD is no exception. The company's performance during the last recession shows that it is more than capable of navigating a difficult economic environment.
The company also has a long track record for raising its dividend. The dividend yield is on the low side, but it is well protected using either earnings per share or free cash flow.
Shares of BD are at a valuation that are above the long-term average and the stock appears to be almost fairly valued. The stock isn't too far away from it s GF Value.
That said, the company's ability to grow profits over the long term, its recession performance and dividend growth streak make the stock an attractive option for income investors looking for exposure to the health care sector.
Disclosure: The author has no position in any stock mentioned in this article.
Read more here:
- Lowe's Massive Buyback Only Adds to My Bullish Thesis
- 3 Stocks Offering Total Returns of Up to 30%
- Kroger: Double-Digit Returns Ahead​
Not a Premium Member of GuruFocus? Sign up for a free 7-day trial here.
