Regardless of being acknowledged as a progress investor, Peter Lynch has additionally been very profitable in choosing dividend shares. And he has broadly shared invaluable insights all through his profession and writings on dividend inventory choice. Whereas a few of their recommendation has grow to be frequent information now (such because the significance of constant and ideally low payout ratios), a few of his standards are very insightful even for veteran DGIs (dividend progress buyers).
On this article, I’ve gathered a complete of 5 choice standards from Lynch’s writings and can apply them to Walgreens Boots Alliance (NASDAQ: WBA) and CVS Well being Company (NYSE: CVS). You will note that the underside line is that WBA scored a complete of 4 factors out of those 5 standards whereas CVS scored 3 factors. And for many who need to see the ultimate dashboard, is on the finish of the article.
Earlier than we dive in, this is the record of 5 standards I’ve compiled and a short background for each:
- Dividend historical past. It is a self-explanatory one that’s frequent information for DGIs. A protracted historical past of constant dividend funds is an indication of a secure moat. And Lynch favors corporations with a observe report of 20 to 30 years.
- Analysis. Lynch is understood for his use of the PEG ratio (P/E ratio divided by the earnings progress fee). For dividend shares, it makes use of a revised model of the PEG ratio: the PEGY ratio, which is outlined because the P/E ratio divided by the sum of the earnings progress fee and the dividend yield. And just like the PEG ratio, their choice is a PEGY ratio under 1x.
- Cost relationship. This one is self-explanatory as effectively. A decrease payout ratio is preferable.
- Inventory purchases. That is an space that almost all DGIs do not emphasize sufficient though the return on share buybacks is simply as necessary and actual because the money dividend (most likely even higher contemplating the tax implications). And Lynch not solely acknowledges the greenback worth of share buybacks, he additionally depends on them as an indication of administration’s confidence in his enterprise.
- Stock administration. That is additionally one other space that many DGIs overlook. Lynch’s view is that stock information gives probably the most dependable indicators of an organization’s progress potential and monetary well being.
1. Dividend historical past
As simply talked about, the primary criterion is dividend observe report, with Lynch favoring corporations with an extended historical past of normal dividend assortment, ideally 20 to 30 years. On this sense, WBA is the clear winner. It’s a member of the elite dividend champion membership and has a powerful observe report of consecutively growing its dividend for 30 years, as proven within the chart under. Alternatively, CVS’s dividend progress was interrupted in 2017 (as a result of Aetna acquisition) and solely resumed in 2021. In consequence, WBA scores one level greater than CVS on the criterion of observe report.
As talked about above, for valuation, we are going to use Lynch’s revised PEG ratio: PEGY ratio. To calculate the PEGY ratio, we first have to estimate earnings progress charges. Right here I’ll use the 5-year progress fee of its dividends to characterize earnings progress charges. To me, a 5-year interval is lengthy sufficient to filter out short-term noise, and dividends are a great measure of proprietor earnings. As you’ll be able to see from the chart above, WBA has additionally elevated its dividend at a sooner fee than CVS over the previous 5 years. That’s, WBA’s 5-year CAGR dividend progress fee is about 4.01%, in comparison with CVS’s 2.43%.
Then we’d like their P/E ratios and dividend yields. As proven within the chart under, WBA is presently priced at 7.94x, whereas CVS is barely greater at 8.79x. In consequence, the PEG ratio for WBA is roughly 1.98x, considerably under CVS’s 3.62x (see second desk under). And at last, the FW dividend yield for WBA is about 5.37% and for CVS it’s about 3.12%. When the FW yield is added to the expansion fee, WBA’s PEGY ratio seems to be solely 0.85x and CVS’s PEGY ratio is about 1.58x.
Due to this fact, WBA’s PEGY ratio is considerably under the 1x threshold that Lynch prefers, whereas the CVS ratio is 58% above that threshold. In consequence, WBA will get one other level over CVS within the evaluation criterion.
3. Dividend payout ratios
Payout ratios, whether or not when it comes to earnings-based or cash-based payout ratios, look fairly uneven for each shares, as seen within the chart under. A part of the rationale for such massive fluctuations is that their accounting earnings don’t all the time replicate their financial earnings. Nevertheless, regardless of the broad variation within the information, my conclusion right here is that CVS has offered a payout ratio that’s considerably decrease than WBA. The highest panel compares their money payout ratios over the previous 10 years to easy out noise and common out discrepancies between ebook earnings and financial earnings. That’s, WBA has traditionally paid out 38.6% of its money as dividends by comparability, whereas CVS has solely paid out 24.5%. Additionally, WBA’s present payout ratio is 47%, additionally considerably greater than CVS’s 25% in case you recall the info proven within the first chart above.
So CVS positively scores some extent above WBA when it comes to payout ratios.
4. Repurchase of shares
Each shares have been constant patrons of their very own inventory over time, as proven within the chart under. That’s, CVS’ internet frequent repurchase yield has averaged 2.79% over the previous decade. As compared, WBA’s internet frequent repurchase yield has been considerably greater, averaging 3.43% over the previous decade. Though CVS’ present internet repurchase yield is considerably greater than WBA’s (3.52% vs. 0.49%).
Given the above issues, I really feel the comparability here’s a little bit of a blended bag and that it is tied for them when it comes to share buybacks. Every of them will get 1 level as a result of they each have an extended historical past of shopping for again their very own shares.
5. stock administration
Lastly, the next chart compares their stock administration. Extra particularly, the chart reveals the stock days excellent for WBA and CVS lately. As proven, each corporations have been steadily bettering their stock administration over time. WBA has lowered its excellent stock from roughly 48 days originally of the final decade to the present stage of solely 29 days. In the meantime, CVS has lowered its stock from ~39 days to its present stage of 24.2 days over the identical interval.
All in all, each corporations have proven an identical development of stock enchancment and their present ranges are very related. As such, I additionally think about this criterion a tie between CVS and WBA.
Dangers and ultimate ideas
Earlier than issuing my ultimate scorecard, it is necessary to remind buyers that each shares carry dangers regardless of their management place in healthcare. Being in the identical sector, CVS and WBA compete instantly with one another and are delicate to the identical set of macroeconomic situations and insurance policies. Macroeconomic situations such because the COVID pandemic and excessive inflation charges might have an effect on the enterprise mannequin of each corporations. By way of coverage dangers, each corporations are significantly delicate to refund insurance policies. For instance, the current enactment of the Inflation Discount Act (“IRA”) might have long-term implications for WBA and CVS. Lastly, WBA can be extra vulnerable to foreign money trade dangers as a consequence of its larger international publicity than CVS.
In abstract, each WBA and CVS are enticing of their present situations in accordance with Lynch’s standards for choosing dividend shares. As proven within the desk under, CVS met 3 of the 5 choice standards and WBA met a complete of 4. Notably, WBA’s PEGY ratio is just 0.85x, under Lynch’s threshold of 1x by a great margin.