Dividends are a popular tool for building wealth, but let’s face it: a dividend is as useful as it is reliable. Chasing stocks because they have high dividend yields is a dangerous game; Sometimes a high return reflects the market’s concern that a company can’t afford to pay.
health conglomerate Johnson and Johnson (JNJ -1.10%) it could be your stock if reliability is your goal. You have to monitor every investment, but this is why Johnson & Johnson might be the closest thing to a stock you can “buy and forget.”
The company is a cash cow
Health care is arguably one of the best industries you can invest in; it is a priority in society and it is massive. Global health care spending is worth up to $10 trillion today, an almost endless market in which Johnson & Johnson can grow.
It is a health care conglomerate that consists of three segments: consumer products such as over-the-counter drugs and personal care items, medical devices, and pharmaceutical drugs. These add up to over $95 billion in annual revenue, and you can see below how steady the growth has been over the years; doesn’t see many spikes or dips, just reliable growth over decades.
JNJ Income (TTM). Data by YGraphics. TTM = last 12 months.
In particular, Johnson & Johnson is a highly profitable company, converting 21% of its revenues into free cash flow – cash earnings that management can spend discretionarily on dividends or accumulate on the balance sheet as cash. A stable and growing business is perfect to support a dividend that increases a little each year.
Solid financials behind the dividend
But every company faces a challenge from time to time, so Johnson & Johnson must have healthy financials to support its legendary dividend. If a company spends all (or most) of its cash earnings on the dividend, an event that causes the business to go down could put it in a tough spot deciding between using debt to pay the dividend or cutting it.
JNJ Cash Dividend Payout Ratio. Data by YGraphics.
Johnson & Johnson has increased its dividend for 60 consecutive years, but has still managed to keep its dividend payout ratio below 60% of its cash earnings. His free cash flow has grown 58% over the last decade, helping him increase the dividend without significantly affecting the payout ratio. Sure, it may fluctuate a bit, but you can see that the payout ratio from a decade ago compared to today is pretty much the same.
The secret sauce behind the dividend
Imagine a hypothetical doomsday scenario that hits Johnson & Johnson: business craters and free cash flow drop 50% overnight. Even in this situation, management could use the company’s balance sheet, its secret weapon, as a stock dividend.
The company has $32 billion in cash and the same in total debt. In other words, Johnson & Johnson, a company that generates nearly $100 billion in revenue and is worth more than $400 billion in market capitalization, is debt-free on a net cash basis.
JNJ cash and short-term investments (quarterly). Data by YGraphics.
It is one of only two public companies (the other is Microsoft) with an AAA rating from the major credit bureaus, higher than the US government, which can literally create money! A US bankruptcy would be a disaster far beyond the stock market, so it says something when a private sector company gets a better rating than that.
Johnson & Johnson won’t make you rich overnight, but it’s a steady compound with possibly the most reliable dividend you’ll find. You can buy and hold this Dividend King with the utmost confidence that your checks will continue to clear.
justin pope has no position in any of the mentioned stocks. The Motley Fool has positions and recommends Microsoft. The Motley Fool recommends Johnson & Johnson. The Motley Fool has a disclosure policy.
