Mis-Steps on Dividend Stocks

Recently I started a dividend portfolio to try to capture a 3% – 4% yield since my CD’s had matured and I was tired of locking up money to receive a 1% interest payment.  The portfolio is over on the right and I summarize it here.

The “traditional” way to select stocks involves reading the annual reports, 10k and other SEC filings from that company. In general that is a lot of work and with disclaimers and confusing notes and footnotes and the “backwards orientation” of those reports I generally don’t learn a lot.

The first place I usually go when I am thinking of stocks is the “stock screener” over at Google Finance where you can put in criteria like market capitalization, profitability, yield, and stock price moves within a range of positive or negative and it will give you a list of stocks where you can start your search. Many of the stocks that pop up are ones I’ve already thought of but there are always a few surprises, especially the non US companies.

The next place I go are the general blogs like “Seeking Alpha” which have many articles on stocks. I would treat all of these with a grain of salt but they often spawn useful ideas that you can research on your own.

For another good source of information I go to the company’s web site and bypass the formal earnings files and look at the analyst presentations. These are power point slides (usually saved as PDF’s) that the company includes with their quarterly earnings call, or that the company provides analysts on “analyst day” when they meet and speak. Companies have to distribute the same information to all investors by SEC regulations (in general) so this is way to accomplish that, by putting it on the web.

I find these quarterly presentations to be very good. The company tries to be forward-looking, not backwards looking, and you understand the company’s motivation (to try to tell as rosy a story as possible). On the other hand, the company also has to temper their share holders’ enthusiasm, because high expectations by investors have to be backed up with strong results or the stock will likely be punished.

I didn’t do enough (or much of any) research with a couple of stocks I could have avoided a miss on – Exelon and Avon. Exelon (EXC) has seen its stock price come under fire, decreasing from around $44 to about $29 in a year, as investors assume that the dividend (currently 7%) is unsustainable. Here is a link to the EXC corporate events & presentations page where you can read their latest report that contains forward-looking information. While it is too late for me (I already bought the stock, saw it drop 20% in a heartbeat, and sold it, I will look at this presentation as if it COULD have helped me. It is the EEI investor conference in November, 2012.

That EEI presentation is densely populated with data and information and attempts to explain key, inter-related elements of Exelon’s business across multiple geographies. You gain a sense of how staggeringly complicated their business is. As someone inherently interested in energy and energy policy, I enjoyed reading it, and in some ways it is an elaborate document that describes how they intend to increase margins and efficiencies while deferring capital projects in order to 1) protect their credit rating 2) preserve their dividend. They don’t specifically address the dividend payout ratio in this document (anything above 70% of earnings isn’t sustainable in the medium term, and above 100% isn’t even sustainable long in the short term. Exelon is currently pretty far above 100%), on page 11 they have a projected cash flow statement for 2012 with “sources and uses of cash” and you can see that they have the dividend in at $1.75B and a beginning cash balance of $500M and an ending cash balance of $1.1B – but this also includes the cash contributed by the company they acquired so that one-time infusion is now gone.

While Exelon hasn’t reduced their dividend yet and the stock pressure is on because many analysts think they MIGHT reduce their dividend (and the company is attempting to publicly address the issue), Avon on the other hand DID cut their dividend and as a result the stock suffered an immediate loss. I lost 16% on that stock in short order. They don’t have the same types of forward looking PDF presentations on their web site, but tend to put more information in their conference call materials which include quarterly SEC information and margins, but doesn’t have much forward-looking information.

Avon does have a page here which showed WHY their stock was a long time favorite of dividend investors – go to this page where they showed their dividend history plus growth in the dividend over time back to around 1990. This pattern of steady growth of more than 5% / year is what attracted many investors to the stock and allowed them to include imputed forecasted growth in their projection for future stock values. However, Avon’s dividend proved unsustainable and this cut in dividends severely hit the stock price.