I’ve spent most of my day studying GlaxoSmithKline, the British version of Johnson & Johnson. I still haven’t finished my study of the company yet, but it looks like one of the few places in the large-cap sphere where you can get a fair shake and high annual income at today’s price in the low $50s.
The source of the opportunity is this: it tends to grow its profits at a slower rate than Johnson & Johnson (Johnson & Johnson will probably grow around 8-10% in the next decade, while GlaxoSmithKline figures to be closer to the 5-6% range), giving the company limited appeal to those who want to build wealth in a hurry. If you are trying to get rich in a hurry, why would you select a fairly valued GlaxoSmithKline growing at 5-6% annually when you could get your hands on a fairly valued Visa growing at 15-16% per year?
The other thing creating a lack of buyers is that GlaxoSmithKline does not have a smooth income history. With Johnson & Johnson, you can look back six decades and see annual increases going up every year since the 1960s. GlaxoSmithKline is part of the European dividend tradition where years that have lower profits lead to lower dividends (as opposed to the American tradition of tempering dividend growth in good years so that the dividend can go up a bit during rough years when dividends go down).
You can view GlaxoSmithKline’s dividend history here to see for yourself how the company focuses on paying out a dividend that moves up directionally over time, but does not smooth out the annual fluctuations in profits for investors.
That’s why GlaxoSmithKline is sitting out at fair value right now: income investors will figure “hey, I’ll just go with Johnson & Johnson”, and growth investors will look to the likes of Disney to receive preference to something like GlaxoSmithKline.
The right kind of person would be someone who is interested in getting high current income now, is flexible with the manner in which that income comes, and does not want to overpay for the stock. The thought process of someone leaning towards something like GlaxoSmithKline might be go like this, “Okay, I already got AT&T and BP. I don’t want to overpay for a stock just because I want income, but I also don’t want to deal with a typical S&P 500 company that is yielding 1.8% currently.”
That’s where GlaxoSmithKline is most appealing—those who want total returns that will roughly mirror the S&P 500 but want a starting dividend amount that is going to be much greater than what you’d get with an index fund that tracks the S&P 500.
Imagine if you bought GlaxoSmithKline in 2008 before the financial crisis hit. Your six-year dividend income would have been this: you got $2.17 in 2008, $1.92 in 2009, $1.71 in 2010, $2.17 in 2011, $2.27 in 2012, $2.37 in 2013, and an estimated $2.87 in 2014.
You got to collect over $15 in total dividend income over the 2008-2014 stretch. If you paid $35 per share in 2008, you got to receive over 40% of your initial investment back in the form of dividends. If you use GlaxoSmithKline as a cash cow to make other investments, you got to buy $4,000 of another company from every $10,000 you put into GlaxoSmithKline over six years ago.
If you chose instead to reinvest your dividends into GlaxoSmithKline, then every 100 shares you bought would have generated a total of a bit more than $1,500 that got reinvested at a purchase price of around $41 per share, so that every 100 shares would have created 36-37 new shares organically since 2008.
Those “hidden” shares explain why income investors do so much better than just the $2.17 annual dividend in 2008 growing into $2.87 in 2014 might initially suggest; it’s not just that every 100 shares producing $217 grew to $287, but really, you get to have 137 shares producing $393. You can start to see how buying a couple hundred shares of GlaxoSmithKline and holding it to reinvest for a decade or so can give you a “wow” income stream.
Originally posted 2014-07-17 17:51:04.