Financial Thought of the Day September 30, 2014: Resisting the Propensity to Consume

When people start to make more money they want to spend more. When you resist the temptation to spend more when moving into a higher paying job, it can change your life in unimaginable ways. It's akin to winning the lottery.

Financial Thought of the Day September 29, 2014: The Importance of Cash

While money can't buy happiness it sure can buy options. This includes a cash cushion to get through a layoff or capital to take advantage of stock market corrections. Not being able to take advantage of buying a great company at a low price is like someone wanting that fancy watch or toy that is on sale but still not having enough money to buy it.

Financial Thought of the Day September 26, 2014: Matching Expenses with Your Paycheck

One of the ways I developed to save money is to add up your bills for the year and divide it by the number of paychecks you get in a year. If you get paid every other week divide your total expenses by 26. If you get paid twice a month you divide total expenses by 24. If you get paid once a month you divide total expenses by 12.

It gets a little more complicated if you work for yourself but developing financial statements will help even in this situation. If your expenses exceed your paycheck, you may want to either work more or cut back on expenses because you are burning through your savings or going in debt. If your expenses are less than your paycheck you are saving money.

Financial Thought of the Day September 25, 2014: Waiting for Politicians is a Recipe for Poverty

"Vote <Insert your party here> and remain poor" is the dumbest thing I have ever heard. As long as we remain a capitalist society, its up to you as the individual to garner success. Waiting for a politician to do it for you is a recipe for poverty.

Financial Thought of the Day September 24, 2014: A Penny Saved is a Penny Got

I would very much recommend this Forbes blog that talks about the financial and business wisdom of Benjamin Franklin. Benjamin Franklin talks about the importance of staying out of debt and acquiring valuable skills as evidenced by his quote, “There’s more old drunkards than old doctors". The blog also goes on to talk about misnomers. For example the authors point out that Ben Franklin never said "A Penny Saved is a Penny Earned" but rather said "A Penny Saved is a Penny Got" in the preface to his 1758 almanac.

In the honor of the phrase "A Penny Saved is A Penny Got" let's see what a penny will get you compounded at various interest rates over a period of 30 years:

10%--Historical return of the stock market--.01 x (1.10^30) = $0.17

22%--Fantasy super investor return--.01 x (1.22^30) = $3.90

Now imagine savings dollars, tens of dollars, and hundreds of dollars.

Financial Thought of the Day September 23, 2014: The Function of the Stock Market

The stock market provides the individual with the ability to buy and sell shares of publicly traded companies with very little start up capital. A large number of people stands ready at any given moment to sell you their shares of a company that could make you wealthy over the long-term. Conversely a large number of individuals stand ready to buy your shares in a company providing you with the opportunity to convert your shares to cash to use as you see fit--hopefully to retire or fund a child's education. The stock market serves as the best bet for the average individual to accumulate wealth.

Financial Thought of the Day September 22, 2014: Stock Market Corrections

Long-term investors will hope for a temporary stock market correction. Then they can go in and pick up shares in good companies on the cheap.

3 Dividend Aristocrats to Buy Today

If you are looking for companies that will provide an income during retirement AND consistently give you raises then look no further than the S&P 500 dividend aristocrat list. The dividend aristocrat list represents an elite listing of companies that have consistently raised dividends for at least 25 years. Companies on the dividend aristocrat list have given an annualized return of 10.6% vs. 8.2% for the S&P 500 over the last 10 years.

However, from a business owner standpoint I offer the following criteria to help you focus on companies with staying power and a better chance to continue those dividend increases over the long-term.

1        1.) Sell a needed or highly desirable product/services--Companies that sell needed products/services or provide ease of access to highly wanted products/services will ensure the revenue and free cash flow growth needed to maintain dividend growth.

2       2.) Dividend sustainability—Look for businesses that consistently pay out a relatively low portion of yearly free cash flow in dividends for at least five years and preferably at a rate less than 50%. Measuring dividend payouts against actual cash flow generation represents the most accurate method of gauging dividend sustainability. You want companies to retain some of that cash for other things such as reinvestment back into the business, difficult times, and other forms of capital return such as share buybacks.

3       3.) Decent dividend yield—Focus on companies that provide an annual dividend yield of 1.71% or greater, which is more than most online five year CDs according to Bankrate.com. What’s the point of assuming the risk of buying stocks for income if you can get an income stream risk free? Investors need extra yield to compensate for the added risk.

Snacks and beverages

                                                                      

PepsiCo (NYSE: PEP) sells things like snacks, hot cereal, oatmeal, bottled water, juices and carbonated soda. Some of these types of products don’t exactly represent needed products and actually fall under the wanted category. However, the company’s ubiquity and global availability of products make it really easy to pick up one of its products like soda and/or snacks on the go. PepsiCo holds the No. 6 spot in the world in terms of beverage market share according to Bloomberg Industry Leaderboard. This company represents one of the global oligarchs in providing beverages and edibles.

PepsiCo’s dividend sustainability lies in the OK range with its dividend to free cash flow ratio hovering between 50% and 59% over the past five years (see table below). However, its product diversity and market dominance counterbalance this slight negative.

PepsiCo Dividend to Free Cash Flow Ratio
2009	2010	2011	2012	2013
58.5%	57.3%	56.3%	57.3%	49.8%

Source: Morningstar and author’s calculations

Currently, PepsiCo pays its shareholders $2.62 per share per year and provides a nice yield of 2.9% which just represents a starting point. PepsiCo’s market dominance and ubiquity will most likely ensure PepsiCo’s continued revenue and free cash flow growth and subsequent dividend growth.

Parts and supplies

Genuine Parts Service (NYSE: GPC) sells car parts, industrial parts, and office supplies which serve an essential function in society. People need to drive or ride a bus and both things need parts. Also, factories and mines need parts and Genuine Parts Service provides for that as well through its industrial division. In addition, people can’t function without office equipment.

Genuine Parts Service maintained a pretty sustainable dividend rate over the past five year, keeping its dividend to free cash flow payout ratio below 45% with the exception of 2011.

Genuine Parts Service Dividend to Free Cash Flow Ratio
2009	2010	2011	2012	2013
36.1%	43.5%	53.0%	37.0%	35.0%

Source: Morningstar and author’s calculation

Genuine Parts Service currently pays its shareholders $2.30 per share per year and yields 2.8%. People are keeping their cars longer which mean that the need for car parts will be sustained.

Spices and condiments

McCormick (NYSE: MKC) sells things like condiments, spices, gravy mixes, and other things mixed in or on top of foods. McCormick’s products definitely fall under the needed category. People need its products to add flavoring and texture. The company isn’t without competitors, but it is a market leader.

McCormick has paid out a reasonable amount of its free cash flow in dividends with the exception of 2011 (see table below).

McCormick Dividend to Free Cash Flow
2009	2010	2011	2012	2013
37.5%	46.3%	60.9%	47.8%	49.3%

Source: Morningstar and author’s calculations

Currently, McCormick pays its shareholders $1.48 per share per year and yields 2.2% annually. McCormick isn’t a high flying growth company but it isn’t going anywhere anytime soon.

The takeaway

The fact that these companies sell highly desirable and needed products will ensure enough revenue and free cash flow growth to serve as a solid basis for future dividend growth. Investors will also reap gains in the form of capital gains as the market adjusts the stock price to bring dividend yields to normalcy. They represent publicly traded businesses to own for the decades.

Stockdissector is NOT an investment adviser. He owns shares in PepsiCo and will not execute trades in company shares for a period of three market days.

Financial Thought of the Day September 19, 2014: My Bad Habits--Sodas Add Up

I really love sodas. But sodas can get expensive over time. At a local sit down restaurant sodas cost $2.25. It's kind of habitual for me. Let's say that I eat out 200 times per year: 200 x $2.25 = $450 per year. Let's say next year I refrain from that habit and the following year I save $450. I invest that $450 lump sum in an index fund and it gets 10% per annum for the next 30 years. Compound interest is a multiplicative mathematical function (1.10^30=17.45). Take $450 x 17.45 = $7,852.33. That's assuming I do this for one year only and assuming sodas don't go up in price. Imagine if I did this for now on?

Financial Thought of the Day September 18, 2014: Positive Attitude

Keep a positive attitude. It provides the creative juices and general energy to earn a living and to have a better life.

Financial Thought of the Day September 17, 2014: A Capital Illustration

My high school economics teacher illustrated the definition of capital with a cake. She said she spent $5 for the cake and asked if it is spending or capital. I said spending. Well she said it depends. If I am going to eat the cake its spending. If I am going to slice it up and resell the pieces then its capital. Its the best illustration on the definition of capital I have heard to date.

Financial Thought of the Day September 16, 2014: Short Term Thinking Never Pays

When investing in the stock market it always pays to think like a long-term business owner because superior long-term revenue and free cash flow growth leads to superior share price returns. You may as well go to the dog track if you are going to play the daily ups and downs of the stock market.

Financial Thought of the Day September 15, 2014: Always Save Something

Remember folks always save something. You never know when you will need it.

Sprouts Farmers Market: A 6 Point Inspection

It's important for long-term investors to develop a guide for doing their investment research. Over the years I have developed questions to guide me in my thinking when researching the publicly traded universe. With that said let's apply this process to Sprouts Farmers Market (NASDAQ: SFM).

1.) What does the company do?

When you buy shares in a company you effectively become part owner of that company. Therefore, it's important for an investor to understand what a company sells.

Sprouts Farmers Market is a grocery store that sells organic and natural foods at competitive prices. Sprouts Farmers Market operates roughly 180 stores.

2.) What do the fundamentals look like?

Investors should also look for companies that grow revenue and free cash flow over the long-term and retain some of that cash for reinvestment back into the business and for economic hard times. Excellent revenue and free cash flow growth serve as catalysts for superior long-term gains.

Sprouts Farmers Market's fundamentals since Jan. 2011 are excellent. Revenue, net income, and free cash flow increased 372%, 956%, and 1,320% respectively according to Y Charts. However, Sprouts Farmers Market's total return declined 24% vs. a 19% increase in the S&P 500 since the company's Initial Public Offering in August 2013 according to Y Charts, with the declining price due in part to subsequent sales of large blocks of stock by major shareholders.

Acquisitions, store expansion and same store sales increases contributed to revenue and net income expansion over the past five years. However, impairment costs stemming from store closures served as a drag against this growth. Net income growth filtered down to free cash flow growth exceeding capital expenditures growth, which is exceptional.

Sprouts Farmer Market continues to do well in 2014. Year-to-date revenue, net income, and free cash flow increased 23%, 109%, and 78% respectively. Same store sales and store expansion contributed to across the board growth. The healthy and trendy appeal of the company serves as a draw to consumers.

Sprouts Farmers Market also sits on a good balance sheet. Cash and long-term debt to equity ratios came in at 30% and 49% respectively in the most recent quarter. Long-term debt creates interest which chokes out profitability and cash flow. Investors should always look for companies with long-term debt to equity ratios of 50% or less.

3.) How much management-employee ownership is there?

Investors should also look for businesses where the managers and/or employees own a lot of stock in the company. Managers with a great deal of stock in the company will take better care to maximize company profits which will enhance share price and their personal wealth along with the wealth of shareholders.

Directors and officers collectively own 3.8% of this company. Douglas Sanders, Sprouts Farmers Market's President and Chief Executive Officer, owns 1.4% of the company's stock giving him extra incentive to maximize company profit.

4.) How does its "Report of Independent Registered Public Accounting Firm" stack up?

Every year a company employs external auditors to audit financial statements and evaluate whether it maintains adequate financial controls. At the conclusion of the audit, you want to see a letter from auditors with the language "unqualified" or "fairly presents" which generally means that the financial statements and internal systems in constructing them were clean or adequate. If you see "qualified" or "adverse" in the auditing letter's language then deeper issues in a company's financial statements may exist.

Last year, external auditors gave the company's financial statements a "presents fairly" opinion meaning that it's clean based on the audit. They provided no opinion on internal financial controls. However, management indicated some issues with internal controls pertaining to the "costing of non-perishable inventories" in 2013.

5.) What types of risk does it have?

It's always important for investors to weigh the various risks such as exposure to political risk in parts of the world where war is the norm, competitive positioning, and market price risk. Sprouts Farmers Market operates solely in the United States which means political risk resides in the relatively low range.

Sprouts Farmers Market operates in a crowded industry competing with other organic grocers such as Whole Foods Markets (NASDAQ:WFM). Sprouts Farmers Market's lower price philosophy led to a relatively lower operating margin of 5.7% in 2013 vs. 6.8% for Whole Foods Market.

Even after the stock price decline, Sprouts Farmers Market still trades at a high P/E ratio of 54 vs. 19 for the S&P 500 and 25 for Whole Foods Market. This means that the company's market price risk resides in the stratosphere. It's a little better on a forward basis with Sprouts Farmers Market trading at a forward P/E ratio of 37 versus 18 for the S&P 500.

6.) What does its forward analysis look like?

Look for Sprouts Farmers Market's organic food to serve as a magnet for consumers. The company's robust fundamental growth definitely warrants a second look. However, investors need to heed caution over its internal controls issues and its sky high P/E ratio. The first time the company disappoints Wall Street its stock price will retract further.

Stockdissector is NOT an investment advisor and he owns shares in Whole Foods Market and will not execute any trades in the company for 3 market days.

Financial Thought of the Day September 12, 2014: Think Publicly Traded Businesses NOT Stocks

Investing legend Warren Buffett had this to say when thinking about stocks:

"Shares are not mere pieces of paper. They represent part ownership of a business. So, when contemplating an investment, think like a prospective owner."

When people think about buying stocks they should think in terms of strategic advantages and barriers against potential competitors on the business level and how much they are willing to pay to own such an enterprise. The cheaper the better.

Financial Thought of the Day September 11, 2014: Capitalism

Capitalism is defined by the private ownership of capital or the means of production of  goods and/or services.

America should be defined by capitalism.


**Let's not forget what happened on this day 13 years ago.

Financial Thought of the Day September 10, 2014: Net Margin or Profit Margin

Net margin or profit margin is the percentage of net income relative to revenue. It is defined by the following formula--Net margin = (Net Income/Revenue) x 100.

Financial Thought of the Day September 9, 2014: Not All Money is Created Equal

Remember not all money is created equal. Some money should be earmarked for things like bills, unforeseen emergencies, and retirement. Everyone is on their own. It takes self discipline to do this. The best way to earmark is to prepare a budget.

Financial Thought of the Day September 8, 2014: Peter Lynch on Doing Your Research

Investing legend Peter Lynch ran the Fidelity Magellan Fund from 1977 to 1990 and earned 29% "annual average return" during that time. He had this to say on doing your due diligence before investing:

"Investing without research is like playing stud poker and never looking at the cards."

Investing without doing your research is basically a random shot in the dark and is not much better than gambling.

Financial Thought of the Day September 5, 2014: Penny Saved is a Penny Earned

Here's an incentive to save and invest: Imagine accumulating $3 million dollars and investing that amount in various income producing assets such as dividend stocks yielding 2%. The amount of income generated would equate to $60,000 per year. You would never have to touch your invested amount.

Financial Thought of the Day September 4, 2014: Net Income

Net income is the amount of accounting profit a company has left over after incurring expenses. It is defined by the formula Revenue - Expenses = Net Income. Note this is not necessarily the amount of cash a company generates.

Financial Thought of the Day September 3, 2014: Gross Margin

Gross margin is the percentage of a company's revenue that is gross profit. The following formula describes it: [(Sales - Cost of Goods Sold)/Revenue] x 100.

Financial Thought of The Day September 2, 2014: Gross Profit

Gross profit can be defined by the following formula: Sales-Cost of Goods Sold = Gross Profit. Gross profit is the amount of money a company has left over after selling what it has purchased for inventory. Gross profit can also be misleadingly called gross margin.