The best dividend growth stocks have the ability to increase their dividends each year, including periods of economic downturns. To do this, a company needs a strong business model, as well as durable competitive advantages. No company can raise dividends each year over the long-term without the supporting fundamentals.
Union Pacific (UNP, Financial) is an example of a high-quality dividend growth stock. It has an attractive dividend yield of 2.4%, which is above the average dividend yield in the S&P 500 Index. Even better, Union Pacific generates strong underlying earnings growth, which allows it to raise its dividend each year. The company actually increased its dividend three times in just the past 12 months. As a result, Union Pacific is one of the best railroad stocks for dividend growth investors.
Transporting loads of profits to investors
The best dividend growth stocks have a few key qualities in common. They are usually highly profitable companies, with competitive advantages that place them atop their respective industries. They also have shareholder-friendly management teams that are committed to paying dividends to shareholders, and raising their payouts each year. Union Pacific has all of these qualities and more.
Union Pacific’s history goes all the way back to 1862. Today, it is the largest railroad in the U.S. with approximately 32,000 miles of track, and nearly $21 billion in annual revenue. Union Pacific’s unparalleled network gives it a huge operational advantage that smaller competitors cannot match. It also gives Union Pacific significant growth opportunities.
The company’s most recently announced financial results showed another quarter of solid growth. For the quarter, revenue increased 10% to $5.9 billion. Revenue growth was attributable to higher volumes as well as price increases, which is another competitive advantage. Pricing power is the result of a business service that customers cannot do without, and helps boost revenue growth.
Union Pacific’s volumes are rising due to the steady economic growth in the U.S. and North America. The only segment to post a decline in volumes last quarter was energy (down 2%), while all other segments saw volume growth, while pricing increases added to revenue growth. Specifically, the industrial and agriculture segments grew revenue by 13% and 6%, respectively. Even the energy segment grew revenue by 2% for the quarter.
Earnings per share of $2.15 jumped 43% from the same quarter last year, due to a combination of revenue growth, margin expansion, and tax reform. For 2018, Union Pacific expects to generate over 30% earnings growth. Over the next five years, the company is expected to post at least 4% earnings growth each year. Shareholders naturally benefit from this growth through rapid dividend increases.
Ride the rails for dividend growth
Thanks to Union Pacific’s strong earnings growth, the company rewards shareholders with rising dividends each year. It has increased its dividend for 12 consecutive years, which makes it a Dividend Achiever. It also raises its dividend at a high rate. In the past 10 years, the company has increased its dividend by 22% per year, on average.
The past year has been a boon for Union Pacific shareholders, specifically those looking for dividend growth. Union Pacific has raised its dividend three times in the past 12 months. For the December 2017 payment, the company raised its dividend by 9.9%. The March 2018 payment was increased 9.8%. Finally, Union Pacific raised its dividend 9.9% for the payment made this past September. In total, Union Pacific will pay dividends of $3.06 per share, a 23.4% increase from the total dividends paid last year.
Even better, there is still room for future dividend increases. Based on 2018 expected earnings, the company’s payout ratio is likely to be just 40% of earnings. This is a fairly modest payout ratio with room for expansion, particularly since the company is growing its earnings. Reasonable expectations could be for the company to raise its dividend by 10% per year over the next five years.
And, with the stock price nearly 20% off of its 52-week high, Union Pacific’s dividend yield is higher than normal. At 2.4%, Union Pacific yields more than the S&P 500 Index, which has an average dividend yield of 2% right now. This means investors can buy the stock at an above-average yield, with high dividend growth as well.
The bottom line
Volatility has returned to the stock market. Fears of slowing global economic growth and mounting worries over global trade are likely to result in the S&P 500 posting a loss for 2018. Economically-sensitive industries such as transports have struggled as a result. But despite the recent decline in Union Pacific shares, the company’s long-term outlook remains highly positive. Union Pacific remains a top railroad stock for dividend growth.
Disclosure: I am not long any of the stocks mentioned in this article.
