Why Becton Dickinson Is Still A Buy
Christopher is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Becton Dickinson (NYSE: BDX) produces medical devices and instrument systems for clients worldwide. The company is fairly valued on a discounted cash flow basis at a recent price of about $77. Investors are being paid a current dividend yield of about 2.3% to wait for the company's cash flow to improve once revenue growth and profitability return to normalized rates. In the current low interest rate environment, this yield, which is one of the medical equipment industry's highest, is adequate compensation for investors to own a company like Becton Dickinson with very consistent cash flow and manageable debt.
Becton Dickinson's annual revenue growth rate has averaged about 4.5% since fiscal 2009 but the company should be able to return to the long term annual revenue growth rate of about 7.5% based on the company's considerable competitive advantages. These competitive advantages will allow Becton Dickinson to sustain its dominance in the needle and syringe market while also entering emerging markets and expanding their diagnostic and bioscience operations which will drive incremental growth. The company has also shown a willingness to undertake acquisitions and innovate new products which will further drive revenue growth. The competitive advantages that Becton Dickinson enjoys include economies of scale from manufacturing and distribution centers located globally and a trusted brand name earned from decades of providing high quality products.
As revenue growth returns to historic levels, net income margin will also return to the long term average of just more than 16% from a recent level of just over 15% because Becton Dickinson should be able to maintain gross and operating margin. The long term average gross margin is just under 52% and operating margin just under 22%. I believe the company will be able to maintain profit margins because of its ability to manage its costs while simultaneously growing revenues. Consistently high return on invested capital has averaged more than 18% and has ranged from about 16.6% to 19.4% over the past five years which indicates the superior management of capital by the company.
Although its payout ratio is at about 29%, which is above the average 27% for the past decade, Becton Dickinson should continue its record of dividend increases every year since 2002. The company has paid a dividend since 1926, and it has been increased at an annual rate of about 17% since 2002. The company has already announced an unchanged dividend of $0.45 for the first quarter but, absent a large acquisition in 2012, I expect a dividend increase during the year. A dividend increase that matches the long term average of 17% implies a current yield of 2.7% at the current $77 per share. Furthermore, even if the company does not increase the dividend in 2012, the current dividend yield of 2.3% may be signaling a share price appreciation which would decrease the dividend yield to the long term average of about 1.7%. At that level, shares would rise to about $105 at the current dividend rate of $1.80 per share.
Becton Dickinson does face a number of risks and has some weaknesses which any investor must be comfortable with before buying shares. Spending by hospitals, the company's primary customers, is cautious given uncertainty in the health care field driven by legislated federal government involvement and a slowdown in hospital services due to the weak economy. Becton Dickinson is shielded in part from these factors due to the nature of its primary products (needles and syringes) which are necessary and small recurring purchases rather than large expenditures that hospitals can delay. A second area for investors to assess is the commoditized nature of the company's products which makes cost control essential because price is the primary competitive factor. Becton Dickinson has been the clear leader for decades in the syringe market which gives it the most pricing power. Admittedly this power is limited but Becton Dickinson is still able to dictate price more than its competitors. More importantly, the company has historically controlled costs well and I do not see a reason for that to change in 2012.
Becton Dickinson has a number of different competitors in the three segments in which it operates. In the medical system segment (needles & syringes) which contributes about 51% of revenue, Becton Dickinson controls about 70% of the market. Its diagnostics unit contributes about 32% of revenue and its biosciences segment contributes about 17% of revenue. Competitors in these business include Abbot Laboratories (NYSE: ABT), Siemens (NYSE: SI), and Baxter International (NYSE: BAX). Each of these have significantly larger operations with bigger marketing and research & development capabilities than Becton Dickinson. However, investors are willing to pay a premium for Becton Dickinson compared to these competitors as its forward price to earnings ratio is about 13.6x while its estimated growth is only 2.2% for a price to earnings to growth ratio of 6.2x. Abbot currently trades around $55 per share with a dividend yield of about 3.5%, a forward price to earnings ratio of about 11x, and a price to earnings to growth ratio of about 1.4x based on analysts estimates of 2012 earnings. Baxter currently trades around $57 per share with a dividend yield of about 2.4%, a forward price to earnings ratio of about 12.6x, and a price to earnings to growth ratio of about 2.4x based on analysts estimates of 2012 earnings. Finally, Siemens, which currently trades around $97 per share with a dividend yield of about 2.9%, has a forward price to earnings ratio of about 11.3x based on analysts estimates of 2012 earnings. Analysts are projecting a decrease in earnings per share for Siemens in 2012 thus a price to earnings to growth ratio is not relevant.
I believe investors willing to accept Becton Dickinson's 2.3% dividend yield while waiting for a return to its long term growth trajectory should strongly consider buying shares in this company with dependable cash flow, consistent return on invested capital, and sustainable competitive advantages. And while they wait for capital appreciation, investors could be rewarded by an enhanced dividend in 2012.
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