Three Aristocrats for a Dividend-oriented Investment Portfolio

Fani is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

At the moment, Greece is possibly one of the worst places to live and/or work in Europe. Don't get me wrong. We still enjoy the beautiful sunny weather and keep having an optimistic attitude towards life. The economic crisis that has made us so popular in the media has not crashed our spirit.

However, most of us ended up with empty pockets. Finding a job at this time is indeed difficult. Finding a job that pays well is like needling in a haystack. Above all, the government had to implement significant cuts on state pensions aiming to achieve fiscal discipline. This means that, in terms of household financial planning, we need to find alternative ways to generate a relatively steady income. Thus, building a portfolio driven by long-term investment goals can never be a bad idea. You never know what the future holds, so, why not be prepared?

With that in mind, I took a deeper look at the Standard & Poors 500 Dividend Aristocrats list. This list includes the crème de la crème of dividend-paying stocks. In particular, it consists of large cap blue-chip companies from the S&P 500 Index that have pursued a consistent dividend-growth strategy for at least 25 consecutive years.

Over the past three years, the Dividend Aristocrat components have outperformed the S&P 500 index by posting an almost 11.7% total return. As of Dec. 31, 2012, 51 companies made the list. Most of them came from the consumer staples and industrials sectors. I screened for companies that over the past five years increased their dividends at a faster pace compared to the US inflation rate, had a maximum payout ratio of 60% (data derived from Morningstar), and current assets on the balance sheet in excess of current liabilities. Moreover, as seen in the chart below, these stocks have increased shareholder's value over the time by posting a considerably strong total return ( price appreciation plus dividends received calculated following the CRSP methology).  Here are my top picks:

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data by YCharts

McDonald's Corp. (NYSE: MCD) has a wide economic moat in the food service retail business supported by its global reach and strong brand. 2012 was an overall stagnant year for the stock. However, over the past three years, McDonald's has performed impressively and returned over 45%. The firm raised its dividends every single year since its first cash distribution in 1976. The latest quarterly dividend of $0.77 per share was equivalent to $3.08 annually.

In the most recent earnings release, McDonald's reported a solid performance across all of its major geographic segments. Operating income remained flat compared to last year. Nevertheless, the company is poised to benefit from its exposure in China and the regional surge of consumerism. As I mentioned in a previous article, the Boston Consulting Group projects that, over the next three years, China will become the second-largest consumer market globally. This implies that companies with a strong presence in the country, like McDonald's, are highly likely to generate lucrative returns.

Walgreen Co. (NYSE: WAG) has consistently implemented a dividend growth policy backed by a competitive foothold in the U.S. drug store market. In 2012, the company failed to achieve robust sales growth leaving room for enhanced criticism over its comparative position.

However, Walgreen ended the first quarter of fiscal 2013 with a substantial differential between total current assets and total current liabilities of almost $3 billion. This was enough to cushion a 22.2% acceleration in quarterly dividends. Throughout 2012, Walgreen generated operating cash flow of $4.4 billion and returned $1.9 billion to shareholders in the form of dividends and stock repurchases.

Looking ahead, the firm expects long-term growth to result from a transformation strategy that includes aggressive expansion of its stores' network and healthcare services, key partnerships, such as the one with Alliance Boots, and meaningful returns from initiatives like the Balance Rewards Loyalty Program.

Founded in 1927, Chicago-based W.W. Grainger (NYSE: GWW) is the most valuable U.S. industrial distributor of maintenance, repair, and operations supplies. It holds a diverse product and service portfolio and operates an extensive network of over 700 worldwide branches.

W.W. Grainger's five-year stock chart is more than impressive. The stock has followed a remarkable upward trend outperforming most of its peers. At the moment, its valuation metrics look unfavorable especially when compared to the industry as a whole. W.W. Grainger is trading 22 times trailing earnings and five times sales while the industry's average P/S ratio stands at 3.6. Nonetheless, analysts' consensus recommendation is optimistic, indicating an “outperform” rating.

Overall, the firm is well-positioned to sustain its steadily growing dividends. For the period 2009-2012, the company achieved year-over-year free cash flow growth close to 70%. It has a robust sales and EPS track record, and a debt-to-equity ratio that is perfectly manageable. Compared to the other two companies mentioned above, the dividend yield is the lowest and stands at roughly 1.58%. However, the relatively low payout ratio of 30.5% suggests a higher likelihood of dividend hikes in the future.

To sum up, Dividend Aristocrats can be a good starting point for investors seeking to diversify their investment portfolio. Dividend-growth companies are certainly a fruitful way to generate stable income with a long-term perspective and protect your account balance from unexpected life changes. 

FaniKel has no position in any stocks mentioned. The Motley Fool recommends McDonald's. The Motley Fool owns shares of McDonald's. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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