Air Products & Chemicals Dividend – Slowing Or Growing?

By Chad Henage - June 22, 2012 | Tickers: APD, ARG, DOW | 0 Comments

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Companies that use chemicals and naturally occurring gases for their products are not exactly a dime a dozen. There are several large players that dominate the field. One of the big players in this segment is Air Products & Chemicals (NYSE: APD). Besides the company's obvious competitive advantage of operating in a relatively obscure industry, Air Products also has the distinction of increasing its dividend for over 25 years in a row. Competition in the chemicals industry is tough and just because a company has increased its dividend for years doesn't mean that streak can't come to an end. Dow Chemical (NYSE: DOW) is a painful reminder of just how fast things can change. Dow paid a dividend, without a cut for 97 years, until it broke that streak. Let's see if Air Products is destined to be another Dow, or if the company can continue its streak.

Before we get to the dividend, let's take a quick look at how Air Products compares to their competition. One of Air Products largest competitors is Airgas (NYSE: ARG). Look at the numbers:

You can see that the market thinks enough of both companies to bid them up to a premium to their respective growth rates. The two reasons that Air Products probably sells for a premium to Airgas are the company's higher yield, and their streak of dividend increases. Since this dividend is central to Air Products valuation, can the company afford to pay their current yield?

Looking at the company's free cash flow versus their dividend, I'll say I'm a little worried for Air Products dividend in the future. In the last three years, the lowest the company's free cash flow payout ratio has been is 81.04%. The troubling part is the company only had a payout ratio of less than 100% once in the last three years. In the other two years, the payout ratio was as high as 248%! Air Products investors should watch this trend very carefully. In this same time-frame, the company sold some new shares to assist with the cash flow shortfall, and also added some long-term debt. Issuing new shares and taking on new debt are red flags that the company is trying to cover payments that aren't affordable. Assuming Air Products can continue the current dividend, is dividend growth likely?

Take a look at how Air Products has handled their prior dividend increases:

You can see that though the company has paid over 100% of free cash flow in dividends, the company had the confidence in their future prospects to increase the dividend by over 18% in 2011 and over 10% in 2012. The company's longer-term dividend increase rate is very consistent over time at just over 11% per year on average. So what should investors expect in the future?

Truthfully, with analysts expecting EPS growth of less than 8%, I don't see a way for Air Products to increase the dividend by more than 8% in the short-term. In the last three years as the company's net income nearly doubled, operating cash flow only increased by 31.88%. If this trend of operating cash flow trailing net income continues, I would expect dividend increases of 5-8% going forward. If the company can find a way to curtail their capital expenditures, I would feel more comfortable with the shares. For now, I would suggest avoiding Air Products shares. The company's high payout ratio makes me nervous, and it seems there are better opportunities if you are looking for dividend growth.  

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