1 Dividend Stock That Looks Ready to Explode

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

As housing stocks shattered ceilings in the past one year, stocks of specialty chemical makers followed suit with solid double-digit gains. Naturally, anything that helps set up those buildings or add color to your lives (those walls within which you spend your entire days would have dragged you into depression if they were bland) are bound to get a lift as construction activity picks up.

Do the performances of these companies truly justify their share price appreciation? Let’s take the case of paint companies – stocks of most hit 52-week high in recent weeks. What’s next for them? Is there enough room for reasonable further upside in any of these stocks? I’d answer the last question with a yes.

Brushing up, and up!

Paint- and coatings-focused stocks have easily outpaced Dow returns over the past year, buoyed largely by a housing market recovery. Rock-bottom interest rates are pulling pent-up demand out of the closet, as evidenced by the month-over-month rise in housing starts and home prices. And by demand, it’s not just the urge to buy a new home that I am talking about. All those people who sat tight-lipped for months or even years even as walls around peeled and screamed for attention are suddenly letting their pockets lose and giving their homes a much-needed makeover. Growing sales at home-improvement retailers is proof. Over the past few quarters, Home Depot (NYSE: HD) has consistently maintained that demand for home décor items such as paints has been on the rise. The retailer enjoyed double-digit same-store sales growth for paints during the last quarter. Its total comps were up 2.1% from the year-ago period.

<img src="http://media.ycharts.com/charts/3d38f21d67ffab3e772b581f102567bd.png" />

RPM Total Return Price data by YCharts

Have these companies fared quite as well over the past twelve months? Not quite, particularly if we consider their single-digit growth in bottom lines. Nor has revenue growth been particularly outstanding. While performances of RPM and Sherwin have been strikingly similar, PPG has lagged behind. As for Valspar, a huge loss in its fourth quarter last year because of a one-time impairment charge makes it look like an outlier, but its trailing 12-month-results should be much better once the company reports its next quarter.

<table> <tbody> <tr> <td><strong>Company</strong></td> <td><strong>Revenue growth %</strong></td> <td><strong>Net profit margin %</strong></td> <td><strong>Operating profit margin %</strong></td> <td><strong>Return on Equity %</strong></td> </tr> <tr> <td><strong><span>RPM Internationa</span></strong><span><strong>l</strong> <span class="ticker" data-id="205248">(NYSE: <a href="http://caps.fool.com/Ticker/RPM.aspx">RPM</a>)</span></span></td> <td>11.7</td> <td>5.7</td> <td>10.2</td> <td>17.7</td> </tr> <tr> <td><strong><span>Sherwin-Williams</span></strong><span> <span class="ticker" data-id="205418">(NYSE: <a href="http://caps.fool.com/Ticker/SHW.aspx">SHW</a>)</span></span></td> <td>11.8</td> <td>5.6</td> <td>9.6</td> <td>35.3</td> </tr> <tr> <td><strong><span>PPG Industries</span></strong><span> <span class="ticker" data-id="205065">(NYSE: <a href="http://caps.fool.com/Ticker/PPG.aspx">PPG</a>)</span></span></td> <td>5</td> <td>6</td> <td>11.8</td> <td>24</td> </tr> <tr> <td><strong><span>Valspar </span></strong><span><span class="ticker" data-id="205987">(NYSE: <a href="http://caps.fool.com/Ticker/VAL.aspx">VAL</a>)</span></span></td> <td>7.1</td> <td>-1.9</td> <td>11.4</td> <td>-5.5</td> </tr> </tbody> </table>

Sources: Morningstar, Motley Fool CAPS. All trailing twelve month figures

I also find it worth mentioning that all these companies have had to battle soaring input costs, with prices of key raw material titanium dioxide (TiO2) in particular remaining firm at levels too high for comfort. A good chunk of sales growth for these companies therefore came on the back of price hikes, and not volumes.  

What’s next?

It won’t be an easy journey going forward, as businesses of these companies depend a lot on factors essentially beyond their control. TiO2 producers aren’t willing to keep their hands off the price-increase button yet, and housing and commercial construction markets still have a long way to go to prove they’re out of the woods. Foreclosed homes inventories are still at dangerous levels and prices have only crawled up. More importantly, as long as unemployment remains at lousy levels, not much can be expected particularly on the interest rate front. The impact of QE3 is yet to be seen.

Does that mean all these stocks are overheated already? It does seem like they’ve been drowned in optimism a bit too early, but one of the four stocks still warrants a buy. Valuations speak – take a look at the table below and guess which one.

<table> <tbody> <tr> <td><strong>Company</strong></td> <td><strong>Trailing P/E</strong></td> <td><strong>5- year average P/E</strong></td> <td><strong>Forward P/E</strong></td> <td><strong>Price/Cash Flow</strong></td> <td><strong>Dividend Yield</strong></td> </tr> <tr> <td><span>RPM Internationa</span><span>l </span></td> <td>17.6</td> <td>22.2</td> <td>14.2</td> <td>12.6</td> <td>3.0%</td> </tr> <tr> <td><span>Sherwin-Williams</span><span> </span></td> <td>29.9</td> <td>17</td> <td>20.8</td> <td>18.7</td> <td>1.1%</td> </tr> <tr> <td><span>PPG Industries</span><span> </span></td> <td>20</td> <td>17.3</td> <td>15.2</td> <td>11.1</td> <td>2.1%</td> </tr> <tr> <td><span>Valspar </span></td> <td>NA</td> <td>7.1</td> <td>16.1</td> <td>14.9</td> <td>1.4%</td> </tr> </tbody> </table>

Sources: Morningstar, Yahoo! Finance. NM= not meaningful because of losses

RPM wins hands down. The company with the lowest P/E, it is also the only one whose P/E is trading well below the five-year average. Low forward P/E and P/CF act as icing on the cake, indicating possibility of upside potential. And just take a look at that dividend yield! Even in sour times, you know RPM will not fail you given its track record of raising dividends every year for the past 38 years. Comparatively, Sherwin looks too pricey, and not much can be judged (on the basis of valuations) about Valspar unless its P/E bounces back. Being a much smaller player, Valspar also loses out on the competitive edge. PPG seems to be better off than the two, but can’t beat RPM’s handsome dividends.  

While paying out good dividends, RPM has also put cash to impressive acquisitive use in the twelve months, which also highlights its focus to reach beyond the domestic markets. It took over a company each in Brazil, Australia, Italy, Europe and Germany, apart from two companies in the U.S. RPM also raised its stake in India-based chemical company Kemrock. Strengthening its foothold in emerging markets should definitely propel RPM’s growth in the years to come.

Foolish roundup

Strong and growing presence in both commercial and consumer areas of its business line, attractive valuations, and solid dividends (with re-investment plans available) – RPM makes for a great bet for the long haul. As RPM gets ready to release its quarterly numbers next week, I strongly urge you to keep track of the company by adding it to your stock watchlist – click here to do it.

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Neha Chamaria has no positions in the stocks mentioned above. The Motley Fool has no positions in the stocks mentioned above. Motley Fool newsletter services recommend Sherwin-Williams and The Home Depot. 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.If you have questions about this post or the Fool’s blog network, click here for information.

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