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7 Dividend Stocks Sporting A Five-Star Rating

 March 20, 2012 10:05 AM

Performance and sustainability - that's what investors in Dividend Growth Stocks are looking for. It's very easy to find stocks with a yields greater than 10%, but how many of those will be able to sustain or grow their dividend over 10, 5 or even 3 years? Also, it doesn't take much effort to find a company that can sustain and grow its dividend because it is only paying a nominal amount (low yield and low payout).

When picking stocks there is no such thing as a 'sure thing.' All stocks carry risk and uncertainties. However, there are metrics we can loo at that help us to reduce our portfolio's risk by selecting high-quality stocks.

In search for 5-Star stocks, here are the metrics I look at:

1. Valuation

I look at five measures of fair value: 1.) Avg. High Yield Price, 2.) 20-Year DCF Price, 3.) Avg. P/E Price, 4.) Graham Number and 5.) NPV MMA Price. Of the first four, the highest and lowest fair values are excluded and the remaining two calculations are averaged to calculate the Mid-2 price. Then I weight it with the NPV MMA Price to determine the calculated fair value. (More Info) A Star is awarded if the stock is trading at a fair value.

2. Free Cash Flow Payout

Dividends are paid in cash, not earnings, EBIT, EBITDA or EPS. To pay a meaningful dividend a company must generate sufficient free cash flow. A Star is awarded if the Free Cash Flow Payout is less than 60% and there were no negative free cash flows during the last 10 years.

3. Debt To Total Capital

If a company generates significant cash, it may still be hampered to pay a meaningful dividend if the cash must be used to pay down debt. Having less debt provides a company more financial flexibility. A Star is awarded if the Debt To Total Capital is less than 45%.


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