Call It the Fountain of Dividends

Before too long we'll be past the Memorial Day weekend. Already, folks have started to water their grass, plant their gardens and get their homes in shape, but soon we'll be hearing the whir of air conditioning units as folks look to stay cool during the summer heat. Maybe it's me, but that prompts me to think of certain dividend payers that have a seasonally strong business during the June and September quarters. Yes, I'm talking about water and electric utilities, and while there are quite a number of them out there, only a few of them are worth are our attention. Let's start see what we find when we open the spigot on water utility companies. From a dividend yield perspective, the ones tied to most of the publicly traded water utilities are nothing to write home about. All of them are less than 2% and I can understand why those looking for enviable yields will give them both a pass: Global Water Resources - 1.7% Middlesex Water Company - 1.3% California Water Service Group - 1.6% York Water Company - 1.56% American Water Works - 1.58% American States Water - 1.75% Yet, we know their businesses will surge over the coming months and when we examine a number of their financials, we find that the bulk of their revenue cash flow and earnings come during the June and September quarters. For example, American Water Works generates close to 65% of its earnings per share during those two quarters. That seasonal strength likely helps that company's board determine how much to increase its dividend for the coming year. Earlier this month, the company announced its latest dividend increase to $0.6025 per quarter per share, up from the prior $0.55. Alongside that news, American Water Works announced it expects to continue dividend growth at the high end of the 7 percent to 10 percent range and target a dividend payout ratio between 50 to 60 percent of earnings. It's able to do this because we all need and use water daily, not just during the summer months. In addition to that unquenchable demand, water utilities like American Water Works are able to pass rather sticky rate hikes on to customers from time to time, which tends to trickle down to not only revenue to profits and cash flow. Even during the Great Recession, American Water Works posted a revenue increase and in 2020, a year that was impacted by the global pandemic, it delivered a 3% revenue increase year over year and while its EPS rose 4% compared to 2019. Talk about an inelastic business that people will use no matter what is going on. Here's the thing, when we look at American Water Works' consensus EPS forecast out to 2024, we find a steady progression of mid-single digit growth. That puts its 2024 EPS at $2.92 vs. the $2.33 it earned in 2020. And this is where I point out that over the last year the company has either met or beaten the consensus EPS forecast. Now let's revisit that 7%-10% dividend growth rate and a target payout of 50%-60% of earnings vs. those EPS forecasts. If we game it out using the low end of that dividend growth rate, we can see a quarterly dividend approaching $0.80 in the next few years. If the dividend yield stays the same as it is today, that implies a share price near $187, roughly 21% higher than where it is today. Again, that's on the low side of the company's dividend growth forecast. If we utilize the midpoint, the inferred share prices is more like $195 or 26% higher. The above example showcases how dividend investors need to look past the dividend yield trees for the rising dividend policy forest lest they miss an opportunity of the inelastic kind. And if AWK shares pull back like they did in February, when their dividend yield hit 1.7% like it did in March 2020, dividend investors should be over it. Next up, we'll look at some electric utilities.

Call It the Fountain of Dividends

American Water Works generates close to 65% of its earnings per share over just two quarters. Let's see how the company could quench the thirst of dividend-seekers.

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