Friday, May 21, 2010

What Is Intrinsic Value? – Dividend Growth Greater Than Inflation

My definition of intrinsic value boils down to “a wonderful company fairly valued”. By judging 14 value elements I’ll determine if a company deserves this description. It’s my intention to select and buy stocks based on their intrinsic value and to thereby get rich slowly; rich enough, at least, to fund my retirement.

14 Elements in My Definition of Intrinsic Value
(1) Strong Cash Flow
(2) Strong Earnings Growth
(3) Dividend Consistency
(4) Consistent Dividend Increases
(5) Profitability
(6) The Formula: E(2R+8.5)*Y/4 = Intrinsic Value per share
(7) Good returns on equity
(8) Little or No Debt
(9) Business Model I Understand
(10) A Durable Competitive Advantage
(11) Measure Risk
(12) Reliable Long term Dividend Income Stream
(13) Increasing Annual Dividends Faster than Inflation
(14) Expect at least a 9% Total Return Compounded Annually

(13) Increasing Annual Dividends Faster than Inflation
Value element (13) is the 4th element dealing with dividends. It’s closely related to (4) Consistent Dividend Increases.

In element (4) I calculate a five year dividend growth ratio. If the ratio (current dividend)/(dividend five years ago) is greater than 1.0 the company passes this test.

In recent years annual inflation rates were in the 3% range. A steady 3% inflation rate corresponds to a dividend growth ratio value of about 1.16; therefore, for a dividend to have just kept up with inflation over the recent five years the growth ratio needs to be 1.2 (rounded up).

To pass value element (13) Increasing Annual Dividends Faster than Inflation, I’ll require a minimum dividend growth ratio of 1.3. Higher is, of course, better.

Just because a company’s dividend payout grew faster than inflation over the recent five years doesn’t guarantee similar performance in the future. But, if the company’s payout hasn’t kept up with inflation it certainly can’t be relied upon to keep up with future inflation.

Link to Other Topics in the Get Rich Slowly Report: What Is Intrinsic Value?

No comments:

Post a Comment