Donaldson's Bullish Dividend Metrics Point To More Share Price Gains

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Upgraded Donaldson Company, Inc. to a Buy rating in July due to growing margins, strong volumes, and bullish fundamentals in key segments.Despite trailing the S&P's return, recent technical indicators...

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Wolterk  Intro We upgraded Donaldson Company, Inc. (NYSE:DCI) to a Buy rating in July this year, primarily due to growing margins, strong volume numbers in Mobility, and accompanying bullish fundamentals in the latter Industrial Solutions and Life Sciences segments. Although DCI's approximate 6% return since the upgrade approximately 6 months ago trails the S&P's comparable return of roughly 16%, we believe more gains are on the cards for the US-based industrial outfit. Another important reason for our upgrade was the stock's breakout to an all-time high early this year. Furthermore, recent share-price action in DCI has also registered an intermediate MACD crossover, which has bullish intentions. The MACD technical indicator on long-term charts is particularly noteworthy due to how it aligns the stock's long-term trend with its respective momentum. To this point, it should be pointed out that although the most recent MACD crossover has taken place above the 'zero' line (Shares are not oversold), we would be confident (Due to similar technical setups bearing fruit in past times) that a rally should now ensue over the forthcoming months. Donaldson Intermediate Chart (Stockcharts.com) We believe that at all times, the technical chart informs us whether DCI's fundamentals are bullish or bearish. Core fundamentalists do not accept the premise that the technicals at all times have digested the ramifications of every known fundamental in the company. Therefore, the strength of Donaldson's dividend, for example (& its associated trends) is a great way to decipher Donaldson's fundamentals in play as detailed dividend analysis goes through trends on the income statement, balance sheet as well as cash-flow statement. Shareholders of DCI (dividend aristocrat) have been rewarded very generously over past decades, with the company consistently being able to increase its return on capital over time. Management's ability to consistently invest capital (allocation) effectively has been instrumental in the long-term gains to date. There has been no let-up on both organic & inorganic investments, with Donaldson recently acquiring a 49% stake in Medica S.p.A where the most likely event is a full takeover in due time. Therefore, concerning our dividend analysis, we are looking for fundamental strength in DCI with particular attention focused on any potential red flags. Dividend Growth Well Covered By Earnings Growth As we see from the table below, Donaldson's dividend growth rates have actually been improving over the past five years. Dividend growth is important as it enables shareholders to earn a percentage of the company's growing profits, which consequently protects the investor's purchasing power over time. Although Donaldson only pays out a 1.4% dividend yield, investors should take note of the following. A 1.4% dividend yield which grows at an average clip of 8% per year means it would take 24 years approximately to recoup an initial investment in full. On the contrary, a company distributing a 4% dividend yield (which does NOT grow) would take the investor 25 years to recoup the initial investment outlay. Case in Point: Be slow to dismiss under-average yields before growth rates are studied.   Dividend Growth Time frame Dividend Growth-Rate   12-Month Dividend Growth Rate 8.33%   3-Year Average Annual Dividend Growth Rate 6.54%   5-Year Average Annual Dividend Growth Rate 5.39%   Click to enlarge Earnings Growth Outpacing Dividend Growth The solid upward curve in Donaldson's dividend growth metrics stems from the company's GAAP earnings growth. Fiscal 2024 GAAP earnings grew by 15.64% where we witnessed a reacceleration of this trend in the company's fourth quarter (Q4 earnings released on the 28th of August) with GAAP earnings of $109.7 million growing by 19.36% compared to the same period of 12 months prior. So what is causing this growth? As stated in previous commentary, Donaldson's ability to consistently register growth across all three of its segments bodes well for future gains. In Mobile solutions, favorable pricing, higher Aftermarket sales in particular & an improved mix continue to drive profitability forward. We see the same trends in Industrial & Life-Sciences, with volume gains in the Defense & Aerospace segments along with Disk-drive strength in Life-Sciences continuing to drive profitability forward. Dividend Pay-Out Ratio In the past fiscal year, management paid out 30.77% of Donaldson's earnings to qualifying shareholders in the form of a dividend. The higher 5-year average comparable of 36.59% demonstrates that earnings growth has been outpacing dividend growth rates with ongoing buyback of stock also being a factor. The payout ratio (& associated trends) gives an immediate snapshot of the sustainability of the dividend so the falling trend is another positive indicator of dividend strength once more. Free Cash-Flow Strength If we were to take the GAAP pay-out ratio a step further, we could state that it is cash that pays dividends & not earnings. Although GAAP earnings (and the corresponding P/E ratio) is a solid profitability metric, the income statement still contains non-cash items that have to potential to distort the earnings tally to some degree. Therefore, we believe it is wise to see how much of Donaldson's earnings are converting to cash & preferably free cash flow. Free cash flow is the most important metric in finance bar none, as it demonstrates how much cash Donaldson is generating after costs are excluded. Historically, Donaldson has been able to convert approximately 90% of its GAAP earnings into free cash flow. To this point, in the company's latest fiscal year, the company generated almost $407 million of free cash flow, which equates to a 98% conversion rate. Furthermore, as we see from the graphic below, Donaldson's dividend-free cash-flow ratio has decreased from 49.4% at the end of fiscal 2019 to a current 30.86% at the end of fiscal 2024. This trend demonstrates that once more the potential to boost those dividend growth rates to double-digit numbers. Free Cash-Flow Per Share v Dividend Per Share (Past 5 Years) (Seeking Alpha) Debt Related Trends Other ways to evaluate the strength of the dividend is through calculating the interest coverage ratio on the income statement & debt to equity ratio on the balance sheet. As we see below, Donaldson's interest-coverage ratio is pretty much in line with what we have used to over the past five years, while the debt to equity ratio looks much better than the comparable 5-year average.   Metric Fiscal 2024 End 5-Year Average   Interest Coverage Ratio 25.56 25.56   Debt To Equity Ratio 0.4 0.56   Click to enlarge These trends align with Donaldson's ability to report rising 'return on capital' numbers over time. The CFO stated on the August'Q4 call that R&D investment will continue to increase with M&A activity in Life-Sciences & Industrial remaining a top-priority Forward-Looking Earnings Per Share Forecasts Strong growth until the end of fiscal 2024 is all well & good, but keeping this trend going is a whole other story. However, analysts who cover this stock as we see below are expecting almost 6% bottom-line growth this year, followed by 10%+ earnings growth in fiscal 2026. Furthermore, given how strongly Donaldson has historically converted its earnings, there is a high probability that 85% to 90%+ of these estimates (if met) will convert to free cash flow over time. Donaldson Consensus EPS Estimates (Seeking Alpha) Conclusion  Therefore to sum up, given Donaldson's encouraging technicals, strong earnings growth, reducing debt to equity ratio & bullish forward-looking EPS trends, we are standing pat on our bullish stance for now. More gains to come. We look forward to continued coverage.","kind":null,"is_publish_news":true,"is_publish_highlight":false,"is_publish_live":false,"is_publish_wemedia":null,"editions":null,"column":"","sentiment":"1","news_tag":"analysis","news_rank":0,"symbols":[],"gpt_button":1},"commentList":[],"isCommentEnd":true,"newsSizeData":{"likeSize":0,"commentSize":0,"repostSize":0,"favoriteSize":0,"likeStatus":false,"favoriteStatus":false},"APP":{"userAgent":"Mozilla/5.0 AppleWebKit/537.36 (KHTML, like Gecko; compatible; ClaudeBot/1.0; +claudebot@anthropic.com)","isDev":false,"isTTM":true,"deviceId":"web-server-community-laohu8-v3","version":"4.29.2","shortVersion":"4.29.2","platform":"web","vendor":"web","appName":"ttm","isIOS":false,"isAndroid":false,"isTiger":false,"isTHS":false,"isWeiXin":false,"isWeiXinMini":false,"isWeiBo":false,"isQQ":false,"isBaiduSwan":false,"isBaiduBox":false,"isDingTalk":false,"isToutiao":false,"isOnePlus":false,"isHuaWei":false,"isXiaomi":false,"isXiaomiWebView":false,"isOppo":false,"isVivo":false,"isSamsung":false,"isMobile":false},"href":"/m/news/2482744530"}