2 New Dividend Opportunities for 2020

Michael Hodel: A year ago we highlighted four dividend picks for 2019: UPS, Wells Fargo, KLA Corp, and Exxon Mobil. This time, we'll take a look back at how those four firms have fared and offer two additional ideas for the coming year.

The performance of the four 2019 recommendations has been mixed. At the top, KLA Corp has done great, returning about 75% over the past year. Demand for semiconductor equipment has held up better in 2019 and the outlook for 2020 is pretty strong as well. While this is great news for those who’ve invested in the stock, income-focused investors have better opportunities in our view. The yield on KLA shares is now below 2% and the stock trades at a premium to our fair value estimate.

UPS has performed reasonably well, increasing about 16% over the past year. While this return trails the broader market a bit, investors enjoyed a 5.5% dividend increase during the year, collecting a yield of about 3.9% during 2019. UPS still offers a dividend yield in excess of 3%, and the shares look roughly fairly valued to us at this time.

That’s the good news.

On the negative side, both Exxon and Wells Fargo have delivered single-digit percentage declines over the past year. Exxon’s challenges are primarily industry-related, as the price of oil has generally drifted lower over the past 18 months. Unlike its major oil peers, Exxon is investing fairly aggressively to increase production in the coming years, a move we expect will pay off over time. Even with the pressure facing the business, Exxon has increased its dividend 6% over the past year. The shares now yield more than 5% and trade at a 20% discount to our fair value estimate.

As for Wells Fargo, the firm’s challenges have been mostly self-inflicted, related to the fallout from past scandals. The firm reported disappointing fourth-quarter earnings on legal challenges and elevated expenses. We’ve long held that the turnaround at Wells will take years, not months, but that investors will be well rewarded for their patience, and we still believe this is true. And, one of the positives from the firm’s current predicament is that it has lots of excess capital. The firm received regulatory approval to increase its dividend more than 13% in 2019, and the stock now yields more than 4%. Wells was also approved to continue heavy share repurchases, buying back more than 9% of its shares over the past year at prices we believe are attractive.

For new dividend ideas, we’d highlight chemical company DuPont and apparel manufacturer Hanes Brands. Narrow-moat DuPont trades at about a 35% discount to our fair value estimate and provides a roughly 3.5% dividend yield. The firm is the product of the Dow and DuPont merger and subsequent divestitures, creating a strong specialty chemical company with products like Kevlar and home wrap Tyvek, that serve a wide variety of end markets. DuPont recently agreed to merge its nutrition and biosciences business with International Flavors and Fragrances, which will provide about $7.3 billion in proceeds to the firm. We expect DuPont will use this cash to pay down debt, further strengthening its balance sheet, and repurchasing shares at attractive prices.

Morningstar has long liked Hanes Brands' shares, but the stock has languished for several years. At this point, it trades at a 50% discount to our fair value estimate and offers a 4.2% yield. The firm is the market leader in innerwear sales in the U.S. and several other countries, and it owns the resurgent Champion brand in the athletic apparel market. Hanes has struggled to grow, absent acquisitions, in recent years as several traditional retailers have faltered, but efforts to cut costs and improve efficiencies have lifted margins and cash flow. We expect free cash flow of about $600 million in 2019, up about 7% from the prior year. Hanes has been using cash in excess of dividends to repay debt taken on to fund past acquisitions, cutting its debt load about 12% over the past year. We expect debt reduction will remain a priority for the firm over the next couple of years.