To me, capital growth and dividend income are equally important. Together, they provide the total return from any share investment and, as you might expect, my aim is to invest in companies that can beat the total return delivered by the wider market.
To put that aim into perspective, the FTSE 100 has provided investors with a total return of around 3% per annum since January 2008.
Quality and value
If my investments are to outperform, I need to back companies that score well on several quality indicators and buy at prices that offer decent value.
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So this series aims to identify appealing FTSE 100 investment opportunities and during recent weeks I’ve looked at AstraZeneca (LSE: AZN), Johnson Matthey (LSE: JMAT), Smith & Nephew (LSE: SN), Pearson (LSE: PSON) and BAE Systems (LSE: BA). This is how they scored on my total-return-potential indicators (each score in the table is out of a maximum of 5):
| Share | AstraZeneca | Johnson Matthey |
Smith & Nephew |
Pearson | BAE |
|---|---|---|---|---|---|
| Dividend cover | 4 | 4 | 4 | 3 | 3 |
| Borrowings | 4 | 3 | 4 | 3 | 5 |
| Growth | 1 | 2 | 4 | 2 | 2 |
| Price to earnings | 2 | 2 | 2 | 4 | 2 |
| Outlook | 2 | 3 | 3 | 3 | 3 |
| Total (out of 25) | 13 | 14 | 17 | 15 | 15 |
Pharmaceuticals
A 9% rise in emerging-markets revenue, which accounts for around 21% of sales, wasn’t enough to offset AstraZeneca’s overall 12% revenue decline and 21% fall in core operating profit during the first quarter. The pain is largely due to increased competition since several patents timed-out on some of the firm’s best-selling drugs. Targeted in-house research & development, and an active acquisition programme, are both strategies aimed at restoring a product-development pipeline that can generate further growth. There’s a tempting forward dividend yield of around 5.7% available for those willing to wait for recovery, but I’m happy to watch for the time being.
Platinum-focused products
A poor performance in Johnson Matthey’s Precious Metal Products Division led to declining figures in 2012 after several periods of steady revenue and earnings growth. However, the directors expect tighter vehicle emissions legislation and demand for process technologies’ products, especially in China, to boost sales of the firm’s catalysts, components and chemical processes over the next two or three years. Such expectations seem built in to the share price, so I’m content to watch.
Medical devices
The solid characteristics of Smith & Nephew’s business led to a 50% upwards rebasing of the dividend last year and the forward yield is now running at around 2.5%. There’s also a share buy-back programme to cheer investors. Such moves make me optimistic about the firm’s total-return prospects from here, as demand seems unlikely to wane for the company’s products, such as joint replacements for knees hips and shoulders; tools for minimally invasive surgery; advanced wound dressings; and nuts, bolts, plates and nails for trauma surgery. The firm’s attractions seem embraced in the valuation, so I’m watching for now.
Publishing
In recent news, Pearson and Bertelsmann have completed the merger of Pearson’s Penguin with Random House to create Penguin Random House, a joint venture in which Pearson owns 47%. However, the education sector delivers around 90% of Pearson’s ongoing operating profit. The directors are expecting a difficult 2013 with various issues contributing to headwinds, such as pressures on education budgets and college enrolment numbers, and a shift in the firm’s business model from print sales to digital subscriptions. A restructuring-spend of £150m is targeted for the year, although that investment should generate some on-going cost savings. I’m watching the firm and expect to find out more in the end-of-July update.
Aerospace and defence
BAE Systems supplies many of the world’s fighter planes, radar, attack missiles, warships and munitions, but continuing pressure on government defence budgets in the company’s biggest markets, the UK and the US, means the directors are expecting muted growth in underlying earnings during 2013. Despite such challenges, the firm made good progress with cash flow and debt-reduction during 2012, and the constant nature of the business makes me optimistic about the dividend’s ability to contribute steadily towards total investor returns. There’s an attractive-looking 5.3% forward yield on offer at the current share-price level, but potential lack of forward earnings growth makes me cautious. I’m watching.
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> Kevin does not own any of the shares mentioned. The Motley Fool owns shares in Smith & Nephew.
