Truly reliable dividend stocks can be hard to find, but there are a few companies on the market that are great candidates for income investors. If you’re looking for long-term passive income from a stock, the company should possess sustainable competitive advantages, strong efficiency ratios, sufficient financial health, and a history of cash flow generation.
One of the leaders in the human resources software industry actually fits that description — it’s a passive income powerhouse thanks to decades of dependable cash flow and a stable outlook.
Sustainable competitive advantage
Stability is a prerequisite for unstoppable dividend stocks, and Automatic Data Processing (NASDAQ: ADP) is a model of stability with plenty of data to support that fact. The company is among the leaders in the payroll and human capital management software industries. It has customers in 140 countries, with more than 1 million clients. That diverse exposure means that ADP isn’t tied to the well-being of any one customer, industry, or nation.
Its financial success is driven by strategic execution, operational efficiency, and global employment trends. ADP derives a wide economic moat from switching costs and its enormous scale. The company is consistently ranked among the best vendors in its key product offerings by industry analysts, which indicates a breadth and quality in its portfolio that competitors struggle to replicate. The company’s sheer scale also creates efficiencies that allow it to charge competitive prices that smaller vendors can’t match.
ADP fulfills several functions that are essential to any business, and customers know that it’s one of the best and most price-worthy options available. That makes it easy to attract new customers, and it discourages existing customers from migrating to a competitor. The sustainable competitive advantage created by this economic moat is one of the keys to ADP’s impressive stability, and it increases the likelihood that it will continue having no problems paying shareholder dividends in the future.
The data backs up the story
ADP boasts a whole bunch of excellent key stats that prove the impressive stability narrative. The company has delivered remarkably stable long-term growth across a variety of important metrics. Revenue, net income, and free cash flow have marched steadily higher. The company’s 7.6% compound annual sales growth rate (CAGR) over the past decade has been outpaced by profits as the company achieves efficiencies at its larger scale.
ADP’s steady expansion is perfect for passive income. The company produces reliable cash flow growth, which it returns to shareholders. The company has 49 consecutive years of dividend growth, and it’s likely to become a Dividend King this year. Businesses with unpredictable cash flow can’t become Dividend Kings.
The company’s efficiency ratios are also impressive. Its return on invested capital (ROIC) is over 40%, which is exceptionally high, and growing. High ROIC indicates a business that is efficiently deploying its capital to produce profits. That metric is corroborated by an impressive 20% net profit margin, meaning that a large proportion of its sales turn into profits. There’s not a huge volume of corporate expenses eating into profitability. ADP’s executive management team is running a tight ship and exhibiting impressive stewardship.
Efficient operations tend to foster strong cash flow generation, and strong cash flow generation is the key to a healthy dividend. That’s exactly why income investors love ADP. The stock’s 2.3% forward dividend yield isn’t the highest you’ll see in the market, but it’s still decent income yield for passive income. Investors are clearly willing to accept a lower yield today based on the company’s potential to grow shareholder distributions in the future.
With ADP’s reliable, modest growth for the foreseeable future, shareholders can reinvest that yield for compounding gains to boost future income. Retirees can confidently slot ADP into an income portfolio with other blue chip dividend stocks and bonds to fund their current cash flow needs.
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Ryan Downie has positions in Automatic Data Processing. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.
The Secret to Passive Income Is Hiding in This Unstoppable Dividend Stock was originally published by The Motley Fool
Source: finance.yahoo.com