I keep hearing about a “new normal” that’s almost upon us.

Because of the shutdown of workplaces from COVID-19, a lot of people are working from home.

This is keeping society afloat right now.

But some investors think this trend will be permanent, with far more people working from home in the near future.

Well, it might make sense to invest in high-quality companies that can cater to this.

Not just that, though.

It’s best to invest in quality businesses that can make money either way.

You want to invest in business models that can make money regardless of the permanence of this trend.

If they stand to benefit and make more money with this new trend, all the better.

It just so happens that quite a few high-quality dividend growth stocks fit the mold.

That’s because these businesses have shown the ability to adapt time and time again.

Decade after decade, they rise to new challenges, make more money, and send their shareholders more money.

Jason Fieber's Dividend Growth PortfolioI’ve invested in these stocks myself, taking advantage of dividend growth investing to build my FIRE Fund.

That Fund is my real-money stock portfolio.

And it generates the five-figure passive dividend income I live off of.

I saved most of my earnings from a middle-class job and routinely invested that capital into many of the stocks you can find on the Dividend Champions, Contenders, and Challengers list.

In the process, I went from below broke at age 27 to financially free and retired at only 33.

That’s right.

Retired in just six years.

I describe exactly how I did that in my Early Retirement Blueprint.

Now, I didn’t randomly pick dividend growth stocks off of the CCC list.

Analysis is critical.

And valuation makes a huge difference in terms of investment performance.

Price only tells you what you pay. It’s value that you get.

An undervalued dividend growth stock should provide a higher yield, greater long-term total return potential, and reduced risk. 

This is relative to what the same stock might otherwise provide if it were fairly valued or overvalued.

Price and yield are inversely correlated. All else equal, a lower price will result in a higher yield.

That higher yield correlates to greater long-term total return potential.

This is because total return is simply the total income earned from an investment – capital gain plus investment income – over a period of time.

Prospective investment income is boosted by the higher yield.

But capital gain is also given a possible boost via the “upside” between a lower price paid and higher estimated intrinsic value.

And that’s on top of whatever capital gain would ordinarily come about as a quality company naturally becomes worth more over time.

These dynamics should reduce risk.

Undervaluation introduces a margin of safety.

This is a “buffer” that protects the investor against unforeseen issues that could detrimentally lessen a company’s fair value.

It’s protection against the possible downside.

Buying above-average businesses at below-average valuations, and doing so repeatedly, will almost certainly make you very wealthy over time.

Fortunately, those below-average valuations aren’t as hard to come by as you might think.

Fellow contributor Dave Van Knapp’s Lesson 11: Valuation provides an easy-to-use valuation template that you can apply to just about any dividend growth stock out there.

Part of a comprehensive series on dividend growth investing, Lesson 11 lays out the importance of valuation and how to go about estimating intrinsic value.

With all of this in mind, let’s take a look at a high-quality dividend growth stock that appears to be undervalued right now…

Comcast Corp. (CMCSA)

Comcast Corp. (CMCSA) is a media and entertainment conglomerate with interests in cable, broadcasting, film, and theme parks.

Founded in 1963, Comcast is now a media juggernaut employing almost 200,000 people.

They operate in three primary segments: Cable Communications, 53% of FY 2019 revenue; NBCUniversal, 31%; and Sky, 16%.

Cable Communications provides 22 million cable video connections, more than 27 million high-speed internet connections, and voice services to approximately 11 million customers.

NBCUniversal is comprised of cable networks, two broadcast networks, owned-and-operated TV stations, a major film studio, and Universal theme parks.

Sky is a major European satellite television broadcaster.

I noted at the outset of this article about the possibility of a “new normal” as it pertains to people working from home.

If that comes to fruition, ubiquitous high-speed internet will be vital.

And that’s exactly where a company like Comcast comes in.

While “cord cutting” has been a popular phenomenon for years, seeing consumers left and right cut traditional cable television packages in favor of cheaper and more flexible streaming options, the truth is that society has simultaneously become ever-more reliant on high-speed internet.

Comcast may have seen the value of their cable networks (like USA and CNBC) and cable television service erode, but the value of their broadband internet has increased dramatically at the same time.

However, it doesn’t really matter if this “new normal” comes to be.

Comcast will make a lot of money either way. Our society’s future involves more internet usage, not less.

A more connected workforce, the IoT revolution, and thirst for more data demands more bandwidth.

And that bodes well for Comcast’s ability to grow its profit and its dividend.

Dividend Growth, Growth Rate, Payout Ratio and Yield

As it sits, the company has raised its dividend for 13 consecutive years.

Those raises, by the way, have been incredible.

The 10-year dividend growth rate stands at a stout 20.0%.

There’s been some dividend growth deceleration as the payout ratio has grown, though, with the most recent increase coming in at about 9.5%.

But the payout ratio, at 32.5%, is still low enough for the company to continue aggressively raising the dividend for years to come.

And that dividend growth comes on top of the stock’s fairly appealing yield of 2.57%.

That current yield is materially higher than what this stock usually offers.

The stock’s five-year average yield is only 1.8%, so investors buying this stock today are locking in a lot more income.

This higher yield is what you’ll be basing those future dividend raises on, which has a multiplier effect for the rest of the time you own the stock.

Revenue and Earnings Growth

All well and good, but it’s ultimately the future that we invest in.

Investors are putting capital at risk today for tomorrow’s rewards.

And so it’s what this company will do, not what it’s done, that we care most about.

Thus, I’ll now estimate a future growth trajectory for Comcast. This will aid us when it comes time to approximate intrinsic value.

I’ll first show you what Comcast has done over the last decade in terms of top-line and bottom-line growth.

And then I’ll compare that to a near-term professional prognostication for profit growth.

Blending the proven past with a future forecast in this way should give us plenty to work with when it comes time to build out a forward-looking path.

Comcast grew its revenue from $37.937 billion in FY 2010 to $108.942 billion in FY 2019.

That’s a compound annual growth rate of 12.44%.

Might impressive. So much for “cord cutting”.

Some of this top-line growth was not organic, however.

The acquisition of NBC Universal for just under $54 billion through two transactions transformed Comcast into the media juggernaut they are today.

And the more recent acquisition of Sky further built on that.

Earnings per share increased from $0.65 to $2.83 over this period, which is a CAGR of 17.76%.

Again, very impressive.

A combination of better operating metrics and and large share buybacks helped to juice bottom-line growth.

The outstanding share count is down by approximately 18% over the last 10 years.

Looking forward, CFRA is anticipating that Comcast will compound its EPS at an annual rate of 10% over the next three years.

That forecast is obviously a large step down from what Comcast has delivered over the last decade.

But I think it’s reasonable to assume a deceleration in growth.

The law of large numbers is now working against them somewhat.

And their opportunities for transformative M&A are limited, as the balance sheet is now stretched and the company has to absorb what they have.

If we assume a ~10% EPS growth rate for the foreseeable future, that still allows Comast to produce like or better dividend raises.

That’s by virtue of the low payout ratio.

A 10%+ dividend growth rate on top of a 2.5%+ yield is highly alluring.

I’d temper my expectations a bit, especially in times of so much uncertainty, but Comcast is unlikely to dramatically disappoint.

Financial Position

Moving over to the balance sheet, this is the one area of the business that I don’t like.

Those large acquisitions have stretched Comcast thin and ballooned the debt load. There’s almost $100 billion in long-term debt on the books.

They’re not in dire straits by any means, but improving the balance sheet should be a priority from here on out.

The long-term debt/equity ratio is 1.18, while the interest coverage ratio is slightly under 5.

While I usually like to see an interest coverage ratio over 5 at a minimum, I will note that Comcast has long operated with a hefty amount of debt. It’s simply a capital-intensive business model.

Their interest coverage ratio has historically bounced around 5. So this is nothing new.

Profitability is robust. And it’s improved relative to where it was a decade ago.

Over the last five years, the firm has averaged annual net margin of 14.61% and annual return on equity of 20.53%.

ROE has been supercharged by the debt load. But margins are strong.

Overall, Comcast is a great play on the advancement of society – with or without a “new normal” regarding work.

There’s no future in which we’re requiring less bandwidth than we do today. The companies that provide access to high-speed internet stand to do very well over the long run.

Since they tend to operate in a local monopoly or duopoly, they can almost raise prices on their internet service at will, which helps to stem the bleeding from the reduction in cable video usage.

The barriers to entry are extremely high, as the network is already built out.

That built-out and protected network, along with massive scale, confers durable competitive advantages to the firm.

Of course, there are risks to consider.

Regulation, litigation, and competition are omnipresent risks to every industry.

The cord-cutting phenomenon hurts the company disproportionately.

That affects both on the cable video side (distribution) of the business and the cable networks side (production). Less consumers watching traditional cable television networks is a bit of a “double whammy” for Comcast.

Comcast also faces the risk of technological obsolescence. If a better and/or cheaper way to access the internet can be scaled by a competitor, this would greatly impact the business model. The roll-out of 5G is such a threat.

Although more of a near-term issue, their theme parks business negatively exposes them to the stay-at-home policies resulting from the coronavirus pandemic.

Even with these risks in mind, I think Comcast makes a lot of sense as a long-term dividend growth investment.

At the right valuation, it could be a slam dunk.

With the stock down more than 20% YTD, it does look attractively valued…

Stock Price Valuation

The stock’s P/E ratio is 12.62.

That’s low for almost any stock under any circumstances.

But it’s especially low for a stock that’s averaged a P/E ratio of 16.2 over the last five years.

The cash flow shows a similar disconnect.

At 6.4, the P/CF ratio is well off of its three-year average of 8.2.

And the yield, as shown earlier, is substantially higher than its own recent historical average.

So the stock looks cheap when looking at basic valuation metrics. But how cheap might it be? What would a rational estimate of intrinsic value look like?

I valued shares using a dividend discount model analysis.

I factored in a 10% discount rate and a long-term dividend growth rate of 8%.

This DGR is on the high end of what I allow for. But I think Comcast deserves it.

The balance sheet is really the only weakness here.

When looking at the long-term EPS growth, long-term proven DGR, low payout ratio, healthy free cash flow, and monopolistic attributes, I believe Comcast can do at least high-single-digit dividend growth for the foreseeable future and beyond.

The DDM analysis gives me a fair value of $49.68.

The reason I use a dividend discount model analysis is because a business is ultimately equal to the sum of all the future cash flow it can provide.

The DDM analysis is a tailored version of the discounted cash flow model analysis, as it simply substitutes dividends and dividend growth for cash flow and growth.

It then discounts those future dividends back to the present day, to account for the time value of money since a dollar tomorrow is not worth the same amount as a dollar today.

I find it to be a fairly accurate way to value dividend growth stocks.

The stock looks pretty cheap to me after a sudden and dramatic bear market.

But we’ll now compare that valuation with where two professional stock analysis firms have come out at.

This adds balance, depth, and perspective to our conclusion.

Morningstar, a leading and well-respected stock analysis firm, rates stocks on a 5-star system.

1 star would mean a stock is substantially overvalued; 5 stars would mean a stock is substantially undervalued. 3 stars would indicate roughly fair value.

Morningstar rates CMCSA as a 4-star stock, with a fair value estimate of $47.00.

CFRA is another professional analysis firm, and I like to compare my valuation opinion to theirs to see if I’m out of line.

They similarly rate stocks on a 1-5 star scale, with 1 star meaning a stock is a strong sell and 5 stars meaning a stock is a strong buy. 3 stars is a hold.

CFRA rates CMCSA as a 5-star “STRONG BUY”, with a 12-month target price of $54.00.

I came out somewhere in the middle. Averaging the three numbers out gives us a final valuation of $50.23, which would indicate the stock is possibly 41% undervalued.

Bottom line: Comcast Corp. (CMCSA) is a high-quality media juggernaut that’s perfectly positioned to profit from any kind of “new normal” regarding working from home. It’s also set to make a lot of money if we return to how things used to be. With a market-beating 2.5%+ yield, 13 consecutive years of dividend raises, super low payout ratio, double-digit long-term dividend growth, and the potential that shares are 41% undervalued, dividend growth investors would be wise to consider using today’s uncertainty as tomorrow’s reward.

— Jason Fieber

Note from DTA: How safe is CMCSA’s dividend? We ran the stock through Simply Safe Dividends, and as we go to press, its Dividend Safety Score is 89. Dividend Safety Scores range from 0 to 100. A score of 50 is average, 75 or higher is excellent, and 25 or lower is weak. With this in mind, CMCSA’s dividend appears Very Safe with a very unlikely risk of being cut. Learn more about Dividend Safety Scores here.

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