Undervalued Dividend Growth Stock of the Week: Comcast Corp. (CMCSA)

This article first appeared on Dividends & Income

Call me a skeptic, but I don’t believe in a “new normal”.

People tend to view things through a short-term lens.

Thus, it’s easy to extrapolate out “today” as “forever”.

But long-term investors have to look at life and investments through a long-term lens.

The world has faced many exogenous shocks before, yet life tends to carry on as usual once recovering.

Think of it as a “reversion to the mean”.

Despite the global pandemic upon us, the most likely outcome is that life in 2025 looks much like it did at the start of 2020.

However, intelligent investors don’t need to make binary bets like this.

That’s because there are many companies that profit with or without life returning to the way it was.

I’m invested in many of them via my FIRE Fund.

Jason Fieber's Dividend Growth PortfolioThat’s my real-money stock portfolio, and it generates enough five-figure passive dividend income for me to live off of.

Indeed, I retired in my early 30s by investing in world-class businesses that profit no matter what’s going on in the world.

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

The investment strategy I use is dividend growth investing.

This strategy advocates investing in high-quality companies that pay reliable and rising dividends, which are supported by reliable and rising profit.

The Dividend Champions, Contenders, and Challengers list features more than 700 US-listed stocks that have raised dividends each year for at least the last five consecutive years.

It’s a fantastic strategy for so many reasons, not least of which is the rising passive dividend cash flow coming straight into your brokerage account.

But you have to approach this investment strategy in a businesslike way.

That means always relying on fundamental analysis and valuation to separate the wheat from the chaff.

Valuation in particular can play a critical role in the success of an investment.

Price is only what you pay. It’s value that you actually 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.

Investing in world-class enterprises that profit no matter what, and doing so when their valuations are attractive, will almost guarantee you long-term investment success.

This isn’t a difficult activity.

The process of valuation has become much easier in recent years, especially with fellow contributor Dave Van Knapp’s Lesson 11: Valuation.

Part of a series of “lessons” on DGI, this free resource provides a useful valuation tool that can be applied to just about any dividend growth stock out there.

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, streaming, live entertainment, and theme parks.

Founded in 1963, Comcast is now a $200 billion (by market cap) media juggernaut that employs almost 200,000 people.

The company reports operations across 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 several leading cable networks, two broadcast networks, the Peacock streaming service, owned-and-operated TV stations, regional sports networks, a major film studio, and Universal theme parks.

Sky is a major European satellite television broadcaster.

Comcast reports insignificant revenue from their Corporate and Other segment. Other business interests primarily consist of the operations of Comcast Spectacor, which owns the Philadelphia Flyers and the Wells Fargo Center arena in Philadelphia, Pennsylvania. In addition, Comcast Spectacor has recently entered the esports space, which is being bolstered by the $50 million construction of next-generation Fusion Arena.

I mentioned earlier the importance of looking at investments through a long-term lens and avoiding unnecessary binary bets.

Well, an investment in Comcast hits both of these points.

Comcast is taking advantage of secular growth in demand for both internet bandwidth and quality content.

Furthermore, there’s no binary bet here on the eventual outcome of a post-pandemic society. I think things will return to normal within a year or two, but I could be wrong.

It doesn’t matter, though.

This company will thrive either way.

If the work-from-home model becomes more widespread, that creates additional decentralized demand for their bandwidth. Access to the Internet is practically as important as access to electricity nowadays.

On the other hand, society returning to normal helps their various entertainment options within the NBCUniversal umbrella.

The company’s hedged bets help to protect their profit and dividend.

Dividend Growth, Growth Rate, Payout Ratio and Yield

Comcast has increased its dividend for 13 consecutive years, showing commitment and consistency.

The five-year dividend growth rate stands at 13.5%.

That huge dividend growth comes on top of the stock’s starting yield of 2.1%.

Paired together, there’s a lot to like here in terms of long-term income possibilities.

Notably, the current yield is 30 basis points higher than the stock’s own five-year average yield.

And the dividend is protected by a low payout ratio of 36.9%.

That low payout ratio puts the dividend in a great position to continue growing.

Revenue and Earnings Growth

That future dividend is growth is ultimately what today’s investors are betting on and putting capital at risk for.

And it’s that future growth that I’ll now try to project, which will later help us estimate the value of the stock.

I’ll first rely on what the company has done over the last decade in terms of top-line and bottom-line growth.

Then I’ll compare that to a near-term professional prognostication of profit growth.

Blending the two together should allow us to approximate where Comcast’s future growth potential.

Comcast has increased 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%.

This is a stunning result, especially considering that Comcast is perpetually under “cord-cutting” pressure as people move away from traditional cable TV bundles.

This showcases the value in their diversified business model. It also indicates a clear ability to offset cable TV losses with higher prices on Internet packages.

However, it’s important to keep in mind that not all of this growth is organic.

Comcast has been highly acquisitive over the last decade.

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

And the more recent acquisition of Sky added to that.

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

Very impressive, in my view, especially considering all of the acquisitions.

Share buybacks definitely helped to juice bottom-line growth. Their outstanding share count is down by approximately 18% over the last 10 years.

Looking forward, CFRA believes that Comcast will compound its EPS at an annual rate of 6% over the next three years.

CFRA is factoring in the disruptions to various Comcast businesses, including the theme parks and film content.

On the other hand, they believe the pandemic should create more demand for high-speed bundled connections. And the upcoming political season is a near-term tailwind for spending on TV advertising.

This is a conservative forecast, but I think near-term caution is warranted.

Comcast is unlikely to come out of this totally unscathed.

But plowing ahead with mid-single-digit bottom-line growth through a once-in-100-year event? That proves out a very resilient and wonderful business model.

Financial Position

Moving over to the balance sheet, Comcast has an okay financial position.

It’s not a sparkling balance sheet. There’s a lot of debt. Which isn’t a surprise. Every single business line they run is capital intensive.

Furthermore, those large aforementioned acquisitions have come at the cost of a lot of additional debt and now weigh on the balance sheet.

That said, the company is certainly not in dire straits.

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

I will say, Comcast has historically operated with these kind of metrics. They’re nothing new.

There’s more debt on the balance sheet, but the company is also earning much more cash flow.

Profitability is robust, and it’s been improving of late.

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

The debt load has supercharged ROE.

However, there’s been some very real margin expansion. And I think their pricing power when it comes to broadband internet packages bodes well for further margin expansion.

Overall, Comcast strikes me as a great way to avoid a binary trade here.

With or without a broader reopening of the US economy, Comcast should thrive.

And with scale, huge barriers to entry, and the ability to operate as a local monopoly in many markets, the company benefits from numerous competitive advantages.

Of course, there are risks to consider.

Litigation, regulation, and competition are omnipresent risks in every industry.

The cord-cutting phenomenon hurts the company disproportionately.

This affects them 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 “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. 5G wireless could be such a threat.

And while more of a near-term issue, theme parks are directly impacted by the pandemic.

With these risks known, I still believe that Comcast makes a lot of sense for long-term dividend growth investors.

That’s especially true with the stock sporting an attractive valuation…

Stock Price Valuation

The stock is available for a P/E ratio of 17.88.

That’s demonstrably lower than the broader market’s earnings multiple.

Then there’s cash flow.

The P/CF ratio, at 8.0, is slightly lower than the stock’s own three-year average P/CF ratio of 8.2.

And the yield, as noted earlier, is lower than its own recent historical average.

So the stock does look cheap based on basic valuation metrics. But how cheap might it be? What would a reasonable 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 ordinarily allow for.

But I think Comcast deserves it.

The balance sheet is the only real weakness here.

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

There are near-term challenges, but this business has excellent long-term prospects.

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 at least mildly undervalued from where I’m sitting.

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 3-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 $50.00.

I came out very close to where CFRA is at. Averaging the three numbers out gives us a final valuation of $48.89, which would indicate the stock is possibly 10% undervalued.

Bottom line: Comcast Corp. (CMCSA) is a high-quality media conglomerate that’s positioned to do well no matter what happens with a broader reopening of the US economy. With a market-beating yield, more than a decade of consistent dividend raises, double-digit dividend growth, and the potential that shares are 10% undervalued, this looks like a great long-term bet for dividend growth investors.

-Jason Fieber

P.S. If you’d like access to my entire six-figure dividend growth stock portfolio, as well as stock trades I make with my own money, I’ve made all of that available exclusively through Patreon.

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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Source: Dividends and Income