EMR - Emerson Electric: Dividend Analysis Justifies Present Valuation

2023-11-27 23:35:50 ET

Summary

• Emerson Electric Co. is showing a potential 'ascending triangle' chart pattern, indicating buyer accumulation.
• Technical indicators suggest a continuation of bullish trends for Emerson.
• Using a dividend discount model, the projected value of Emerson is $85+ per share, slightly below its current share price.

Intro

If we pull up an intermediate 5-year chart of Emerson Electric Co. ( EMR ), we see a potential 'ascending triangle' chart pattern in play which is a pattern that denotes buyer accumulation. Lower highs mean buyers have been more aggressive than sellers in recent times but this bullish triangle will only be confirmed when a breakout takes place to the upside. Furthermore, this 'breakout' will most likely not take place over the near term as overhead resistance dating back to 2020 put a stop to Emerson's mid-year rally in September of this year. Suffice it to say, given the current trend, all eyes now point to underside multi-year support (Approximately the $80 a share level) and whether we will see another successful bounce off this support level when the time comes.

From a technical standpoint, given the bullish divergences we see in both the RSI & MACD indicators, we would expect a continuation of Emerson's bullish technicals. Although being chartists (where we believe the technicals always demonstrate a stock's fundamentals at any point in time), Emerson's extensive dividend record gives us more opportunities to delve into the stock's fundamentals further. Through the following analysis (where we are looking to see what EMR is worth), we can then gauge whether the stock is an attractive long-term play at its approximately $88 a share at present.

Dividend Discount Model

Given Emerson's 'dividend king' status in that the industrial player has increased its annual payout over the past 66 consecutive years, we can use the following dividend discount model to stamp a rough valuation on the stock. Now, valuing companies can be very tricky and is not an exact science. However, the longevity of EMR's dividend to date can give us pretty accurate assumptions concerning retention ratios and forward-looking expected growth rates, etc., which can help us in our analysis.

EDPS denotes expected dividend per share, CCE refers to Emerson's cost of equity & DGR means dividend growth rate. Firstly with respect to EDPS where the projected growth rate is Emerson's retention ratio multiplied by the company's return on equity. We get the retention ratio by subtracting Emerson's trailing GAAP earnings ratio (54.87%) from 100%. Therefore, when we multiply Emerson's trailing retention ratio (45.13%) by the trailing ROE of 13.82%, we get a dividend growth rate of 6.24%. Multiplying this by the present dividend of $2.10 per share, we get an EDPS (Expected Dividend Per Share) of $2.23 per share.

For the cost of equity, we use the formula below. Remember, the cost of equity denotes the minimum return investors would need to invest in Emerson. To calculate, we use the US 10-year bond as one's 'risk-free rate' & the Damodaran current equity risk premium (5% in the US) for 'Equity Risk Premium'. Plugging the required numbers into the formula, we get a cost of equity of 11.37%.

Cost of equity = Risk-Free Rate + (Beta) x (Equity Risk Premium)

Therefore, our projected value of Emerson = $2.23 / (11.37% -6.24%) = $43.45 per share.

2023 Trends Point To Robust Forward-Looking Growth

Now, although this projection comes in well below Emerson's current share price, we are not overly surprised for the following reasons. Much of Emerson's worth at present is predicated on what is coming down the track in this stock. What we mean by this is the EMR has pivoted aggressively in recent times from its mainstay power, energy & chemical segments into the likes of Renewables, Nuclear & LNG in order to keep growing.

Suffice it to say, a much higher 18%+ earnings growth rate is expected for fiscal 2024 due to Emerson continuing to invest aggressively in high-growth areas. This growth has already been priced in by the market, so let's return to our above formula and use forward-looking ratios to see how Emerson's valuation would change in earnest. Revisions for that fiscal 2024 target of $5.25 have been strong in recent months, which is obviously encouraging from a forward-looking growth basis. Furthermore, as we see below, Emerson's key financials grew robustly in fiscal 2023 buoyed by a backlog ($6.6 billion) which grew by 12% in the same fiscal year.

Therefore, given Emerson's robust growth path, if we take the fiscal 2024 EPS projection of $5.25 per share, our forward-looking retention ratio would change to a much higher 60% and our forward ROE would change to a higher 14.51% based off the current share count of 570.1 million. Therefore, once more plugging our values into the dividend discount formula above, we would get the following.

Value = $2.28 / (11.37% - 8.7%) = $85.39 per share.

Suffice it to say, based off fiscal 2024 numbers, Emerson is worth its current valuation. Furthermore, we must not underestimate the momentum (as we see below) which Emerson should continue to garner (given its growth platforms) and how revisions continue to improve for the better.

Conclusion

Therefore to sum up, based on our analysis of Emerson's current valuation , the company is worth its current share-price where we see sustained gains especially if EPS revisions continue to gain traction. However, we await a probable test of that supporting trend-line alluded to earlier before potentially getting long the stock at that juncture. We look forward to continued coverage.

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