ScreenShot: Consistent Dividend Growth

(Please note that TheStreet.com's David Sterman will speak at "The Money Show -- Washington D.C.," held Nov. 6 through Nov. 8. David will be speaking Friday, Nov. 7 about why small-caps perform well at the end of recessions, and he will speak again Saturday, Nov. 8 about how to spot tomorrow's tech winners and losers today.)

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You've been hearing a lot about dividend plays in recent weeks -- and for good reason. These stocks typically hold their value to a greater extent during massive selloffs. And any selling pressure they face only serves to boost the dividend yield. Although I have built a career following growth companies that typically don't pay dividends, I think it's wise to troll the yielders in such a challenging economic environment.

The accompanying table shows the handful of stocks that have boosted their payouts on average at least 8% annually, offer yields in excess of 4%, and pay out less than 50% of their cash flow to support the dividend. That payout ratio often ensures that the dividend can be supported, even if cash flow dips moderately. That's not to say that the dividend will not be cut, but even if that happens, the dividend policy is likely to be restored when the economy finds its footing.

Company Ticker Current Price Annual Dividend Dividend Yield (%) 15-year dividend growth rate Payout ratio Textron TXT $15.33 $0.92 6.0% 8% 20% Eli Lilly LLY $33.38 $1.88 5.6% 8% 44% Oneok OKE $29.68 $1.60 5.4% 8% 45% Mattel MAT $14.01 $0.75 5.4% 13% 45% Int'l Game Tech. IGT $11.27 $0.58 5.1% 22% 42% Merck MRK $29.69 $1.52 5.1% 8% 43% Caterpillar CAT $34.95 $1.68 4.8% 23% 25% Avery Dennison AVY $34.19 $1.64 4.8% 9% 40% Limited Brands LTD $13.00 $0.60 4.6% 8% 34% VF Corp. VF $52.54 $2.36 4.5% 9% 35% Eaton ETN $44.33 $2.00 4.5% 8% 23%

Source: First Call Prices 10/29/08

It's important to stress-test stocks like these to get a sense of how they would truly fare in a sharp downturn. A look at Textron (TXT - commentary - Cramer's Take) is instructive. The industrial manufacturer recently moved to shut down some financing-oriented business segments. In addition, a key military project has been canceled. Add in the expectation for slower sales in other business segments in 2009 and you can conclude that Textron is likely to earn closer to $3 a share in the coming year.

Assuming things get even worse, it makes sense to expect EPS of just $2.50. That's down from the $3.59 earned in 2007, which was likely the peak of the cycle. (Notably, analysts still need to take their 2009 estimates down, as is the case with many stocks.)

If Textron earns just $2.50 a share next year, that translates into operating cash flow of around $850 million. Looked at another way, management expects to generate at least $700 million in annual free cash flow in the current economic environment. Yet the company's current 92-cent annual dividend drains just $250 million from that cash flow.

In other words, the odds of a dividend cut are fairly remote, especially because Textron still has more than $23 billion in backlog. In that context, Textron's dividend yield of 6% looks very enticing.

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David Sterman has been an equity analyst and financial journalist for 15 years, most recently serving as Director of Research at Jesup & Lamont Securities.