About the Editor

Josh Peters is the editor of Morningstar DividendInvestor, a monthly newsletter that focuses on dividend income investment strategy. For illustration purposes, issues highlight activities pertaining to a Morningstar, Inc. portfolio invested in accordance with a current income and income growth from stocks strategy.

Josh is senior portfolio manager for Morningstar Investment Management LLC, a federally registered investment adviser and a wholly-owned subsidiary of Morningstar,Inc. At Morningstar, Josh has specialized in dividend investing and created the DividendInvestor newsletter in early 2005.

Josh holds a BA in economics and history from the University of Minnesota Duluth and is a CFA charterholder. Josh is also the author of "The Ultimate Dividend Playbook", a book released by John Wiley & Sons in January 2008.

Investment Strategy

Dividends are for everyone regardless of age. The outcome of owning dividend-yielding stocks is the key variable-higher-yielding stocks with safe payouts being less risky while affording investors who don't need current income the ability to reinvest/reallocate the capital.

The goal of the Dividend Select Portfolios is to earn annual returns of 8% - 10% over any three-to-five year rolling time horizon. We further seek to minimize risk, as defined by the probability of a permanent loss of capital. For our portfolio as a whole, this goal is composed of:

3% - 5% current yield
4% - 6% annual income growth

About Josh Joshs Photo
Josh Peters, CFA
Editor, Morningstar DividendInvestor
Senior Portfolio Manager, Dividend Select Portfolios
Josh Peters is the editor of Morningstar DividendInvestor, a monthly newsletter that focuses on dividend income investment strategy. For illustration purposes, issues highlight activities pertaining to a Morningstar, Inc. portfolio invested in accordance with a current income and income growth from stocks strategy.
Featured Posts
It's Earnings Season -- The Week in Dividends, 2016-10-21

DividendInvestorâ„  focuses on the activities of portfolios of Morningstar, Inc. that are invested in accordance with the Dividend Select strategy. These portfolios are managed by Morningstar Investment Management LLC, a registered investment adviser, who manages other client portfolios using these strategies.

From the DividendInvestor news file this week:

We're in the middle of earnings season, and quarterly results were released for several Dividend Select holdings:

On Tuesday, Johnson & Johnson JNJ reported adjusted third-quarter earnings of $1.68 per share, an increase of 12.8% from the third quarter of 2015. The result was ahead of both consensus and Morningstar, Inc. expectations, but Morningstar doesn't expect a change in its fair value estimate of $112 for Johnson & Johnson shares.

Also on Tuesday, Philip Morris PM reported earnings of $1.25 a share, exceeding Morningstar, Inc.'s forecast and consensus estimates. As noted in previous DividendInvestor analysis, the company faces currency headwinds due to the strength of the U.S. dollar. In its press release, Philip Morris spelled out numbers "excluding unfavorable currency."

On Wednesday, Genuine Parts GPC reported a weak third quarter, with earnings of $1.29 a share, lagging consensus estimates. Those results, however, did not lead to a change in Morningstar, Inc.'s fair value estimate of $86 per share. And it was the second quarter in a row of soft wireless customer growth for Verizon VZ. The company announced earnings of $0.99 per share on Thursday, exceeding the consensus forecast by two cents.

Finally, General Electric GE announced earnings per share of 32 cents today, a penny ahead of consensus estimates. Morningstar, Inc. will maintain its fair value estimate of $30 per share.

Please see the analyst notes below for all of these Dividend Select holdings.

From the Income Bellwethers list, one notable announcement came from Microsoft MFST. The firm exceeded consensus estimates of its quarterly earnings by nearly 12%, thanks to strong sales of its cloud products.

Best wishes,

David Harrell
Managing Editor, Morningstar DividendInvestor

News and Research for Dividend Select Portfolio Holdings

Johnson & Johnson Posts Solid Third Quarter; Generic and Biosimilar Competition Is Concerning
by Damien Conover, CFA 

Johnson & Johnson reported third-quarter results slightly ahead of both our and consensus expectations, but we don't expect any major changes to our $112 fair value estimate, suggesting the stock looks slightly overvalued. We continue to believe the market is not incorporating enough declines on several complex drugs, including Concerta (2017-18 expected generic competition), Risperdal Consta (2017), Velcade (2016-19), Remicade (2016-18), and Invega Sustenna (2018). While the majority of these drugs will face slower declines then typical small molecules, we project more rapid declines than consensus. For the company's largest drug, Remicade, we expect 2020 sales of below $4 billion relative to consensus expectations of $5.3 billion. While the magnitude of these losses is concerning, JNJ's breadth of businesses helps reinforce its moat during times of excessive patent losses.

In the quarter, total operational sales increased 6% year over year, driven by robust drug sales (up 11%), but upcoming generic and biosimilar pressures will likely slow this growth despite solid new drug launches. Strong growth in immunology and oncology drove the results. Further, immunology drug Stelara posted 33% growth and while the drug will likely lose market share to better psoriasis drugs, including new IL-17 and IL-23 therapies, the drug's new indication in Crohn's disease will likely lead to relatively stable growth. In oncology, the recent launch of Imbruvica continues to trend well, and the addition of another blood cancer drug, Darzalex, should help offset generic competition to Zytiga and Velcade expected over the next two years.

Outside of the drug group, the consumer and device segments posted close to 3% growth after adjusting for inventory changes. We don't see organic growth increasing much beyond this level of growth, which may lead to more acquisitions in these areas. However, we do expect efficiency improvements to drive earnings contributions for these groups.

Looking ahead, one of the key uncertainties for Johnson & Johnson is the rate of decline that Remicade (a high-margin product representing 10% of sales) will face, and we continue to expect faster declines than consensus. With Pfizer announcing a biosimilar launch of Remicade ready for November in the U.S., we are expecting Remicade will face pricing declines and market share losses. Please see our Healthcare Observer, “The Biosimilar Market: Underappreciated Pressure on Moats Must Be Countered by Pipelines,” where we show our rationale behind our expected 43% price decline and 20% volume decline through 2020. Additionally, we expect Remicade to face increased pressure from new drugs offering better efficacy and safety. For a complete review of the immunology area, please see our Healthcare Observer, “Immunology 2020: Moats Still Matter Changing of the Guard as TNFs Fall and Biologics/Orals Rise,” where we highlight the likely market penetration of IL17s, IL23s, IL6s, integrin antagonists, JAKs, S1P1s, and a Smad7.

Philip Morris On Track Thanks to Continued Pricing Power
by Philip Gorham, CFA, FRM | 10-18-16

Philip Morris International's third-quarter earnings report was solid, and the firm marginally beat our forecasts for revenue and operating income growth by around 50 basis points. Management reaffirmed full-year guidance, and as nothing in this report suggests any deviation away from either our full-year or medium-term cash flow forecasts, we are unlikely to change our $95 fair value estimate. The firm's pricing power, the source of its wide economic moat, was in evidence in the third quarter, with constant currency price/mix of 9%.

Slowing economies and certain pockets of geopolitical instability meant that volumes were fairly soft in emerging markets. Volumes fell by 5.4% in aggregate, a sequential acceleration from the 3.2% fall in the first half of the year, driven by declines of 9% and 8% in Asia and Latin America, respectively. Given that HeatSticks are still performing well and have 3.5% market share in Japan, the performance in Asia represented a particularly sharp volume slowdown, with continued weakness in Australia, Indonesia, and the Philippines. Much more robust volume performance in the European Union, where third-quarter volumes grew 0.4%, is likely supported by lower illicit trade from tighter border controls, and we do not regard it as sustainable in the medium term.

Philip Morris' pricing, however, remains impressive. In Asia, for example, constant-currency revenue growth of 4.7% implied around 14% pricing year over year. Although inflation drove further solid pricing in Latin America, 4.3% constant-currency EBIT growth implies that the growth is profitable. However, foreign exchange remains a headwind for Philip Morris, and unfavourable currency movements in the quarter affected revenue growth by 2.8 percentage points, the EBIT margin by more than 30 basis points, and EPS by $0.04. Until this headwind abates, we do not anticipate dividend growth to exceed the low single to midsingle digits.

No Change to Our Long-term Outlook for Genuine Parts After Weak Third Quarter; Shares Fairly Valued
by Zain Akbari, CFA | 10-19-16

We do not plan to make a large change to our $86 per share valuation for narrow-moat Genuine Parts after tepid third-quarter earnings. Year to date, revenue is down 0.3% and net income is off 1.8%, trailing our targeted 1.1% top-line pickup and flat bottom line for the year. Though we anticipate tempering our short-term forecast, our long-term outlook is intact, calling for 4% yearly sales growth and 9% annual EPS increases on average through 2025.

We are encouraged to see a return to quarterly growth in the automotive unit (up 1.5%, with results improving through the quarter). While the performance lags our erstwhile 2.5% full-year expectation, the recovery lends credence to our view that a 1% second-quarter decline (excluding acquisitions and foreign exchange) was spurred by transient weather effects. Demand drivers remain attractive, with low fuel prices leading miles driven up 3.1% over the 12 months ending August 2016. A hot summer in much of the country should push normalization in sales trends over time, as high temperatures increase the chances of part failures. As sales recover, we anticipate margin growth will return; we still expect nearly 100 basis points in segment operating margin growth, to 10% in fiscal 2019 from 9.1% in fiscal 2015.

The industrial unit weighed on results, with quarterly sales down 0.7%. However, trends improved sequentially, as the slide moderated from a 2.1% first-half shortfall and compares favorably to our forecast 1% full-year dip (results improved through the quarter). While results are tied to the health of the industrial economy, we believe the segment benefits from competitive advantages borne of the ability to quickly provide a wide variety of essential parts, along with service arrangements and a trained sales staff, in a segment in which clients value speed and service over price. We expect these advantages to translate to 4% yearly sales growth and 8% operating margins (up from 7% in 2015) on average through 2025.

The Wireless Competitive Environment Again Hits Verizon's Growth; Shares Modestly Undervalued
by Michael Hodel, CFA | 10-20-16 

Verizon posted its second consecutive quarter of soft wireless customer growth as the competitive landscape remains intense. The firm lost 36,000 net postpaid phone customers during the third quarter versus a gain of 430,000 a year ago, primarily as a result of weak customer inflows rather than a spike in defections. Management commented that promotion of new unlimited plans (likely primarily at T-Mobile and Sprint) hurt Verizon's ability to attract customers for around three weeks during the quarter but that gross addition volumes have rebounded. Management didn't offer an update on the Yahoo transaction, saying only that it is in the early stages of reviewing the impact of the data breach. We remain skeptical of Verizon's general push into the online content market. Overall, we expect Verizon will fall short of our expectations for 2016 but that the firm is faring reasonably well in the face of wireless competition that isn't sustainable over the longer term. We don't plan to change our narrow-moat rating or $50 fair value estimate, leaving the shares modestly undervalued.

Total wireless service revenue declined 5.2% year over year, continuing the slow pace of improvement of the past couple quarters as the transition to unsubsidized rate plans moves forward. Importantly, services revenues and phone installment billings per account increased 3.2%, the strongest growth since 2014. Verizon also disclosed that monthly postpaid phone customer churn was 0.9% during the quarter, roughly flat year over year. These metrics continue to support our view that the firm's position as a premium carrier remains well entrenched. The wireless EBITDA margin expanded more than 1 percentage point versus a year ago to 44.9%, as phone sales again declined year over year while the percentage of sales on installment plans increased. Cost control within the segment remains excellent.

Strength in GE's Industrial Portfolio Manages to Offset Oil and Gas Weakness in Third Quarter
by Barbara Noverini | 10-21-16

Following wide-moat GE's third-quarter earnings report, we're maintaining our fair value estimate of $30 per share. GE managed to eke out industrials' segment organic revenue growth of 1% year over year, as ongoing weakness in the oil and gas business masked otherwise robust 6% organic sales growth throughout the rest of the industrial portfolio. In particular, sales strength persisted in power, aviation, renewables, and the ongoing turnaround in healthcare as new products in each of these segments continued to see healthy demand. That said, oil and gas remained a significant drag on the overall portfolio, as recent signs of life in both rig and well counts haven't yet translated into improved levels of spending in GE's customer base. Nevertheless, the investments GE made in research and development since the Great Recession appear to be paying off, as new products like the HA-Turbine, the LEAP engine, and the company's growing digital services portfolio continue to resonate with customers despite persistent reports of a slow global growth environment across the industrial sector.

Including Alstom, industrial gross margins improved 120 basis points year over year to 27.8%, reflecting progress in GE's ongoing efforts to drive excess cost out of the portfolio. Notably, service margins climbed 220 basis points year over year as the deployment of analytics technology continues to drive positive results throughout GE's services portfolio. While oil and gas will undoubtedly remain a near-term challenge for GE, we like that the company has plenty of opportunity in the remainder of the portfolio to offset further underperformance in the segment. With the Alstom integration progressing as expected, momentum building in digital, new product ramp-ups proceeding well, and cash on hand for additional buybacks if necessary, we're still confident the company can hit its 2018 earnings target of $2.00 per share. 

©2016 Morningstar, Inc. All rights reserved. The Morningstar name and logo are registered marks of Morningstar, Inc. The information contained in this document is the proprietary material of Morningstar, Inc. Reproduction, transcription, or other use, by any means, in whole or in part, without the prior written consent of Morningstar, Inc., is prohibited. All data presented is based on the most recent information available to Morningstar, Inc. as of the release date and may or may not be an accurate reflection of current data.  There is no assurance that the data will remain the same.

The commentary, analysis, references to, and performance information contained within Morningstar® DividendInvestorâ„ , except where explicitly noted, reflects that of portfolios owned by Morningstar, Inc. that are invested in accordance with the Dividend Select strategy managed by Morningstar Investment Management LLC, a registered investment adviser and subsidiary of Morningstar, Inc.  References to “Morningstar” refer to Morningstar, Inc. 

Opinions expressed are as of the current date and are subject to change without notice. Morningstar, Inc. and Morningstar Investment Management LLC shall not be responsible for any trading decisions, damages, or other losses resulting from, or related to, the information, data, analyses or opinions or their use.  This commentary is for informational purposes only and has not been tailored to suit any individual. 

The information, data, analyses, and opinions presented herein do not constitute investment advice, are provided as of the date written, are provided solely for informational purposes and therefore are not an offer to buy or sell a security. Please note that references to specific securities or other investment options within this piece should not be considered an offer (as defined by the Securities and Exchange Act) to purchase or sell that specific investment.

This commentary contains certain forward-looking statements. Such forward-looking statements involve known and unknown risks, uncertainties and other factors which may cause the actual results to differ materially and/or substantially from any future results, performance or achievements expressed or implied by those projected in the forward-looking statements for any reason.   

Investments in securities are subject to investment risk, including possible loss of principal.  Prices of securities may fluctuate from time to time and may even become valueless.  Securities in this report are not FDIC-insured, may lose value, and are not guaranteed by a bank or other financial institution. Before making any investment decision, investors should read and consider all the relevant investment product information.  Investors should seriously consider if the investment is suitable for them by referencing their own financial position, investment objectives, and risk profile before making any investment decision. There can be no assurance that any financial strategy will be successful.

Common stocks are typically subject to greater fluctuations in market value than other asset classes as a result of factors such as a company's business performance, investor perceptions, stock market trends and general economic conditions.  

All Morningstar Stock Analyst Notes were published by Morningstar, Inc. The Week in Dividends contains all Analyst Notes that relate to holdings in Morningstar, Inc.'s Dividend Select Portfolio.

David Harrell may own stocks from the Dividend Select and Dividend Select Deferred portfolios in his personal accounts.

Customer Support
Product Support
Inquiries regarding your subscription such as address changes, missing/damaged issues, etc.
Phone: 1-800-957-6021 | Mon-Fri 8:30AM-5:00PM
Inquiries regarding technical issues such as logging in or downloading
Phone: 1-312-424-4288 | Mon-Fri 8AM-6PM
E-mail: newslettersupport@morningstar.com
Product Sales
Inquiries regarding your subscription renewal, billing or to learn about other Morningstar investment publications and resources
Phone: 1-866-608-9570 | Mon-Fri 8AM-5PM
E-mail: ussales@morningstar.com
Contact Your Editor