Dividends are a great source of passive income that can help to supplement your earned income. The good news is that it's not tough to identify and purchase a basket of dividend stocks that can help you generate this income stream.
There are several characteristics that I look for when filtering out good dividend stocks for my portfolio. First, they must be a highly cash-generative business and possess a leading market position that ensures they can continue to churn out healthy and growing free cash flow. They also need to demonstrate a solid track record of paying out increasing dividends over the years.
The key to growing your dividend income is to steadily purchase shares of such companies and then compound your dividends by reinvesting them in the same companies. Over time, the increase in dividend per share, along with a higher stake in the business, will enable you to increase the amount of dividends you receive per year. The idea is to build up a stream of retirement passive income that you can comfortably rely on in your golden years. It is not a difficult process to understand, but it does take patience and perseverance.
Here are three dividend stocks that fit the bill and can allow you to slowly compound your wealth over the years.
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1. Enbridge
Enbridge (NYSE: ENB) is a diversified energy delivery company with four core divisions: liquids pipelines, natural gas pipelines, gas utilities and storage, and renewable energy. The company is a major player in the energy sector and delivers around 30% of the crude oil produced in the U.S. and transports a fifth of the natural gas consumed there. This strong market position enables Enbridge to churn out steady cash flow as it occupies a dominant position in the energy delivery industry.
The business saw its revenue rise and then dip from 47.1 billion Canadian dollars in 2021 to CA$53.3 billion in 2022 and then to CA$43.6 billion in 2023. Net income was impacted over the years by one-off items, along with the impairment of goodwill and long-lived assets, but averaged around CA$5.9 billion over the three years. Enbridge's free cash flow, however, was more consistent and increased from CA$1.2 billion in 2021 to CA$9.3 billion in 2023.
The company's increasing free cash flow generation has enabled it to continuously raise its dividends over the years. Its latest quarterly dividend stood at CA$0.915 and topped off a 29-year streak of uninterrupted dividend increases at an annual rate of around 10%.
Enbridge has paid out dividends to its stockholders for more than 69 years, capping off an impressive track record for the energy delivery company. Enbridge should sustain this dividend growth with the recent acquisition of three gas utility businesses to bolster its business, for which federal approvals have already been obtained. Its Renewable Energy division is also executing the growth initiatives laid out during its Investor Day with several projects in the U.S. and Canada that have signed power purchase agreements with blue-chip companies such as Amazon and AT&T.
For the first half of 2024, Enbridge continued to churn out strong financial results with a distributable cash flow of CA$6.3 billion, up from CA$5.9 billion in the prior year. Management's focus on low capital intensity and utility-like growth means that investors should continue to make Enbridge's dividend continue growing in the years ahead.
2. Home Depot
Home Depot (NYSE: HD) is the world's largest home improvement retailer, with 2,340 retail stores and more than 760 branches across 50 states in the U.S., 10 provinces in Canada, and Mexico. The company wields considerable clout in the retail sector and is a storied name that many rely on to find a wide variety of merchandise.
The company saw sales remain stable from 2021 to 2023, rising from $151.2 billion to $152.7 billion, while gross profit remained flat at around $50.8 billion to $51 billion because of inflationary pressures. Net profit declined slightly from $16.4 billion in 2021 to $15.1 billion in 2023, mainly due to higher interest expenses as interest rates surged over the past two years.
On a positive note, Home Depot's free cash flow stayed consistently high and averaged $14.5 billion per year from 2021 to 2023. This consistency has allowed the retailer to increase its dividends every year since 2008, with the latest being $2.25 per quarter, up 7.7% year over year.
The company once again saw its earnings for the first half of 2024 weighed down by higher expenses, with net income falling by 4.3% year over year to $8.2 billion. Free cash flow continued to stay strong and came in at $9.3 billion, and is on track to surpass its 2023 level of $17.9 billion. With inflation declining in the past year, Home Depot should see the increase in expenses easing, which will decrease the pressure on its bottom line.
The business should also witness further growth, with Home Depot acquiring SRS Distribution, a residential specialty trade distribution company, back in March 2024 for around $18.25 billion. This should enable Home Depot to extend its offerings to better serve renovators and remodelers and will add $50 billion to the company's total addressable market, increasing it to $1 trillion. Although the transaction will be financed mainly by debt and will cause earnings per share to decrease in the first year, management anticipates that the purchase will boost earnings from the second year onward.
Meanwhile, Home Depot opened four new distribution centers earlier this year to further extend its ecosystem to Detroit, southern Los Angeles, San Antonio, and Toronto. These new centers will improve accessibility for their customers who need to access large, bulky merchandise and increase the company's attractiveness while cementing customer loyalty.
3. Nordson
Nordson (NASDAQ: NDSN) is a precision technology company that delivers applications to the consumer, medical, electronics, and industrial sectors. The business has an excellent track record of paying out increasing dividends and is one of the few Dividend Kings out there. Nordson recently upped its quarterly dividend by 15% year over year to $0.78 from $0.68, marking its 61st consecutive dividend increase and giving the company one of the longest-running unbroken streaks of increases.
The company has demonstrated steady improvements in both revenue and net income over the years. Sales went from $2.4 billion in 2021 to $2.6 billion in 2023, while net income rose from $454.4 million to $487.5 million over the same period. Free cash flow averaged $525 million per year from 2021 to 2023, and Nordson's dividend payout ratio rose from just 22% to 31% over this period, which explains why the company could continue paying out more.
The first half of 2024 saw Nordson continue its streak of free cash flow generation with $273 million churned out. Net income for the half-year dipped by 1.7% year over year to $227.8 million despite a 1.8% year-over-year increase in revenue because finance expenses more than doubled.
Despite this, the company is paying out just 40% of its earnings as dividends if we use the latest annualized earnings per share of $7.90 and compare it with the annualized dividend per share of $3.12. This simple calculation shows that the business still has ample room to raise dividends and yet reinvest most of its earnings for growth.
Nordson is also growing its business through acquisitions, with its acquisition of ARAG closing in August last year and helping to expand the company's reach into the high-growth precision agriculture sector. Back in May this year, Nordson acquired Atrion Corporation for around $800 million to expand its medical portfolio into new markets and therapies. The purchase is complementary to Nordson's customer base and should contribute positively to its results in the future.
With these growth drivers in place, Nordson looks well positioned to continue growing its earnings, free cash flow, and dividends well into the future.
Royston Yang has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Enbridge and Home Depot. The Motley Fool has a disclosure policy .
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