Is Smiths Group The Ultimate Retirement Share?

Published in Company Comment on 18 October 2012

Will shares in Smiths Group help you build a FTSE-beating retirement fund?

The last five years have been tough for those in retirement. Portfolio valuations have been hammered and annuity rates have plunged. There's no sign of things improving anytime soon, either, as the eurozone and the UK economy look set to muddle through at best for some years to come.

A great way of protecting yourself from the downturn, however, is by building your retirement fund with shares of large, well-run companies that should grow their earnings steadily over the coming decades. Over time, such investments ought to result in rising dividends and inflation-beating capital growth.

In this series, I'm tracking down the UK large-caps that have the potential to beat the FTSE 100 (UKX) over the long term and support a lower-risk income-generating retirement fund (you can see the companies I've covered so far on this page).

Today, I'm going to take a look at one of the lesser-known members of the leading index, Smiths Group (LSE: SMIN), an engineering group with a wide range of technology businesses operating across a range of sectors.

Turbulent years

To start with, let's take a look at how Smiths Group has performed against the FTSE 100 over the last 10 years:

Total Returns2007200820092010201110 yr trailing avg
Smiths Group-28.7%-9.3%18.4%26.1%-23.6%3.2%
FTSE 1007.4%-28.3%27.3%12.6%-2.2%7.4%

Source: Morningstar

(Total return includes both changes to the share price and reinvested dividends. These two ingredients combined are what make it possible for equity portfolios to regularly outperform cash and bonds over the long term.)

Smiths isn't the easiest business to understand and the total return for shareholders has been somewhat volatile and disappointing over the last ten years, falling below that provided by the FTSE 100. However, Smith's full-year results for 2011/12 were impressive, with strong growth across the business, and the company's shares currently look quite affordable. So could it be a retirement share?

What's the score?

To help me pinpoint suitable investments, I like to score companies on key financial metrics that highlight the characteristics I look for in a retirement share. Let's see how Smiths Group shapes up:

ItemValue
Year founded1851
Market cap£4.2bn
Net debt£791m
Dividend Yield3.6%
5 year average financials
Operating margin16.6%
Interest cover8.0x
EPS growth15.5%
Dividend growth2.8%
Dividend cover2.3x

Source: Morningstar, Digital Look, Smiths Group

Here's how I've scored Smiths on each of these criteria:

CriteriaCommentScore
Longevity161 years of trading suggests an ability to adapt and evolve.5/5
Performance vs. FTSEIt's not a star performer.3/5
Financial strengthAttractive margins, positive cash flow but moderately high gearing.3/5
EPS growthSteady growth.4/5
Dividend growthWeak dividend growth has failed to keep up with inflation.2/5
Total: 17/25

Smiths Group is a slightly odd mixture of business that has evolved over the years. Its five divisions encompass medical devices, threat and contraband detection (airport x-ray machines), electronic components, industrial hosing and industrial seals, of the kind required by the energy industry. Despite this, the businesses all seem to operate in expanding industries and Smiths' diversity could be attractive; with revenues from sectors as diverse as energy, defence, medicine, aviation and telecoms, it should have a certain level of resilience to sector-specific downturns.

Smiths' score of 17/25 is pretty respectable and the company does now seem to be on a more sustainable path, following its 2008 reorganisation and a number of acquisitions and divestments. Smiths' share price growth this year has been within a few percent of its peers Rolls-Royce Holdings (LSE: RR) and GKN (LSE: GKN), but its current dividend yield is considerably higher than that of both these companies, highlighting an additional attraction. I feel pretty confident that Smiths Group will outlive me, although I wouldn't like to speculate what its core activities will be in another 100 years -- in 1912, its main line of business was car speedometers!

Top income picks

Doing your own research is important, but another good way of identifying great dividend-paying shares is to study the choices of successful professional investors.

One of the most successful income investors currently working in the City is fund manager Neil Woodford, who manages more money for private investors than any other City manager. Neil Woodford's dividend stock picks outperformed the wider index by a staggering 305% in the 15 years to 31 December 2011.

The good news is that you can learn about Neil Woodford's top holdings and how he generates such fantastic profits in this free Motley Fool report. Many of Mr Woodford's choices look like excellent retirement shares to me and the report explains how he chose some of his biggest holdings.

This report is completely free and I strongly recommend you download "8 Shares Held By Britain's Super Investor" today, as it is available for a limited time only.

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Further investment opportunities:

> Roland does not own shares in any of the companies mentioned in this article.

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