As dividend investors can attest, it's important to pick the right stocks for your diversified portfolio to ensure success in the long run. What are some of the traits solid dividend stocks typically possess? The best ones consistently grow their revenue and earnings per share (EPS), have strong balance sheets, and maintain low payout ratios.
I believe the asset manager T. Rowe Price Group (TROW -0.82%) checks all of these boxes. But is the stock a buy at this time? Let's dig in and see if we can find an answer.
Image source: Getty Images.
T. Rowe Price Group records an impressive third quarter
The company narrowly missed analysts' revenue and non-GAAP (adjusted) EPS estimates in the third quarter. And while that might sound discouraging, it's important to frame these results in the proper context.
T. Rowe Price met or exceeded analysts' expectations for revenue and adjusted EPS in 10 consecutive quarters leading up to the third quarter. That suggests the company was a victim of its own success. It's likely analysts slightly overestimated what its financial results would be for the third quarter.
T. Rowe Price reported $1.95 billion in net revenue during the third quarter, 22.5% higher than the year-ago period. So, despite falling 1% short of the $1.97 billion in revenue that analysts forecast, the company is still growing very quickly. How was it able to pull this off?
Thanks to continued appreciation in equity markets over the past year, the company's average assets under management (AUM) grew 27.5% year over year to $1.65 trillion in the third quarter. It continued to generate the vast majority of its revenue from investment advisory fees (92.8% of Q3 net revenue) that are assessed based on AUM, which explains how net revenue rose in the quarter.
And even though revenue was much higher in the third quarter, its adjusted operating expenses grew only 15.3% year over year to $957 million during the quarter. That's what led T. Rowe Price's adjusted net margin to expand by 150 basis points to 39.3% in the quarter. The company's combination of a higher revenue base and higher net margins resulted in adjusted EPS surging 28.2% year over year to $3.27 during the third quarter.
Since the S&P 500 set its 66th all-time high of 2021 just last week, T. Rowe Price is a prime candidate to benefit from such a strong equity market. Against this record-setting backdrop, it makes sense that analysts are forecasting the company will deliver 16% annual earnings growth over the next five years.
Debt-free with plenty of liquidity
As a testament to the discipline of T. Rowe Price's management team, the company has a fortress-like balance sheet. The absence of long-term debt is especially attractive because the Federal Reserve's St. Louis president, James Bullard, is projecting two rate hikes next year. Since the company is debt-free, it doesn't have to worry about just how much interest rates will rise.
With a balance of $5.34 billion in cash and discretionary investments at the end of the third quarter, the company has enough liquidity that it could repurchase 11.5% of itself if it chose to do so. This is based on T. Rowe Price's $46.4 billion market capitalization at the current $207 share price.
Simply put, it has considerably more flexibility than most companies to reward its shareholders with dividend hikes, share repurchases, and special dividends.
A discounted dividend growth stock
Although T. Rowe Price is a fundamentally healthy business, it appears as though the market doesn't fully appreciate the stock.
It trades at a forward price-to-earnings ratio of 15.4, which is well below the asset management industry average of 17.7. T. Rowe Price not only has a distinct advantage over most asset managers with a debt-free balance sheet, but its growth prospects are also very promising. The company's 16% annual earnings growth potential over the next five years ranks it in the top 10% among 202 asset managers.
And while investors wait for the company to be justifiably awarded a higher valuation, they can receive a well-covered, market-beating 2.1% dividend yield. Overall, this is why I still believe that T. Rowe Price Group is a blue-chip stock worth buying.
