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S&P Global Inc. – Reasonably Valued….Finally!

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In my March 4th analysis written exclusively for Financial Freedom is a Journey subscribers I indicated I viewed S&P Global (NYSE: SPGI) as being overvalued. Now that SPGI has pulled back in the past month and has released Q3 and YTD results and has updated its guidance for the remainder of the current fiscal year, I have initiated a position.

 

Summary

  • SPGI has retraced ~19% from its 52 week high recently set thus providing investors with an opportunity to acquire shares at a fair valuation.
  • SPGI and Moody’s control ~80% of the ratings market.
  • Having such a significant ratings market share provides a ‘door opener’ for SPGI to cross sell services from other divisions within the company.
  • Yield hungry investors are, unfortunately, apt to disregard SPGI as a potential investment because of its ~1.13% current dividend yield.

Introduction

In my March 4th S&P Global Inc. (NYSE: SPGI) article which I wrote exclusively for Financial Freedom is a Journey subscribers I indicated this was a great company in which I fully intended to initiate a position when it became more reasonably valued.

The reason why SPGI appeals to me is that it, and Moody’s (NYSE: MCO), together control ~80% of the global ratings market with Fitch Ratings controlling ~15%.

While most investors think of SPGI solely as a ‘ratings’ company, there are 5 divisions within SPGI. By holding a commanding percentage of the global ratings market, SPGI has a relationship with companies to which it can cross-sell services provided by any of the following divisions:

In fact, in SPGI’s Q3 2018 Earnings Presentation released August 25th, the President and CEO indicated:

“The benefit of our diverse portfolio of exceptional businesses was evident this quarter as we were able to overcome a decline in global bond issuance and deliver revenue growth, margin improvement, and EPS gains.

When I wrote my March 4th article SPGI was trading at $189.02. What did Mr. Market proceed to do with SPGI’s stock price after my article? Well…SPGI’s stock price rose to ~$215 by late July before pulling back in early August and then once again increasing to ~$214 in September. Subsequent to the 2nd last week of September, however, SPGI has been (thankfully) in a bit of a tailspin (refer SPGI’s stock chart for which a link is provided above).

Now that SPGI has retraced to a more reasonable valuation and has released its Q3 results on October 25th I have decided SPGI is at a fairly reasonable valuation. I have, therefore, purchased 200 shares @ $175.879. These shares are being held in one of the FFJ Portfolio ‘side accounts’.

This purchase was made based on my following observations.

Q3 2018 Financial Results

SPGI’s Q3 results and outlook for the remainder of the current fiscal year can be found here.

Despite a decline in global bond issuance, SPGI reported growth in revenue, operating profit margin, and EPS. I don’t get hung up on a change in results from quarter to quarter and am more interested in a long-term trend.

SPGI - Q3 2018 Financial Highlights

SPGI - Q3 2018 Financial Highlights 1

Source: SPGI – Q3 2018 Earnings Presentation – August 25, 2018

FY2018 Outlook

SPGI has updated its GAAP guidance and adjusted guidance as follows.

SPGI - 2018 GAAP Guidance August 25 2018

SPGI - 2018 Adjusted Guidance August 25 2018

Source: SPGI – Q3 2018 Earnings Presentation – August 25, 2018

Credit Ratings

Moody’s upgraded S&P’s long-term senior unsecured credit rating from Baa1 to A3 on August 8th.

Fitch upgraded S&P’s long-term senior unsecured credit rating from BBB+ to A- on October 12th.

Both ratings are the lower tier of the upper medium grade category and are satisfactory for my purposes.

Free Cash Flow (FCF)

While adjusted FCF for the year was originally anticipated to be ~$2.3B, guidance has been lowered to ~$2.2B. I do not view this marginal downward revision as a cause for concern.

SPGI - Q3 2018 FCFSource: SPGI – Q3 2018 Earnings Presentation – August 25, 2018

Valuation

SPGI has now forecast full year diluted EPS of $7.77 - $7.87 and full year adjusted diluted EPS of $8.50 - $8.60. With a closing stock price of $177.17 on October 25th, SPGI’s forward diluted PE range is now ~22.5 - ~22.8 and its forward adjusted diluted PE range is now ~20.6 - ~20.84.

The new forward diluted PE range is comparable to the historical 5-year average ~23 PE level but keep in mind that this 5-year average includes a year in which SPGI had no ‘E’ because it incurred a $1.375B Financial Crisis related settlement and a year in which the PE was ~16.

If you compare the forward diluted PE range for the current fiscal year with that of 2012 (23), 2013 (26.7), 2014 (27), and 2017 (24.9) then SPGI’s current forward diluted PE range looks reasonably attractive.

Historical Performance

While the past does not predict the future I still check how a company’s performance stacks up against an index over various time frames. Looking at the following images I see that SPGI has performed reasonably well relative to the S&P 500 over the 5 and 10 year time frames and pretty much at par with the S&P 500 over the 15 year time frame.

SPGI vs SP500 5 year return comparison

SPGI vs SP500 10 year return comparison

SPGI vs SP500 15 year return comparison

Source: Tickertech

Dividend, Dividend Yield, and Dividend Payout Ratio

SPGI’s dividend history can be found here and stock split history can be found here.

The following compound annual dividend growth rate is provided with the inclusion and with the exclusion of the $2.50 ‘special dividend’ in 2012.

SPGI - Dividend Growth 2006 - 2018

As a result of U.S. tax reform, SPGI’s Board of Directors approved on February 2, 2018 a 22% increase in the quarterly cash dividend ($0.41/share increased to $0.50/share). I do not anticipate annual dividend growth rates of the magnitude reflected earlier his year but at the same time I do not expect low dividend growth rates similar to those evidenced during the Financial Crisis. In my opinion, annual dividend growth rates in the 6% - 8% range appear to be more realistic. I, therefore, used this range when I made my decision to initiate a position in SPGI.

Despite a projected 6% - 8% annual dividend growth rate, the current ~1.13% dividend yield will likely be so low for some investors that the projected growth rate is an irrelevant metric.

I recognize we all have differing investment objectives. I like to generate dividend income as much as the next investor but just because a dividend yield is low does not mean I will exclude a company from my universe of potential investments. Had I set a minimum dividend yield threshold of, say 3%, we would not own some of our best performing investments and I might still have to wake up in the morning to go to work.

Another factor to take into consideration is the consistency of annual dividend increases. SPGI has paid a dividend each year since 1937 and it is one of fewer than 25 companies in the S&P 500 that has increased its dividend annually for at least the last ~45 years .

I have absolutely no interest in investing in a company with an exceedingly high dividend yield. Quite frankly, I suspect many investors investing in high dividend yield companies might not be fully aware that in some cases those ‘attractive’ dividends include a return OF investment.

In the case of SPGI, I take comfort knowing that the $2 annual dividend is well covered by the projected full year diluted EPS of $7.77 - $7.87.

Share Repurchases

Another way in which SPGI rewards shareholders is through accelerated share repurchases (ASR). SPGI, for example, repurchased $1B of outstanding shares in FY2017.

In Q3, SPGI completed its $1B ASR agreement it initiated during Q1 2018.

Beginning within the next few days, SPGI expects to initiate a new $0.5B ASR that will conclude no later than early February 2019.

Final Thoughts

I fully recognize that SPGI certainly dropped the ball when it completely missed the opportunity to forewarn investors of the risks which ultimately resulted in the Financial Crisis; it paid a heavy price having incurred a $1.375B Financial Crisis related settlement.

In addition to this stiff penalty, SPGI has had to contend with additional oversight authority granted to the US Securities and Exchange Commission in recent years. I am confident SPGI’s management wants to avoid further damage to the company’s reputation and it certainly does not want to face further fines of the magnitude incurred.

If another debacle were to occur, I strongly suspect SPGI’s reputation would suffer irreparable damage. Management is well aware of this, and therefore, I am reasonably comfortable that systems, procedures, and processes are now in place to avoid another blunder of significant magnitude.

Regrettably, yield hungry investors will likely have no interest in SPGI. The low dividend yield, however, is not a deal breaker from my perspective since I look at a company’s overall potential return (dividends AND capital gains).

I cannot possibly cover everything there is to know about SPGI in this article, and therefore, encourage you to review the company’s 2017 Investor Fact Book if you are remotely interested in investing in the company.

I wish you much success on your journey to financial freedom.

Thanks for reading!

Note: I sincerely appreciate the time you took to read this article. Please send any feedback, corrections, or questions to charles@financialfreedomisajourney.com.

Disclaimer: I have no knowledge of your individual circumstances and am not providing individualized advice or recommendations. I encourage you not to make any investment decision without conducting your own research and due diligence. You should also consult your financial advisor about your specific situation.

Disclosure: I am long SPGI.

I wrote this article myself and it expresses my own opinions. I am not receiving compensation for it and have no business relationship with any company whose stock is mentioned in this article.

By |October 26th, 2018|General Investing|Comments Off on S&P Global Inc. – Reasonably Valued….Finally!

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