Electronic income

My Best Passive Income Powerhouse Dividend Stocks to Buy in June

Prolonged bear markets can be difficult to bear. Sometimes it’s the little things that can help investors resist the urge to sell stocks at bargain prices. An uplifting feeling is to collect quarterly dividends from companies that are worth owning for decades to come.

Few companies have dividend yields above 3%, excellent business models, strong balance sheets, strong leadership and high operating margins, and are in addition leaders in their industry. United Parcel Service (UPS 2.13%) is a rare passive income powerhouse dividend stock. Despite some impending headwinds, here’s what makes UPS a great stock to buy in June.

Image source: Getty Images.

The elephant in the room

The short-term outlook for UPS is not great. Transportation stocks like UPS thrive when consumer spending is strong, which boosts residential package deliveries. Strong consumer spending is also prompting businesses to order more supplies to make more products. Inflation is straining the US consumer’s pocketbook, which could mean less discretionary spending. If consumer spending declines, this could impact UPS’s business-to-consumer segment.

A similar narrative applies to UPS’s business-to-business segment. Low interest rates encourage growth, while rising interest rates slow growth. A common theme we’ve seen across multiple sectors of the economy this earnings season is rising costs for raw materials, fuel, freight, shipping and logistics.

Companies may have been willing to bite the bullet on higher shipping costs when demand outstripped supply. But if demand catches up with supply, it could reduce the appetite for premium shipping, or even standard shipping. After all, UPS raised its prices by 5.9% to fight inflation. That hasn’t been a problem so far, but the question now is whether UPS can continue to grow and meet its full-year guidance if labor costs continue to rise and activity slows down.

UPS’s performance over the next few quarters will be highly dependent on the rate of US inflation and the state of the US economy. If the situation worsens, it would not be surprising to see UPS shares take a hit. It is therefore essential to be aware of this risk before jumping into UPS stock now.

However, the UPS overview is more impressive than ever.

Strong UPS profitability

If UPS’s growth slows, its margins will undoubtedly take a hit. But UPS’s trailing 12-month operating margin is at its highest level in 10 years and is significantly ahead of its fiercest competitor, fedex (FDX 1.30%).

UPS Operating Margin (TTM) Chart

UPS Operating Margin Data (TTM) by YCharts

An operating margin of 13.5% indicates that UPS earns just over 13 cents in operating profit for every dollar it generates in revenue. This is impressive given that parcel delivery companies have incredibly high fixed costs, including labor, vehicle and equipment rental, construction costs, and the cost of maintenance routes and logistics. There are also high variable costs, like fuel and extra labor during peak periods like the holiday season.

UPS is a big business by nature, so having an operating margin above 10% would be a win. However, UPS’s long-term goal is to have an operating margin that consistently exceeds 12%.

In its first-quarter 2022 earnings call, UPS said it expects a full-year operating margin of 13.7%. Admittedly, these indications were given at the end of April and the inflation situation, as well as that of consumer spending, has since deteriorated. So I would expect UPS to either miss that guidance or cut its full-year estimate soon.

However, the good news is that because UPS’s operating margin is already so high (and its existing forecast was generous), the company has a large safety margin for its operating margin to decline. and still quite good. It’s a luxury that many other companies simply don’t have.

For example, companies like walmart and Target have lower operating margins and are heavily impacted by customers shifting from discretionary assets to commodities.

In sum, UPS’s growth is expected to slow and its profitability will likely decline. But his business is arguably at its best. So now is the perfect time for UPS to deal with an economic downturn.

Tons of free cash flow

Just as UPS can afford to squeeze its margins, it can also manage lower free cash flow (FCF) while still having enough cash to pay and grow its dividend. UPS announced a historic 49% dividend increase in February, bringing its quarterly dividend to $1.52 per share. Even with this increase, UPS is generating plenty of FCF per share to pay its current dividend and future increases.

UPS Free Cash Flow Per Share Statement (Quarterly)

UPS Free Cash Flow Per Share Data (Quarterly) by YCharts

UPS’s goal is to distribute about half of its adjusted earnings per share through its dividend. Record annual profits in 2021 led UPS to deliver on its promise and increased the dividend accordingly. While UPS isn’t known for steadily increasing its dividend every year, the monstrous increase bumps its dividend yield to 3.4% at Thursday’s closing price.

In addition to being able to afford the dividend increase with FCF, what’s exciting about UPS’s dividend increase is that it provides a much higher base for the ordinary dividend. It is common to see companies issue special dividends as a way of rewarding shareholders when things are going well. Wholesale Costco is known to do so. And Conoco Phillipsone of the largest oil and gas exploration and production companies, recently launched a dividend program with a fluctuating payout designed to pass outsized returns to shareholders directly through the dividend.

UPS did something companies almost never do, especially companies of its size. He basically pledged to increase the dividend and keep it high. In that vein, UPS might not issue any dividend increases for a few years and that would still be a huge win for UPS shareholders given the magnitude of this latest increase. Raising the ordinary dividend by 49% and keeping it high is a sign that UPS is confident in its ability to sustain this dividend over the long term.

UPS is the Complete Dividend Stock Package

UPS remains one of the best dividend-paying stocks in the market. The company is benefiting from long-term growth in e-commerce and parcel delivery. Given the capital-intensive nature of shipping and logistics, UPS has a wide moat and a short list of competitors. Carol Tomé is a top Fortune 500 CEO and has done an impeccable job expanding the roads and increasing profitability.

UPS generates a lot of FCF, has an attractive dividend yield and has grown well above the industry average. To top it all off, after falling nearly 21% from the all-time high it hit earlier this year, UPS has a price-earnings ratio of just 15.

For investors looking for a quality business with a generous return that isn’t overvalued, UPS stands out as the best passive income game to buy in June and hold onto for years to come.