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Will Illinois Tool Works Help You Retire Rich?

Tuesday - 1/1/2013, 12:07am  ET

Now more than ever, a comfortable retirement depends on secure, stable investments. Unfortunately, the right stocks for retirement won't just fall into your lap. In this series, I look at 10 measures to show what makes a great retirement-oriented stock.

Many companies make products that you never see but that make it possible for other manufacturers to make other goods that you rely on. Illinois Tool Works is one of those companies, which traditionally makes a wide array of goods ranging from vehicle fasteners to furniture laminates. Does it make sense to buy a company that's content to profit from behind the scenes? Below, we'll revisit how Illinois Tool Works does on our 10-point scale.

The right stocks for retirees
With decades to go before you need to tap your investments, you can take greater risks, weighing the chance of big losses against the potential for mind-blowing returns. But as retirement approaches, you no longer have the luxury of waiting out a downturn.

Sure, you still want good returns, but you also need to manage your risk and protect yourself against bear markets, which can maul your finances at the worst possible time. The right stocks combine both of these elements in a single investment.

When scrutinizing a stock, retirees should look for:

  • Size. Most retirees would rather not take a flyer on unproven businesses. Bigger companies may lack their smaller counterparts' growth potential, but they do offer greater security.
  • Consistency. While many investors look for fast-growing companies, conservative investors want to see steady, consistent gains in revenue, free cash flow, and other key metrics. Slow growth won't make headlines, but it will help prevent the kind of ugly surprises that suddenly torpedo a stock's share price.
  • Stock stability. Conservative retirement investors prefer investments that move less dramatically than typical stocks, and they particularly want to avoid big losses. These investments will give up some gains during bull markets, but they won't fall as far or as fast during bear markets. Beta measures volatility, but we also want a track record of solid performance as well.
  • Valuation. No one can afford to pay too much for a stock, even if its prospects are good. Using normalized earnings multiples helps smooth out one-time effects, giving you a longer-term context.
  • Dividends. Most of all, retirees look for stocks that can provide income through dividends. Retirees want healthy payouts now and consistent dividend growth over time -- as long as it doesn't jeopardize the company's financial health.

With those factors in mind, let's take a closer look at Illinois Tool Works.

Factor

What We Want to See

Actual

Pass or Fail?

Size

Market cap > $10 billion

$27.8 billion

Pass

Consistency

Revenue growth > 0% in at least four of five past years

4 years

Pass

 

Free cash flow growth > 0% in at least four of past five years

1 year

Fail

Stock stability

Beta < 0.9

1.17

Fail

 

Worst loss in past five years no greater than 20%

(32.7%)

Fail

Valuation

Normalized P/E < 18

16.88

Pass

Dividends

Current yield > 2%

2.5%

Pass

 

5-year dividend growth > 10%

9.9%

Fail

 

Streak of dividend increases >= 10 years

49 years

Pass

 

Payout ratio < 75%

29.5%

Pass

       
 

Total score

 

6 out of 10

Source: S&P Capital IQ. Total score = number of passes.

Since we looked at Illinois Tool Works last year, the company's score has dropped by a point, with a slowdown in dividend growth causing the drop. But the stock has done extremely well even in a slow-growth economic environment, with shares rising more than 25% over the past year.

Illinois Tool Works definitely isn't a household name, but it has quietly made investors some big profits for a long time. Over the past 40 years, the company has posted annual returns of more than 13%, bringing investors 100-fold gains over that period.

But the company has had to deal with some tough situations. In November, company CEO David Speer died, forcing the company to name acting CEO Scott Santi to the position permanently. Given the speed of the move, it's clear the company had a succession plan in place, but it could still take a while for Illinois Tool Works to get fully up to speed again.

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