By: Dividend Sensei
Dividend aristocrats, companies in the S&P 500 that have raised their dividends for 25+ consecutive years, have historically been a great low risk way for investors to achieve market beating results with much lower volatility. For example, between 2000 and 2017 the dividend aristocrats more than doubled the S&P 500’s total returns while enjoying 26% less volatility.
While most investors have heard of famous aristocrats like 3M (MMM), and Coca Cola (KO), fewer have heard of fast growing Roper Technologies. Yet this hidden gem aristocrat has managed to generate absolutely market smashing returns:
- Roper total return since 1990: 17,480% (20.3% annual total return)
- S&P 500 total return since 1990: 1,060% (9.2% annual total return)
Now I’m not saying the Roper is going to be able to keep delivering Buffett like returns in the future. But there are three reasons why I think it can likely return about 13% annual total returns over the next decade, which should still mean market smashing results.
Roper Technologies: The Hidden Gems Of Industrial Aristocrats Has Sensational Profitability
Founded in 1981 Roper Technologies is a diversified industrial company that specializes in high-tech software and engineering solutions for the global: healthcare, food, energy, water, education, construction, and legal industries.
While it started off producing things like pumps, valves and fluid control systems, since 2011 the company has shifted to a focus on faster growing and higher margin products such as RFID chips (used for tracking products), and medical imaging software used in healthcare and robot surgeries. Today about 70% of its sales come from these high-tech and software based products and services.
The main reason for this shift in strategy is that the gross margins on high-tech products and software are sky-high, up to 72% for the company’s medical imaging software. That’s compared to still impressive 50% for its custom designed industrial products (Roper has a wide moat). As a result Roper is more of a technology company than a traditional industrial firm. For example while most industrial companies generate 10% to 35% of their sales from recurring sources (consumables, maintenance contracts, subscription services) Roper gets 50% of its revenue from these stable sources.
Better yet? Thanks to its major push into high-tech and high-margin software based products Roper boasts some truly incredible profitability:
- Gross margin: 63.1% (industry average 28.4%)
- Operating margin: 27.4% (industry average 6.5%)
- Net margin: 17.7% (industry average 4.9%)
- Free cash flow margin: 23.0%
While operating and net margins that are three to four times its industry peers is impressive enough, what investors should really focus on is the company’s sky-high free cash flow margin. Free cash flow is what’s left over after running the business and investing for future growth. It’s what ultimately pays for dividends, buybacks, and repays debt. Roper’s FCF margin is on par with that of Apple (AAPL) and Microsoft (MSFT), and is a testament to management’s pivot into focusing on the industrial needs of the future. That has largely been due to $9 billion in acquisitions between 2011 and 2017, almost all of which was focused on RF hardware and image processing software and services.
But unlike most larger tech companies, Roper isn’t in the business of making splashy and needle moving acquisitions. That’s a great thing because according to a study by analyst firm KPMG about 70% of large mergers fail to produce positive shareholder value. Roper’s M&A strategies is laser focused on smaller bolt-on acquisitions. For example over the past few years it’s spent $4 billion to acquire 40 medical imaging software companies or an average of just $100 million. More importantly because of how disciplined management is at M&A Roper’s average cash return on investment (including acquisitions) has increased from 30% in 2003 to 300% in 2017.
Overseeing this aggressive bolt on acquisition growth strategy is Brian Jellison, a 17 year company veteran with 37 years of industry experience. Jellison has managed to build an enduring corporate culture dedicated to superior investor capital allocation, rapid dividend growth (20% average growth over the past 5 years), and a maniacal focus on growing through beautifully executed M&A.
Best of all, analysts estimate that by 2022 fully 33% of the company’s sales will be from high-margin software subscriptions. This is why the company is expected to generate 12% to 13% annual EPS and FCF/share growth over the coming decade. That’s roughly double the historical EPS growth rate of the S&P 500 since 1960 and sets Roper up for another decade of safe and fast payout growth, as well as market crushing returns.