One battle-tested way to look for outperformance in the stock market is to find businesses that pay a well-funded and growing dividend. A study by Hartford Funds showed that since 1973, dividend growth stocks in the S&P 500 index have outperformed the broader index (on an equal-weighted basis) by 2.5 percentage points annually.
Furthermore, by focusing on dividend growers with payout ratios (dividend payments divided by net income) below 50%, investors can find stocks with ample room to continue increasing their payouts for decades. One business that fits this description is security specialist Allegion(NYSE: ALLE) with its 1.7% dividend, diminutive 29% payout ratio, and eight straight years of dividend increases.
However, as promising as these dividend metrics are, this is only a portion of what makes the company so intriguing, especially after dipping 20% from its 52-week highs.
Here's what makes Allegion a magnificent S&P 500 company to buy and hold forever.
Allegion: A house of leading security brands
Home to dozens of brands -- some of which have existed for over 100 years -- Allegion is a one-stop shop for access control and security-related products or services. In less jargony speak, the company operates in five product categories:
- Locks, locksets, and key systems (mechanical security) -- 32% of 2022 revenue.
- Electronic security and access-control systems -- 26% of revenue.
- Door controls and systems, exit devices (think fire emergency doors or emergency room doors) -- 23% of revenue.
- Doors and accessories -- 16% of revenue.
- Services and software -- 3% of revenue.
Alongside this diversified security-product selection, Allegion's LCN, Schlage, and Von Duprin brands hold No. 1 or No.2 positions in their categories in North America. Meanwhile, the company's CISA, Interflex, and SimonsVoss brands have similar leadership positions in specific European geographies.
Thanks to this leadership position in its security-market niche, Allegion boasts best-in-class profitability metrics among its closest peers.
ALLE Return on Invested Capital data by YCharts.
This outsize profitability is ultimately the secret sauce that enables the company to be the steady dividend grower it is today, providing abundant net income that can be returned to shareholders or used to make acquisitions.
Allegion's fastest-growing product vertical -- electronic security -- only accounts for 30% of its sales and is still in the early chapters of its growth story.
Leading the electronic-security transition
Statista expects the global security industry to grow by 12% annually through 2028. While this is a bit of an apples-to-oranges comparison to Allegion's products, it nonetheless highlights the broader megatrend that should propel the company's growth.
However, the even more significant growth opportunity lies in Allegion's estimation that the global adoption rates for electronic-security products remain below 10%, leaving an immense growth runway ahead. Currently, the company projects that these electronic-security sales should grow by high single digits annually (without new acquisitions) as digital IDs and credentials from smartphone wallets become the new "keys."
What makes these electronic offerings of critical importance to investors, however, is they generally bring along recurring-service revenue.
Highlighting this point, consider Allegion's 2022 acquisition of Access Technologies and its automatic entrance solutions from Stanley Black & Decker for $900 million. Not only does the buyout fit nicely with Allegion's electronic-products vertical, but Access Technologies generated 40% of its sales from recurring services.
Having made 12 acquisitions since 2015 -- totaling over $2 billion -- the company is expected to continue its successful track record (note its continuously high return on invested capital) of scooping up smaller peers with a focus on building out its recurring revenue.
Why buy now?
While Allegion's growing dividend and leadership position in a market expected to see 12% growth annually for the next five years is intriguing enough, the company's valuation is at an all-time low.
ALLE PE Ratio data by YCharts.
Trading with a price-to-earnings (P/E) ratio of 18 -- and a forward P/E of just 15 -- Allegion is essentially the cheapest it has ever been in its publicly traded history. Due to this discount compared to its historical averages, the company's dividend yield is near all-time highs again at 1.7%, giving investors additional passive-income potential for each dollar invested.
Thanks to this once-in-a-decade valuation, Allegion's track record of profitability and successfully integrated acquisitions makes it a magnificent S&P 500 dividend grower to buy and hold forever as the security industry modernizes.
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Josh Kohn-Lindquist has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.
