Investors generally end up making a trade-off between risk and reward when choosing between high-yield dividend stocks. In many cases, the higher the yield, the higher the risk.
To illustrate the point, here are three stocks that dividend investors might want to consider. They all have attractive dividend yields and interesting business opportunities. The distinguishing factor is the differing levels of risk involved. At the low end of the risk spectrum is Kellogg(NYSE: K) with its 3.5% yield. In the middle is Walgreens Boots Alliance(NASDAQ: WBA) with a 6.4% yield. And on the high side of both factors is PetMed Express(NASDAQ: PETS) with its 8.8% yield.
1. Kellogg: Breaking up can lead to growth
Kellogg is probably best known for its namesake cereal products, but that's about to change. Over the past few years, the food maker has been selling slow-growth businesses (like Keebler) and acquiring faster-growing brands (like Pringles). Given the company's history, management was reluctant to touch the cereal business despite its modest growth profile. That is until now. It appears the cereal segment will be spun off to investors.
What investors will end up owning is a slow and steady U.S. cereal company and a faster-growing global snack company. It's still not clear what will happen to the dividend when everything shakes out, but given the nearly 20 years of annual dividend increases at stake here, it is likely that the dividend from both companies will end up adding up to the dividend paid solely by Kellogg as it stands today.
Still, there's uncertainty here and investors don't like uncertainty and that is reflected in the lowered stock price. It's also reflected in the elevated dividend yield, which is fairly generous at the moment historically speaking. But if you look at the business from a big-picture perspective, the risk appears fairly modest overall since it's going to be the same reliable consumer staples businesses just spread over two companies. And the chance for more rapid dividend growth at the global snack company could be very attractive over the long term.
2. Walgreens: Shifting the business model
Walgreens has increased its dividend for 48 consecutive years, putting it just two years shy of qualifying as a Dividend King. That's an incredible streak, with the company deftly shifting over that time span to keep succeeding through various macroeconomic ups and downs. Walgreens is changing again today, only this time it is working to build out a healthcare services business to complement its pharmacy operations.
There are notable risks to consider here. For example, it isn't exactly clear that buying healthcare providers will work out as planned. And the provider purchases and organic expansion of the business will require a lot of cash, which means leverage is likely to be an issue for a while. The uncertainty around this transition is why the yield is so high for this specialty retailer.
But there are some clear positives to consider. For starters, Walgreens recently sold its pharmacy benefits business and now has a huge stake in the acquirer, AmerisourceBergen. It is selling shares in AmerisourceBergen to help fund its business transformation. In other words, this transition might not end up being as expensive as feared. Meanwhile, the relationship between Walgreens and its healthcare service business is likely to lead to stickier customers and steady, perhaps growing, pharmacy orders.
Given Walgreens' long history of rewarding shareholders well through good times and bad, it seems like more aggressive dividend investors would be wise to give management the benefit of the doubt today. And you'll get to collect a historically high yield as you wait for the transformation to play out.
3. PetMed Express: Shifting toward growth
PetMed Express is by far the riskiest name on the list. Although it has a history of regular dividend increases, the dividend has held static for nine consecutive quarters. That makes sense, however, because sales have been falling of late and the company is trying to reignite its growth prospects. Still, there are some caveats to consider.
For starters, revenue rose sharply for the online pet supply company during the early days of the coronavirus pandemic. Working from home, social distancing, and the closure of many stores would be the backstory there. With the world opening back up again, it makes sense that sales would weaken. That said, management is still trying to change things up and get growth back on track.
To do that it has bought a competitor, PetCare RX, which expands its customer base, increases its product assortment, and will allow for integration cost savings. It's not a bad plan, noting that PetMed customers are increasingly relying on automated sales for their supply needs. The roughly 45% of revenue tied to automated sales is almost like an annuity. The more customers it can get on that program the better. Meanwhile, pet owners increasingly treat their pets like family members, which should be a long-term tailwind for the pet supplies business more generally and supports the acquisition-driven product extensions. Oh, and the company has no long-term debt.
PetMed Express, with a roughly $280 million market cap, is a small company. And current financial results aren't that great. But given the strong financial foundation and expansion efforts, more aggressive investors willing to track a micro-cap stock might want to dig into its very high yield.
Time for some deep dives
This trio of stocks won't be right for every dividend investor, but those looking for generous yields and interesting opportunities should find at least one worthy of further research. Kellogg is likely to be the most boring, but after the spinoff, it could offer investors a mix of dividend growth (global snacks) and yield (U.S. cereal business). You can keep them both or pick the one you prefer. Walgreens is making a transition of its own, but it has a long history of success behind it and the big investment in AmerisourceBergen to help pay for the sizable changes it is making today. PetMed Express, meanwhile, is small, working to expand in an attractive business, and doing so from a position of balance sheet strength.
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Reuben Gregg Brewer has positions in Kellogg. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.
