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Toronto-Dominion Bank (TSX:TD) is a solid business to own. It has been persistently profitable for a long time and growing its earnings over time. Lately, the stock has been pressured from the money-laundering scandal that could lead to a fine of $2 to 3 billion. This is not the first time a North American bank has experienced this kind of issue. TD will survive through this. Consider that in the trailing 12 months, its net income was over $12 billion. TD stock’s dividend doesn’t seem to be in danger.
The big Canadian bank stock paid out $5.8 billion in dividends to its shareholders last fiscal year with a payout ratio of 54%. Based on adjusted earnings, the payout ratio was about 48%. The leading Canadian bank actually has one of the longest histories of paying dividends in Canada, starting as early as 1857.
From the shareholders’ perspective, how much dividend income they receive this year depends on how many shares they own. If you hold 100 TD common shares, you would receive $4.08 per share, or $408 in dividend income this year, based on the current quarterly dividend of $1.02 per share. At the recent price of $77.56, that would be an investment of $7,756 for a dividend yield of close to 5.3%.
This is a higher income than that provided by one-year guaranteed investment certificates (GICs), which yield about 5%. Of course, unlike traditional GICs that protect your principal, stocks are volatile. And the ultimate return you get from your stock depends on the business performance, economic outlook, and valuation you paid.
At writing, TD stock trades at a blended price-to-earnings ratio (P/E) of about 9.8, which is a discount of roughly 15% from its long-term normal valuation. That said, other than the money-laundering scandal, other reasons pressuring the stock likely include no meaningful acquisitions any time soon, as well as higher levels of bad loans in a higher interest rate environment that requires setting aside a higher reserve.
TD stock supports a safe dividend
TD’s payout ratio will be temporarily high but still sustainable. Other than having a sustainable payout ratio, it also has a track record of increasing its earnings and dividends. For example, in the past 10 years, TD increased its adjusted earnings per share at a compound annual growth rate (CAGR) of 7.9%. In this period, the bank increased its dividend at a CAGR of 9%.
Since it has near- to medium-term headwinds from the money-laundering scandal and a macro environment of higher debt levels and costlier debt, in the worst-case scenario, it might freeze its dividend. In the past, when there was high uncertainty in the economic environment, it froze its dividend and resumed dividend growth when the storm had passed. Investors should be confident that it will do the same this time around.
How much might the stock return in the long run? Let’s be conservative and project earnings growth of 5% per year going forward. Combined with its dividend, we can approximate long-term total returns of north of 10% per year assuming no valuation expansion. That would be a solid return from a blue chip stock.
