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Illinois Tool Works: A Dividend King With Double-Digit Total Return Potential

Illinois Tool Works (ITW) is one of the strongest, most diversified companies that a dividend growth investor can find in the industrial sector.

While the stock only yields close to 2% today, the company has consistently raised its dividend at a double-digit pace for many years.

In fact, Illinois Tool Works has been growing its annual payout every year since 1964 and is a member of the dividend kings group here.

Let’s take a closer look at the business to see if it could be a good fit today for a diversified dividend growth portfolio.

Investors seeking higher income can review some of the best high dividend stocks here.

Business Overview

Founded in 1912, in Glenview, Illinois, Illinois Tool Works is one of the world’s largest industrial component manufacturers, operating a total of 501 facilities in 57 countries around the globe (roughly half of sales are in North America).

ITW has grown into an extremely diversified manufacturer of specialized industrial and consumer equipment and consumables with a presence in many different end markets – automotive, construction, manufacturing, food & beverage, and more.

Illinois Tool Works consists of hundreds of businesses it has acquired over the years. It runs a unique decentralized operating structure that empowers acquired businesses to maintain most of their culture and operations while taking advantage of ITW’s resources to better serve their customers’ needs.

Its 85 subsidiaries operate through seven business segments:

Automotive OEM (21.1% of 2016 sales and 22.5% of operating income): produces plastic and metal components, fasteners, and assemblies primarily for automotive original equipment manufacturers.

Food Equipment (15.5% of sales and 17.5% of operating income): produces commercial food equipment and related services, including warewashing equipment, cooking equipment (e.g. ovens, broilers), refrigeration equipment, and more. Customers include restaurants and food retail markets.

Specialty Products (13.9% of sales and 15.7% of operating income): the businesses in this segment produce beverage packaging equipment and consumables, product coding and marking equipment, and appliance components and fasteners.

Test, Measurement & Electronics (14.5% of sales and 12.1% of operating income): sells equipment, consumables, and related software for testing and measurement of materials and structures, as well as equipment and consumables used in the production of electronic subassemblies and microelectronics.

Welding (10.9% of sales and 12.1% of operating income): sells welding equipment, consumables, and accessories for a wide array of industrial and commercial applications.

Constructuction Products (11.8% of sales and 11.8% of operating income): produces construction fastening systems and truss products used primarily in construction markets.

Polymers & Fluids (12.4% of sales and 11.2% of operating income): sells adhesives, sealants, lubrication, fluids, and polymers for auto aftermarket maintenance and appearance.

Business Analysis

It’s no surprise that a company that’s thrived for over a century and grown its payout to shareholders for over 50 years has proven highly adaptable. Specifically that means creating and evolving a successful corporate culture that can grow steadily even during economic and industry downturns.

For example, in 1985 the company adopted what it calls its “80/20” strategy in which the company began careful, data-driven optimization of its largest, fastest growing, and most profitable segments, while minimizing the costs and distractions from its 20% worst performing segments, most of which were sold off.

While this strategy was highly successful, the 600+ acquisitions over that period resulted in a bit of a bloated company, which had more than 800 regional divisions. That’s why management decided to use the recent global industrial recession, which began around 2011, to once more evolve its corporate and business structure to improve the company’s future growth and profitability potential.

The first step of this turnaround was to conduct a thorough review of its businesses and streamline its operations, consolidating from over 800 regional divisions to 85 global ones.

Next the company re-dedicated itself to only investing in the best industrial segments that had above industry average organic growth potential. That’s important because the industrial component industry generally grows in line with the world economy, or about 2% to 3% a year – hardly fast enough to support the kind of double-digit dividend growth that Illinois Tool Works’ investors have become accustomed to.

For ITW, that meant selling approximately 25% of its businesses between 2011 and 2014...