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Croda International(LSE:CRDA) is one of my favourite UK stocks. I think it FTSE 100 Index The chemical company is a very high quality company.
Better yet, the company's stock price has fallen 26% over the past 12 months. Now that the stock is back to its 2017 level, I think it's worth paying close attention to.
A quality operation
In my opinion, Croda has many of the hallmarks of a quality company. One of the most obvious signs is its dividend, which has increased every year for more than three decades.
Croda International dividends per share 2014-24
Created on TradingView
This is often a sign that the business is durable, but it is also worth noting that the company only distributes about 50% of its profits. The rest is reinvested for growth.
It is important to note that Croda has been reinvesting its profits at impressive rates of return. Over the past decade, the company has consistently achieved a solid return on equity (ROE).
Croda International ROE 2014-24
Created on TradingView
This is arguably even more significant than dividend growth, as it indicates that the company still has room for growth.
Barriers to entry
Impressive metrics are important, but a long-term investment also needs something that is difficult for other companies to compete with so that it can continue to generate solid returns.
In my view, Croda's business has some of the best protection in the FTSE 100. Part of this protection comes from patents that make it impossible for competitors to replicate them.
In other cases, delivery systems are also specified by pharmaceutical companies as part of the approval process, meaning manufacturers have no choice but to use their products.
This gives Croda significant pricing power and is why the company has been able to achieve such high returns while distributing more and more to shareholders.
Short-term headwinds
That's why Croda is one of my favourite UK stocks. Plus, the business is very hard to disrupt, allowing it to reinvest at high rates of return while also increasing its dividends.
Despite this, the stock has fallen 61% from its December 2021 levels. This is due to declining sales of the Covid-19 vaccine, which had provided a major boost to both sales and profits at the time.
As a result, Croda's ROE has fallen over the past year or so, and investors should think carefully about what the company's results will look like when things normalize.
In 2023, the company generated £149m in free cash flow, equivalent to a yield of 2.6% on a market capitalisation of £5.6bn, so the current share price implies an expectation of future growth.
Should I buy stocks?
What I try to do with my investments is buy shares in quality companies when they are trading at bargain prices, but I am not so sure that Croda is the right choice at the moment.
In its best year, Croda generated £189m in free cash. At current prices, that implies an annual yield of 3.3%, which isn't enough to get me excited from an investment perspective.
Earnings are likely to be higher in the future than they have been in recent times, but the company will have to generate more than it did when demand surged during the pandemic.
That seems like a very high expectation to me. So even with stocks back to their 2017 levels, they don't offer the margin of safety I look for in an investment.