Dividends are back in style.
Of course, for some companies they never stopped being a key way to return profits to shareholders. For example, when food distributor Sysco (SYY) raised its dividend this quarter by 3.8%, it marked the company’s tenth consecutive annual dividend increase. The 9% increase in its annual dividend declared on November 21 by Lancaster Colony (LANC), a manufacturer of candles and specialty foods, beat even that record of consistency. Lancaster Colony is one of only 16 U.S. companies to have increased cash dividends every year for 49 years or more.
But I’m talking about something very different than those examples of dividend consistency. This quarter I’m seeing companies that have been relative dividend tightwads decide not only to up their payments but to up them big time. I’m seeing 12%, 15%, and even 50% and 67% dividend increases. I’ve even seen one company raise its regular annual dividend payout twice this year.
For these companies this isn’t business as usual—and it signals something new in the way that these companies have decided to support their share prices in a very rough stock market. The good news for investors, of course, is that these dividend increases are coming at a time when lasting price appreciation has become extremely hard to come by.
What’s going on? I think we’re seeing a recognition by some companies that share buybacks as a way to boost share prices and to impress shareholders aren’t very effective right now.
Part of that might come down to buyback fatigue. The volume of buybacks, in which companies purchase their own shares in the markets, peaked with $914 billion authorized in 2007. This year the total so far comes to $445 billion—the highest total since 2007.
But when every company is doing buybacks, they certainly don’t make a company stand out. Once buybacks become a regular piece of corporate financial management they simply don’t convey much information to investors about what a company’s management thinks about future performance. And, I’d argue, investors have become justifiably cynical about buybacks. Remember that total for 2007? That was for announced buybacks. Once a company has announced a buyback program with suitable fanfare, it isn’t under any legal obligation to actually buy the full dollar amount of shares authorized. If the future turns out to be not quite so rosy—or not quite so profitable—then, never mind.
Of course, there’s the problem that buybacks may simply not do a very good job at delivering value to shareholders. Research by Fortuna Advisors shows that the median S&P 500 company engaged in stock buybacks from 2004 to 2008 delivered a return on investment of 3%. 75% of companies buying back shares delivered a return on investment of less than 10%. The data suggests, certainly, that these companies would have been better off investing in their own business—if they could identify opportunities that would return more than 10%. And if they couldn’t find those opportunities—they should simply have returned the cash directly to shareholders in the form of dividends.
And don’t forget the allure of a dividend in a stock market that isn’t delivering much in the way of capital gains. If you’re still bullish, a dividend is a way to get paid while you wait for the turn in prices. If you’re less optimistic, a dividend yield of 3% or 4% or more is still attractive when the alternative is a 10-year Treasury paying less than 2%.
Some of the dividend increases I’ve seen recently look like naked attempts—and good for management for recognizing the opportunity to make an impression on yield-starved investors– to push a stock’s yield above that offered by a 10-year Treasury. For example, Johnson Controls (JCI) raised its dividend 12.5% on November 16 to a projected annual yield of 2.5%. When Emerson Electric (EMR) raised its annual dividend by almost 16%, the company wound up with a 3.4% projected yield on its shares. (What’s a projected yield? It’s the yield that you get looking forward at the declared dividend rate over the next four quarters divided by the current share price. In the case of a company that has just raised its dividend I think this gives an investor a better picture of a stock’s yield than looking at the old trailing-12-month dividend payout.)
Other companies are still playing the old dividend as signal game where a substantial dividend increase isn’t enough to turn a piddling yield into a competitive payout, but is an effective shout out announcing that a company is back after a recent slide. I’d put the 40% dividend increase at Whole Food Markets (WFM) in that category. The 40% jump did grab my attention even if the 0.6% projected yield isn’t exactly mouth watering.
The same goes for the big 67% dividend increase announced on November 3 by Starwood Hotels & Resorts (HOT). That brings the annual payout to 50 cents a share (from 30 cents) or a projected yield of just 0.6%, but it is big enough to convince me that management really, really believes that the company’s mix of 70% international and 30% U.S. properties, and its strategy of managing rather than owning will continue to work even if the global economy is relatively soft in 2012. And the dividend announcement is a good counter to the disappointing guidance for fiscal 2012 that Starwood delivered on October 27 when it reported fourth quarter earnings for fiscal 2011. For fiscal 2012, the company said, earnings per share would be $1.96 to $2.25 versus the Wall Street consensus forecast of $2.25.
The hike in the dividend, then, serves as a good reminder that the lowered guidance doesn’t suggest anything like the end of the world for the company’s business.
I think a dividend increase like the 50% jump announced by Corning (GLW) on October 6 serves both purposes. First, it did push Corning’s projected dividend yield up to 2.1%, above the yield on the 10-year Treasury. And, second, it did signal that the company, which would announce some pretty negative trends for demand for its LCD glass in the fourth quarter, was confident that demand would recover in 2012.
All things considered though, what I really like to see in a dividend increase right now is a jump that puts the yield over the 10-year Treasury rate and that signals not that the future isn’t grim but that it might be downright rosy. That’s the combined message that I think Union Pacific (UNP) sent when it raised its dividend not once but twice this year. The two increases brought the projected yield on the railroad’s shares to a 2.4%.
When the company reported third quarter earnings on October 20 it said revenue had climbed 15.7% from the third quarter of 2010 as total carloads carried grew by 1%. Four of the railroad’s six business groups—those for autos, industrial products, energy, and chemicals reported increased volumes.
And for 2012? Standard & Poor’s projects a 3% increase in volume and a 6.5% increase in revenue (after the 15% revenue growth in 2011.) Credit Suisse is less optimistic about growth in volumes, projecting a 2% increase, but more optimistic on pricing, which translates into an estimated 18% increase in earnings in 2012 from 2011.
S&P puts a 12-month target on the stock of $107 a share. (It traded at $98.63 on November 22.) Credit Suisse has set it’s target at $120 a share.
If I can extrapolate from Union Pacific’s two dividend increases in 2011, I’d say the railroad would agree with the higher target.
That’s obviously just the company’s opinion and predicting growth in 2012 in the U.S. economy is one tough job. But as we try to cut through the confusion, I’d suggest that investors pay special attention to companies that are letting their dividend increases do the talking.
Full disclosure: I don’t own shares of any of the companies mentioned in this post in my personal portfolio. The mutual fund I manage, Jubak Global Equity Fund http://jubakfund.com/ , may or may not now own positions in any stock mentioned in this post. The fund did not own shares of any stock mentioned in this post as of the end of September. For a full list of the stocks in the fund as of the end of September see the fund’s portfolio at http://jubakfund.com/about-the-fund/holdings/
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