What's even better than high dividends? A dividend that can grow over the long term. Preferably one that can grow a lot.
Consider this: Thanks to a consistently rising dividend, Warren Buffett's Coca-Cola holdings, which cost him $1.299 billion in the mid-1980s, now pay him dividends of $736 million every year, good for a 57% (and rising) yield on his investment.
So when you consider today's dividend yield, it may not be nearly as important as the prospects for that payout's growth. That means companies with a low-looking yield today could end up being much, much better dividend stocks than today's high-yielders over the long run.
When it comes to growth prospects, there's nothing like the technology sector. While many tech companies don't pay a dividend, the following three do. Investors should take advantage of the recent sector weakness to scoop up shares of these long-term winners.
Broadcom
Despite an insider on Broadcom's (AVGO 3.84%) Board of Directors scooping up $10 million worth of the company's stock on Sept. 6, shares have continued to fall another 5% from those levels.
But that could be an opportunity. The recent decline in Broadcom's shares came after a good, but not great, earnings report. And many tech stocks deemed as artificial intelligence (AI) winners, Broadcom being one of them, have had terrific years, so when long-term interest rates rose this month, many investors decided to book profits.
Another reason: Last week, The Information reported Alphabet was considering switching away from Broadcom's ASIC technology to either an internal design or competitor Marvell. Of note, Broadcom provides key IP for Google's in-house-designed tensor processing units (TPUS). Marvell also has ASIC technology used by other cloud giants to make custom chips.
However, Google refuted the report last Thursday, saying, "Our work to meet our internal and external Cloud needs benefit from our collaboration with Broadcom; they have been an excellent partner and we see no change in our engagement."
But besides ASICs, there are more substantive ways Broadcom will benefit from AI. An even greater portion of the business comes from Broadcom's market-leading Tomahawk and Jericho chips for switches and routers. Those networking platforms are in very high demand, as AI training and inference requires a ton of lightning-fast data networking. CEO Hock Tan noted last quarter that demand for AI networking grew a whopping 50% quarter over quarter and will expand from 15% of Broadcom's current chip revenue to over 25% next year.
Things could get even better if and when Broadcom closes its acquisition of VMware (VMW), scheduled for the end of October, which would expand Broadcom's software portfolio and give it an even bigger business in multicloud hybrid-computing infrastructure.
Broadcom has shown an incredible ability to expand margins from acquisitions over the years; its dividend currently sits at a 2.3% yield, but that payout has grown at a 38% annualized rate since 2016. Given AI tailwinds and another monster acquisition likely (though not assured) on the way, I'd expect Broadcom's strong dividend growth to continue into the future.
Image source: Getty Images.
Microchip
Like Broadcom, microcontroller and analog-chip specialist Microchip (MCHP 1.51%) is a semiconductor company that should benefit from increased computing in the data center. But while Microchip should benefit from AI, including microcontrollers, PCIe switching chips, and smart-memory control chips, its data-center revenue makes up less of its overall business compared with Broadcom, at around 17.5%.
But Microchip is also highly exposed to another megatrend in industrial computing. Think the Internet of Things (IoT), edge computing, smart infrastructure, and electric and autonomous vehicles.
Even though the chip sector went into contraction last year, Microchip has maintained its growth, as many of its auto and industrial chips were the ones in very high demand during the 2021 shortages. However, management recently noted some softening demand in China, which could actually cause a quarter-over-quarter decline for the first time in a long time. Hence, the recent pullback.
Yet over the long-term, Microchip seems set to grow thanks to its broad exposure to "smart everything" trends. The company also has an impressive growth history, having compounded revenue at a 16.4% rate over the past 30 years. And over the five years starting in fiscal 2021, management expects organic growth between 10% and 15% as these megatrends take hold. That makes the pullback an opportunity for long-term investors, especially as Microchip now trades at just 12.4 times next year's earnings estimates.
Even more tantalizing for dividend investors: Microchip has been raising its current 1.94% dividend not on an annual, but a quarterly basis. This is because the company achieved its leverage target last year after five years of paying down debt. The high debt load was the result of its massive $10.3 billion Microsemi acquisition back in 2018.
Since the company brought its debt down to comfortable levels, it has been increasing its payouts to shareholders methodically every quarter. Last quarter, the company declared it would be paying out 67.5% of free cash flow to shareholders, and it will increase that percentage by 500 basis points (bps) per quarter, reaching 100% of free cash flow returned to shareholders by March of 2025. So, it seems assured its dividend will grow a lot over the next couple of years.
A great dividend growth stock can enable a happy retirement. Image source: Getty Images.
Ubiquiti, Inc.
Finally, Ubiquiti, Inc. (UI 0.44%) probably isn't on many investors' radars. That's because management stopped doing earnings calls with public shareholders years ago. But there's a pretty good reason for that: There aren't many institutional shareholders left, as founder and CEO Robert Pera owns over 93% of shares!
Now that's insider ownership. But even its highly incentivized CEO couldn't prevent a big pullback in Ubiquiti's shares this year, which are down 47% in 2023, pushing its dividend yield up to 1.6%.
But that could be an opportunity. Ubiquiti specializes in switches, WiFi access points, security cameras, and smart doorbells, with a passionate user base for small business installers and do-it-yourself techies. Ubiquiti sells beautiful and intuitive equipment at rock-bottom prices by virtue of the fact that the company doesn't really have a salesforce and operates in a superlean fashion, with an emphasis on hiring top-quality engineers.
However, Pera might have been a bit "too lean" over the past few years, as Ubiquiti ran short of components during the supply shortages of 2021 to satisfy all its demand. That resulted in Ubiquiti paying up for components and expedited shipping, which hit gross margins. Pera then compensated for that last year by investing a massive amount into building inventory, stopping share repurchases, and increasing Ubiquiti's debt load to do so. In response, shareholders dumped the stock.
However, now that inventory is at a healthier level, Ubiquiti's growth and numbers should normalize. Last quarter, the company beat revenue expectations, with profitability beginning to inflect upward.
UI Revenue (Quarterly) data by YCharts.
While gross margins haven't yet gotten back to early 2021 levels, they should over time. That's because Ubiquiti uses a first-in, first-out accounting method, meaning it is still likely selling equipment bought when component prices surged and were in short supply. But its cost of sales should normalize over time.
All in all, Ubiquiti has very high returns on capital, an incentivized, long-term oriented CEO, and a passionate user base. Now trading at just 15 times next year's earnings estimates, it's a buy once again.
