Buffett's a Dividend Investor, Why Aren't You?

One of the worst misconceptions about dividend investing is that it's boring. If you mean regularly increasing gobs of cash delivered to your brokerage account, then OK, it's boring. Heck, some even think dividends are dumb.

But for those of us who love it when someone deposits money into our accounts, it's the most powerful and low-risk form of investing around, I would argue. And I have.

In fact, dividend investing is so powerful that the world's greatest investor, Warren Buffett, has made it a staple of his portfolio, a good reason that you should too.

Buffett, a dividend investor?!
Sure, Buffett is known primarily as a value investor, but the Oracle of Omaha has made a career of finding businesses that pump out cash like oil from a well, a trait that makes them primed to be outstanding income stocks. Such cash-flow companies include high-quality insurers like GEICO or other well-run financials such as Wells Fargo and American Express.

One of Buffett's finest picks has been a dividend monster. The stock? Coca-Cola (NYSE: KO  ) . Buffett first started acquiring Coca-Cola shares in 1988 and has built a position of 200 million shares as of March 2010, meaning he owns nearly 9% of the soda king. Coca-Cola forms 21% of Berkshire's investment portfolio, followed by Wells Fargo at 18%.

But in 1988 Coca-Cola wasn't the clear slam-dunk choice it appears today. Buffett was one of the first investors to see its enviable Coke brand as a serious competitive advantage. The superinvestor has now held shares for over 20 years and has repeatedly praised the efficiency of its capital-light business model, which spits out tons of free cash.

That free cash has allowed the company to consistently raise its dividend, making a small fortune for a long-term holder like Buffett.

Because Coca-Cola has raised its dividend by 12% on average over the last 21 years, Buffett now manages to get back about one-third of his original investment every year. If the company continues to increase its dividend at this historical rate, in about nine years Buffett will manage to get back his original investment in dividends every year!

Given Coca-Cola's steady economic performance and solid record of increasing dividends, there's every indication that it will continue those growing payouts. That's the power and excitement of income investing with a rock-solid company: increasing payouts for life.

And that's not all ...
As Buffett did with Coca-Cola, when screening for dividend stocks you should look for strong fundamentals such as steady profitability and increasing growth over time.

Generally, you should avoid cyclical companies, since they may be unable to maintain consistent profitability, which could endanger their ability to pay a dividend. Instead, focus on businesses whose products will be in demand regardless of the financial climate, helping to ensure a steady payout.

Here are a few that fit my criteria.

Company

Trailing Dividend Yield

5-Year Dividend Growth Rate

5-Year Earnings Growth

Procter & Gamble (NYSE: PG  )

3.2%

11.9%

13.5%

McDonald's (NYSE: MCD  )

3.2%

30.7%

13.3%

Microsoft (Nasdaq: MSFT  )

2%

16.7%

9%

Johnson & Johnson (NYSE: JNJ  )

3.6%

11.4%

8.5%

General Mills (NYSE: GIS  )

2.7%

9.1%

9.7%

Nike (NYSE: NKE  )

1.5%

18.2%

8.1%

Source: Capital IQ, as of May 27, 2010.

Each of these companies has a remarkably strong franchise for consumer products that we use day in and day out, as you can see in their consistent earnings growth.

While Procter & Gamble offers the detergents and shaving products we use on a daily basis, McDonald's offers the most known fast-food brand along with its famous fries. It's hard to operate a computer without using Microsoft software somewhere, and Johnson & Johnson's health products cover a wide swath, from mundane goods such as Band-Aids and Tylenol to ultra-high-tech medical devices. General Mills profitably serves up its cereals, as well as yogurt and pizzas -- in short, some of the popular foods in the grocery. And Nike is so ubiquitous that it's hard to imagine sports without this brand.

The indispensability of their products ensures that payouts from such blue chips can grow for decades, turning even a small initial investment into a dividend dynamo, just like Buffett did with Coke.

Follow these dividend stars
Like Buffett, the experts at Motley Fool Income Investor are focused on "boring" companies that mint money -- including Coca-Cola. Advisor James Early and the whole Income Investor team look for companies offering a yield of 3% or better and that are primed to increase their payouts for the long term.

If you want more dividend stocks that could help give you an easy retirement, regardless of the ups and downs of the stock market, click here to join Income Investor as our free guest for 30 days. James can help point you to the handful of the thousands of public companies that can secure you an income for life.

Jim Royal, Ph.D. owns shares in Procter & Gamble and Microsoft. American Express, Coca-Cola, and Microsoft are Inside Value selections. Johnson & Johnson, Coca-Cola, and Procter & Gamble are Income Investor recommendations. Motley Fool Options has recommended a buy calls position on Johnson & Johnson and a diagonal call position on Microsoft. The Fool owns shares of Coca-Cola and Procter & Gamble. The Fool has a disclosure policy.


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Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On May 27, 2010, at 7:40 PM, HIGHNLOW wrote:

    I realize that BRK-A holds a lot of cash so that it has the freedom to invest in other companies and I would consider myself a Buffet fan, but isn't it a bit ironic that the article extolls the virtues of owning companies that pay a dividend, when Berkshire-Hathaway does not. Am I missing something?? I'm sure I am....

  • Report this Comment On May 27, 2010, at 8:00 PM, goalie37 wrote:

    Great piece. Dividends are a powerful tool to an investor. Put them in conjunction with great companies, great brands, low debt loads, and a solid balance sheet, and I believe you have the least stressful and emotional form of equities investing.

  • Report this Comment On May 27, 2010, at 8:39 PM, NoFreeRide wrote:

    Dividends are great but Coke?

    Its dividend is currently about 3% and the stock price about the same price today as 10 years ago. Until our financial meltdown two years ago you could easily get a better rate with a money market account and with much less risk. If you take into account inflation over those 10 years I wonder what your real rate of return is? Not much.

    Dividends are great as an added bonus especially if in a non-taxed account but I would hardly consider buying a stock just for dividends. Maybe I just don't get it.

  • Report this Comment On May 27, 2010, at 8:59 PM, goalie37 wrote:

    In defense of KO, yes the price is largely unchanged over the past ten years, but digging deeper into the numbers shows a different picture.

    In 2000, the P/E ratio was between 49 and 76. In 2009 it varied between 13 and 20. The dividend was less than half what it is now, even though the payout ratio has dropped from 77% to a much more comfortable 56%. Book value has almost doubled. Earnings have gone from .88 cents a share to $2.93. KO must be considered a much more attractive investment than it was ten years ago.

  • Report this Comment On May 27, 2010, at 9:42 PM, Glycomix wrote:

    Chart analysis and some Pundits' input suggests the following:

    These are 'Safe' investments

    - They'll stay in business

    most will go down but

    will increase by the amout the decreased

    by year end and add 10-19%

    except J&J which will slightly decrease

    T hey don't change much. They don't go up, BUT they don't go down much either.

    They're all ...

    an 'OK buy' from S&P

    1. Proctor and Gamble = flat the whole year.

    It creeped up:

    $61 Dec 09 to -$62 in March down to -$61 May

    Impressively. It weathered the market storm with no problems. It's a great rock to put your money in when storms come.

    - Reuter's says it's gets "average performance"

    + Excellent Fundamentals, OK elsewhere

    -stock cost too much for the revenue

    S&P calls it a "buy" (not a strong buy)

    Chartmaker calls it a 'buy' (not a strong buy)

    - Buy now. It'll go from

    $60.95 today to $70.20 in 6-12 mos.

    McDonald's (MCD)

    -Feb1 - April 30 McDonald's went from 61-71

    May - It went back down from 71 to 60. Mostly in the past 10 days.

    - McD will go down now. The stock is still falling and there's too much bearishness in it

    (don't buy now)

    Although it went up some today (5/27)

    but Predict that McD WILL RISE 18%

    to $79 in the next 6mos to 1 yr.

    S&P call McDonald's a "HOLD"

    Chartmaker says "Sell" & buy later

    & it's ok Overall

    A good buy for the price (P/E) but

    poor in Growth & earnings

    - Reuter's says it's a "neutral performer"

    Johnson and Johnson (JNJ) is going down now.

    - From Dec 09 to May 15 it was flat

    - Now it broke thorough the floor of $63

    and now ranges $59-61

    - Chart maker says it's a "SELL"

    It's STILL going down

    [Lets see if he's right?]

    J&J's charts have flattened out in the last 3 days

    - I will wait and see for whether to invest .

    Chartmaker says it has-

    Poor earnings and Poor growth

    Predicts IT will go down in price 1%

    - $59.03 to $59.79

    Reuter's says it'll be an "underperformer"

    Standard & Poor says it's a "Buy"

    -Based on J&J's

    steady increase in revenue over 10 yrs.

    2000 to 2009

    Tangible book value increased from

    $4.15B in $7.04B .

    Cash flow doubled, revenue doubled.

    It's a "safe bet" in their view.

    JNJ haven't anything "new."

    As the Red Queen said to Alice (in Wondeland)

    "If you're just WALKING ahead

    you're falling behind."

    General Mills (GIS)

    Has a strong balance sheet and

    is a steady earner.

    - S&P calls it a "Strong Buy"

    - Market Edge says it's a "Long buy"

    However it shows little to no growth

    Charmaker says it has NO growth.

    - Reuter's says it's "an underperformer"

    Price hasn't gone down by 0.4%

    Kraft (KFT) +4.5% Increase

    Campbell Soup (CPB) +3.2%

    Chartmaker says GIS = "STRONG SELL" now

    - Expects Price to go down sharply NOW

    But increase 12% in the next 6-12 months

    + From $71.40 Now to $81.20 6-12 mos.

    Charts show sharp fluctuation in the past 3 mos.

    between $69.50 to $75.00.

    It fluctuated almost that much today(May 27)

    The 6 month chart doesn't look bad.

    However, I've learned to trust "Chartmaker"

    His algorithms strongly suggest

    that the stock will go down

    in the next 15 days

    The only thing that I can see is that the MACD

    is below the signal line.

    The 20 day average is above the 50.

    which is a sign of growth.

    Chartmaker doesn't explain why or

    the algorithms in his tools,

    He just gives a prediction.

    I'm looking to see

    if General MIlls goes below the $69.50 floor.

    by June 12.

    If it does Chart-maker makes his case.

    Maybe he knows what he's talking about,

    maybe he doesn't.

    He doesn't pitch his charts as being accurate

    for more than 8-15 days.

    - It went :

  • Report this Comment On May 27, 2010, at 11:21 PM, Glycomix wrote:

    These companies have one thing in common, a strong balance sheet and a strong dividend. Many of these stocks will go down in price in the next two weeks, BUT their stock price is predicted to reach high levels of 8-20% this year. They may not stay there, but they’ll reach it. They also pay a dividend. The algorithm of a Math genius says that their stock price except PG will probably go down by up to 10% in the near future, but it'll eventually return and increase by 10-20% from May 27, 2010 price in the next 12 months, except Johnson and Johnson which is predicted to decrease 1%. (How do they predict these things?.)

    COKE

    According to guru Chart Maker's algorithm Coke (KO) is the only one that is a "Strong buy" now, shows fairly good growth potential long term and is predicted to increase from $51.23 now to $73.46 in the next six to twelve months. During the past six months the price of a share of Coke has been on a declining trend and its investors have experienced a rough time in the share price increasing and decreasing sharply in the past three months. Many sold out and won’t be back.

    Based on a possible 40% increase in share price, if you buy now, Coke is the best buy. However, its fluctuation in share price might test your nerves.

    - S&P calls Coke a "Strong Buy" because its price per share has been artificially depressed,

    - Reuter's considers KO an "under-performer"

    - Market List says "avoid" KO because of the fluctuation in Coke's price.

    NIKE

    Nike (NKE) is considered a sell and buy later by Chart maker. It's price is predicted to increase 8%: $73.90 to $80.04. As an investment, the Chart-maker combination of algorithm and of growth and financial indices suggests that it is a "HOLD" It has good revenue and cash flow but has too much debt and too little growth for the Chart maker guru.

    Standard and Poor considers Nike a "Buy"

    Reuter's considers it an underperformer.

    Market-Edge considers the stock a "long buy" because it's has good financial performance ,has good levels of income and shows little risk of folding.

    Proctor and Gamble and Coca Cola are the only two that chart-makers says, "Buy NOW". Now means within a week. Proctor and Gamble is the best choice for peace of mind. Everyone says it’s a "buy" and its stock price won't vary and get you nervous. Within a year Proctor and Gamble will move from its current price $60 to $70 again.

    Excepting Coke, these are NOT typically considered innovative and have little fundamental growth in their businesses, However, they've proven themselves. They're sure and steady and won't be taken down by a bad economy or by a scare; they've generally doubled their revenues and cash flow in the past 10 years.

    Their stock value may not increase much, but they're predicted to do OK this year. 8-15% increase isn't bad in a year. Their stock price may vary, but they're going to be here for the next several years without question. They will survive and flourish as cash cows. If your objective is a 'dividend' and a possible living on your stocks, these might be good for you.. If you want good growth. The best of these like PG and McDonald's are considered neutral and the others are "under-performers" because they have poor growth.

    It's like the Red Queen said to Alice in "Through the Looking Glass":

    "it takes all the running you can do, to keep in the same place. If you want to get somewhere else, you must run at least twice as fast as that!"

    .

  • Report this Comment On May 27, 2010, at 11:50 PM, Glycomix wrote:

    Hi coolssbags:

    I was just thinking aloud; trying to think though how good these 'dividend' stocks are for myself and my brothers. I am NOT a guru.

    The "Chart-maker" ideas come from "Investview" at http://www.investview.com". You have to pay for access. I didn't know if they'd like my giving away their material, so I hid their name. The "Standard and Poor", "Reuter's" and "Market-Edge" reports are free when you use Scottrade to buy stock. I doubt that their reports are free on the internet. I know that Standard and Poor charges HEFTY fees for their reports.

    Scottrade is $7 a trade and an astonishingly high $20 for options, but they have local offices and they'll talk to you on the phone or in person. They offered to help me change my IRAs to Roth.

    They're the Wal-Mart of investing. They give you what you want but don't advise in the least.

    I'm only beginning to understand the trade-offs that different investing goals require.

    The 'safe' dividend: investor, like my mother, wants a secure income income to fund their retirement.

    It's hard to make enough money to fund your retirement if you work for yourself. It's sometimes easier to work for others and not worry about it. That's where the stock market comes in . As someone recently told me in an investing class. Stocks have provided a 10% increase every year for the past 100 years and have outstripped every other investment class.

    That's what the politicians don't seem to understand. When they attack or con the stock market investor, they directly attack the small businessman and the entrepreneurs' ability to save for retirement. Most people in congress are lawyers, So they should know how this type of retirement works, However, the hubris and arrogance of some of our leaders seems to overcome their common sense.

    They are intelligent, but they think that they know better than true economists.

  • Report this Comment On May 28, 2010, at 11:20 AM, mikecart1 wrote:

    I wish TMF would stop treating Buffet like some God.

  • Report this Comment On May 28, 2010, at 12:38 PM, mobil4 wrote:

    I am totally in accord about investing in stocks that pay a dividend. However, I wont buy a stock that pays less than 8-10%. I don't pay attention to the gurus. I buy and hold, and get the dividends. Throughout the big market decline I held my position and reaped the dividends.My portfolio is now back to what it was before the big fall. Dividends win again.

    Mobil 4

  • Report this Comment On May 28, 2010, at 1:28 PM, SkinnyWallet wrote:

    I'm sure they will... the minute they find a more successful investor.

  • Report this Comment On May 28, 2010, at 2:28 PM, jdlech wrote:

    I was about to say the same thing mobil4. Unless the dividend is equal to or greater than inflation, you may as well not buy it for the dividend at all. Dividends usually reduce company growth to favor a higher and more stable share price. But unless you're beating inflation and taxation, it's not a bargain. It's easy today, but unless your IRA is beating inflation, you're losing value.

  • Report this Comment On June 01, 2010, at 11:06 PM, esmn89 wrote:

    to HIGHNLOW, Buffett doesn't pay dividends because he believes a company should only do so if they cannot take that cash and invest it in a better way than the shareholders can. Since BRK earnings per share is well over $8000 I think its alright for him to keep the cash on behalf of the investors.

  • Report this Comment On June 02, 2010, at 5:10 PM, 11787HOT wrote:

    Pepsi Cola(PEP)is a better buy than Coke.

    Pepsi has more products and has more growth in sales over all. Makes more money than Coke. Thanks to purchases of Frito lay and uniting bottling companies and its dividend.

    its a keeper.

  • Report this Comment On June 04, 2010, at 9:12 PM, philkek wrote:

    Am saying thanks to ALL my fellow fools out there for much brain activity you put on public display at M.F. I've read this article about Buffet and dividends investing with a song of hope in my heart and a hole in my bank account. I also like dividends along with value. Who will be the next Buffet ? Maybe YOU. Your collective hard work on this subject is FREEDOM of the press at work and is so great. Keep up the good humor writing. Thanks to all you moneybags. Fool on.

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