Not so long ago, you would have been surprised to see most tech stocks pay any dividend at all. Yet along with the massive increase in popularity of dividends, even companies once seen as high-growth candidates have bitten the bullet and started making quarterly distributions to shareholders.
The big question, though, is whether tech companies will keep making big payouts. To get some needed background to answer that question, let's first turn to the history of tech stocks and dividends.
The times, they are a-changin'
There used to be a simple rule for investors to follow: If you wanted dividends, you stuck with stocks that traded on the New York Stock Exchange, because that's where the established, stable companies that made the biggest payouts were listed. If you wanted growth, you'd go to the Nasdaq, because you'd find much better growth prospects there, especially in the technology sector.
That rule held true quite well early in the tech boom of the 1990s, when the Nasdaq attracted most of the best and brightest new tech companies. It also held reasonably true after the tech bust, when most technology companies found themselves with little or no free cash to distribute even if they'd wanted to pay dividends.
Yet as tech companies matured, they started looking more closely at their dividend policies. Intel (NASDAQ: INTC ) began ramping up its dividend seriously in 2005, when it made the second consecutive doubling of its payout to bring its dividend yield close to 1.5%. Microsoft (NASDAQ: MSFT ) started paying a modest dividend of just over 1% back in 2003, with its massive $3 per share special dividend attracting far more attention than its regular payout.
The tech dividend revolution
By now, just about every major tech company has come around to the idea that it needs to pay dividends. Even long holdout Apple (NASDAQ: AAPL ) , which paid a dividend for years from 1987 to 1995 before eliminating the payout, has restored its distributions to shareholders with a vengeance. Fellow big techs Cisco Systems (NASDAQ: CSCO ) and Oracle (NYSE: ORCL ) have also initiated dividend payments in recent years.
Add all that together, and as a recent Wall Street Journal article observed, the technology sector now pays out more in dividends than any other sector of the market. In fact, dividends have become so ingrained in tech culture that you can now buy an exchange-traded fund that focuses on dividend stocks. The First Trust Nasdaq Technology Dividend ETF yields more than 2%.
Good or bad?
Yet rather than celebrating high dividends, many investors worry about the implications the moves have for their companies' futures. Having moved beyond the stage at which they need every bit of spare available cash to plow back into their businesses, tech dividend payers now have much more free cash flow than they have viable investment opportunities. Given how low interest rates are and therefore how low the return-on-capital hurdles remain for companies in assessing long-term investment opportunities, failing to come up with any better use for cash than returning it to shareholders is a bearish sign for some.
Another challenge in assessing dividends among tech stocks is that so few of them have lengthy histories with which to evaluate how likely they are to cut or eliminate payouts in the future. Apple's experience shows that just because a company starts out paying a dividend doesn't mean it has to continue indefinitely, and with doubts about the immediate future of the global economy, the possibility of dividend cuts is definitely on investors' minds.
What matters is total return
The key to unraveling this Gordian knot is to remember that as investors, you're most concerned with total return, wherever it comes from. If a company's dividend payouts don't get in the way of its own growth, then they shouldn't hurt your overall return and in fact may improve it. But if draining cash deprives a company of its lifeblood of necessary capital, then it could be the worst thing a company ever does. If you succeed in distinguishing between the two possibilities, you should then know how sustainable the dividend is -- and more broadly, how long the dividend party can truly last.
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