3 Reasons Why Garmin Ltd. Is Not a Top Dividend Stock

Source: Garmin.

For investors seeking top dividend stocks, a demonstrated commitment to growing payouts is an important first step. At first glance, GPS pioneer Garmin (GRMN 1.06%) appears to fit the bill, with annual payouts that have climbed almost eightfold in the past decade and given the company an almost 4% dividend yield. Moreover, the stock has performed well this year, as Garmin looks for ways to use its expertise in higher-margin devices that can survive the spread of GPS-enabled mobile devices that threatened its core business.

Marine course-tracking. Source: Garmin.

Purely from a dividend perspective, though, Garmin still has some progress to make before investors can reasonably call it a top dividend stock. Let's take a look at three areas where Garmin needs improvement in order to reach the upper echelon of the dividend-stock ranks.

1. Garmin faces a big threat to its bread-and-butter automotive and personal navigation businesses.
Not so long ago, those who wanted to know exactly where they were had to invest in specialized devices that largely served only that function. Over the years, Garmin invested in mapping technology in order to produce its navigational systems, providing turn-by-turn directions for those trying to get from place to place, and automakers embraced Garmin and some of its closest rivals to obtain that must-have technology.

More recently, though, smartphones and other all-purpose mobile devices have made huge advances in their GPS technology, making it unnecessary for consumers to have a separate dedicated Garmin device to get basic directions. Garmin has done a good job managing the decay rate of this business, as it still made up almost half of the company's net revenue and about 40% of its gross profit in its most recent quarter. Yet with the company seeing annual drops of 15% to 20% for the navigation segment, Garmin clearly can't count on this cash cow's important contribution to free cash flow over the long run.

2. Garmin's fitness wearables have heavy and increasing competition.
In order to make up for the decline in its auto business, Garmin has gravitated toward more specialized applications for its GPS devices. One hot area has been in the fitness arena, where GPS-enabled running, cycling, and swimming devices give athletes the ability to track not only where they are but important metrics like heart rate, pace, and step distances. In its most recent quarter, Garmin saw sales of its fitness-watch lines, including the popular Forerunner series as well as newer models like the Fenix 2, grow almost 80% compared to year-ago levels.

Garmin Forerunner 620. Source: Garmin.

Yet wearables have become a high-profile area in which rising competition could again lead to growth destruction for Garmin. The Apple (AAPL 0.64%) Watch will have a built-in heart-rate monitor, and more-integrated apps could end up providing a superior customer experience compared to Garmin's more limited mobile ecosystem. Competing smartwatches from Samsung, Sony, and other makers are also clawing at the fitness space to gain traction, and that will force Garmin to up its game with its own offerings in order to hold its market share.

3. Garmin will increasingly rely on its highest-end applications.
Even as the popular automotive segment has lost ground, Garmin continues to have a strong position in more specialized areas where there's much less competition. In particular, as new aircraft models increasingly move to glass cockpits with electronic full-color displays rather than old-style gauges and dials, Garmin has worked hard with aircraft manufacturers to gain certification for its devices in popular planes. Similarly, in the marine segment, Garmin has a strong presence, given the importance of having the latest information available for charting courses and avoiding navigational obstacles.

Source: Garmin.

The benefit of aviation and marine is that Garmin doesn't have to worry as much about price sensitivity, as buying an airplane or a mid- to large-sized ship already involves enormous investments of money. Tapping these sources is important to Garmin's future, but the real question is whether it can produce enough growth to keep Garmin's dividend climbing.

Garmin has managed to keep shareholders happy thus far with its dividend payouts over the past 11 years. Yet as the pace of dividend growth slows, Garmin needs to prove it can find new areas of potential rising sales in order to keep profits climbing and drive further dividend increases in the future.