Sorry, but Tech Investors Should Love Higher Dividends

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Bloomberg published an interesting article earlier this week. "Technology Stocks With Record Dividends Send Bearish Signal" was the headline.

The theory was simple. Tech companies have been boosting their dividends lately. That could mean trouble for investors -- a sign that management can't invest in high-growth projects anymore and has nothing useful to do with cash other than give it to shareholders. "The signal that they are sending to the shareholders is, 'look, growth prospects just aren't there," it quoted one money manager as saying.

Logically, this makes sense. But in practice, I think it's totally wrong. Tech investors should love that these companies are cranking up their dividends.

The idea that big tech companies have foregone dividends so they can save cash to invest in growth just isn't right. Most have been cash cows for well over a decade. And a huge portion of their cash -- for some companies, literally all of it -- has gone toward one thing: share buybacks.

How have the returns on those buybacks been? Utterly devastating.

I looked at five of the largest tech companies' buybacks from 2004-2011. Comparing buybacks to current share prices shows how much each company has gained or lost on the investments. The results should make you want to cry:


Share Repurchases, 2004-2011 (millions)

Current Market Value of Shares Repurchased (millions)


Cisco $63,941 $56,373 ($7,568)
Intel (Nasdaq: INTC  ) $49,881 $51,237 $1,355
Dell (Nasdaq: DELL  ) $24,864 $10,532 ($14,331)
Hewlett-Packard (NYSE: HPQ  ) $57,800 $28,103 ($29,697)
Microsoft (Nasdaq: MSFT  ) $100,958 $114,225 $13,267
Total $297,445 $260,471 ($36,974)

Source: Company filings, author's calculations.

By "loss," I mean the difference between current share price and the price paid for shares when they were repurchased. These losses don't show up on income statements, but they erode shareholder wealth all the same.

Since 2004, these five companies have generated a combined buyback loss of $37 billion. That's about equal to the market cap of Ford. HP's buyback losses since 2004 equal 85% of its current market value. Microsoft and Intel repurchased shares at an average cost below current share prices, but not by much. The return both companies earned on share repurchases since 2004 have severely lagged the S&P 500.

Oh, how terrible it would be if these companies had been paying dividends instead.

I left one company off the list: Apple (Nasdaq: AAPL  ) . It just recently began paying a dividend and repurchasing shares, but its record of cash management is hardly clean. Apple's growth and profitability have ballooned its hoard of cash and cash equivalents to more than $100 billion. That cash earned an average return of 0.77% last year. Factor in inflation, and Apple's bank account is losing purchasing power to the tune of about $2 billion a year. That's more than the company earned in total profit as recently as 2006.

Oh, how terrible it would be if it had been paying a dividend instead.

Investors Cliff Asness and Rob Arnott have actually showed that, on average, future earnings growth is the fastest when the dividend payout ratio is the highest, and vice versa. In a 2003 paper titled "Surprise! Higher Dividends = Higher Earnings Growth," they wrote: "Unlike optimistic new-paradigm advocates, we found that low payout ratios (high retention rates) historically precede low earnings growth." Companies that withhold earnings in the name of growth have an unmistakable propensity to squander it on poor investments -- like overpriced buybacks.

Bloomberg's article ends with a warning from a money manager: "You can have technology companies that are going to be more like utilities," he said.

Worth noting: Utility stocks are some of the best-performing assets of the last half-century. One reason? Dividends.

Fool contributor Morgan Housel owns shares of Microsoft. Follow him on Twitter @TMFHousel. The Motley Fool owns shares of Microsoft, Apple, and Intel. Motley Fool newsletter services have recommended buying shares of Intel, Microsoft, and Apple. Motley Fool newsletter services have recommended creating a synthetic covered call position in Microsoft and a bull call spread position in Apple. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.

Read/Post Comments (6) | Recommend This Article (11)

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  • Report this Comment On September 12, 2012, at 2:36 PM, cbglobal wrote:

    Stock buy backs do work. Do the math.

    Company A and B are identical and have the same $3.00 per share in earnings.

    Over the next year Co. A buys back 10% of their stock.

    Next year, they both earn the same profit again in dollars. But Company A reports that as $3.33 per share, and B reports $3.00 again. All other things being equal A will have a higher stock price because of the higher earnings per share.

  • Report this Comment On September 12, 2012, at 2:40 PM, TMFMorgan wrote:

    ^ But shares crash, and then company B has more cash around to buyback more shares than company did back when they were expensive. Now it's better off. Then company A has to issue a bunch of stock at low prices because it spent so much on buybacks years ago when shares were high. Now investors are diluted. This is how the real world works.

    HP spent an absolute fortune buying back stock at prices 2x-3x higher than current prices. Dell was gobbling up its stock at 50x earnings. These were a subsidy to sellers at the expense of long-term shareholders.

  • Report this Comment On September 12, 2012, at 3:05 PM, Matthewuwf wrote:

    I believe the premise is that most companies are prone to share repurchases at the most inopportune times. Also your example doesn't say if instead of buying back shares company B uses that cash flow to pay a dividend versus the buyback.

  • Report this Comment On September 12, 2012, at 5:15 PM, TMFGemHunter wrote:

    I'm not as anti-share buyback as you are. However, most corporate boards are totally useless, and buy high. When the company gets into trouble, they are forced to cancel, rather than doubling down. The advantage of the dividend is that I as shareholder can decide whether to reinvest in the company, or whether shares are overvalued. This is pretty useful since the boards of most companies have shown no recognition of intrinsic value.

    In any case, I think the cash hoarders are the better example. Apple and Cisco are obvious ones. I've also called on Nvidia to buy back shares, but I would be perfectly happy to get a dividend instead. With 40% of its market cap in cash, it's not clear that the company has any capital allocation policy. I was not particularly amused when the CEO recently said that the company's plan for its cash was to make a lot more of it...

  • Report this Comment On September 12, 2012, at 6:58 PM, tkell31 wrote:

    How does paying a dividend impact what a company earns on it's reserves? Is the point supposed to be that if they pay everything out in dividends they wont "lose" money to inflation?

    As for MFST and INTC I sincerely doubt a couple more pennies in dividends would off set what having billions of more shares outstanding would do to the price. Ironically fewer shares means less to pay out in dividends as % of the eps, but allowing for a higher dividend payment per share, but I'm guessing the author cant figure stuff like that out.

    Dell, HP and CSCO arent failing because of share buybacks, they are failing because their businesses are old and getting punished by innovation.

  • Report this Comment On September 12, 2012, at 7:11 PM, TMFMorgan wrote:

    <<How does paying a dividend impact what a company earns on it's reserves?>>

    After paying it out to shareholders, they could take a vacation, use it for rent, invest it in something else, etc. If a company can't do anything with cash other than invest it in something well below the rate of inflation, they should give it back to shareholders. I'm all for having a big safety net and planning for future expansion, but with Apple with talking a tenth of a trillion dollars. It's beyond reason.

    <<Dell, HP and CSCO arent failing because of share buybacks, they are failing because their businesses are old and getting punished by innovation.>>

    Agreed about business model, but that's separate from buybacks in past years. A company can do well but still blow money on overpriced buybacks. HP and Dell are suffering from both.

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