How Dividends Change the Game for Owners of Merck Stock

The wealth-building power of compound interest will never cease to amaze me. It's a story of patience and attention to detail, where small, short-term differences add up to massive divergence over decades. And in the end, the biggest winners don't always deliver the fattest share-price returns.

Today's case in point is Merck (NYSE: MRK  ) . The pharmaceutical giant's quarterly dividend payout was stuck at $0.38 per share for many years until it started inching up again in 2012. At the same time, Merck shares went on a long upward run that ended up decreasing your dividend yields despite the higher payouts.

MRK Dividend Chart

MRK Dividend data by YCharts.

So far, this looks like a terrible stock for income investors. Merck's dividend yield is shrinking, and even the renewed payout growth remains anemic. Why bother?

Here's why: Merck's dividend was always generous. It doesn't take much dividend growth or rising yields to make a big difference when you're starting from a high base level.

Even now, at the end of the yield-reduction you saw in that last chart, Merck offers the third-richest yield among the 30 dividend-payers of the Dow Jones Industrial Average (DJINDICES: ^DJI  ) . At 3.7%, it's nearly tied for third place with troubled chip titan Intel (NASDAQ: INTC  ) , whose yield is enriched by the past year's 9% share-price slide. Investors are worried about the death of the PC and Intel's limited involvement in the new mobile-computing era.

Merck matches that yield despite a 23% higher share price, which acts as a headwind in this case.

Intel is a relative newcomer to the high-yield game, but Merck has plenty of shareholder-enriching history behind it. With the highly anticipated Baby Boomer retirement wave on the horizon, I wouldn't be surprised to see Merck juicing its payouts with rising cash flows in coming years.

Now, back to the long-term patience we talked about earlier. It may be a wise move to lock in your base price today so you can enjoy the potential dividend increases to their full potential later on. To take a historical example, you could have bought Merck shares for $16.34 apiece 10 years ago. That was good for a 3.4% yield at the time -- roughly comparable to today's 3.7% dividend return.

Just sitting on your shares and collecting dividend checks would have given you $15.26 in cash since then -- nearly enough to cover the cost of your original shares. The effective yield on your original shares would be a stellar 10.5% right now.

But wait -- there's more!

Reinvesting each payment into more Merck stock would have turned a -23% straight-up share-price return into a 24% total return. Stretch your investment period back another 10 years, and the DRIP payments would have nearly tripled your returns on a Dow-crushing 400% tour de force.

MRK Chart

MRK data by YCharts.

Merck is a dividend powerhouse in disguise, even without a generous payout-boosting program. Look ahead to the changing health-care market in the next 10 or 20 years, and Merck stock could be a wealth generator to build your retirement portfolio around.

This titan of the pharmaceutical industry stumbled into 2013 and continues to battle patent expirations and pipeline problems. Is Merck still a solid dividend play, or should investors be looking elsewhere? In a new premium research report on Merck, The Fool tackles all of the company's moving parts, its major market opportunities, and reasons both to buy and to sell. To find out more, click here to claim your copy today.


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