Dividend stocks are always popular with investors. What could be better than getting a quarterly check just for holding a stock? While many investors tend to gauge these stocks primarily by the size of their yields, there are other factors to consider. Long-term investors will want to pick stocks with substantial future growth potential and ones that are able to continue funding dividend increases. After all, the true divided yield you get is based on the price you paid, not the current price of the stock.
We asked four of our top contributors to look into their crystal balls and predict what they think will be the best dividend stock to have in your portfolio 10 years from now. They chose American Water Works (NYSE: AWK), Cisco Systems (NASDAQ:CSCO), IBM (NYSE:IBM), and Starbucks (NASDAQ:SBUX). Here's why:
The industry leader that provides the world’s most essential product
Beth McKenna (American Water Works): American Water Works, whose stock currently sports a dividend yield of 2.1%, provides a product that investors can count on 100% as still being essential in 2025 and beyond: fresh water. It also provides the critical service of collecting and treating wastewater.
American Water is the largest publicly owned water and wastewater utility in the United States. It operates in 47 U.S. states and one Canadian province, and operates as a regulated utility in 16 of these states. The company has a significant competitive advantage in its core regulated business -- which accounts for more than 90% of its total earnings – thanks to its industry-leading size and geographic diversity. Its size provides it with more resources than smaller peers to make acquisitions in the fragmented industry, while its wider footprint means it has more opportunities to expand near where it already operates, often resulting in operating cost savings.
American Water’s market-based businesses provide the opportunity for additional growth. These businesses include providing water and wastewater services for military bases and water to natural gas exploration and production companies in the Marcellus Appalachian Basin.
The company’s growth potential – it expects to grow earnings per share at an average annual rate of 7% to 10% through 2020 – combined with its conservative dividend policy means that its dividend is likely to keep increasing. American Water Works has increased its dividend every year since it went public in 2008.
This networking leader will benefit from one of tech's biggest trends
Keith Noonan (Cisco Systems): It only has a five-year history as a dividend-paying stock, but networking giant Cisco deserves a spot on income investors’ shortlists. The company initiated its first payout in 2011, at a time when the company (and its shares) were in the midst of a rough patch, and has raised its payout 333% in the subsequent years. It now yields 3.4%, which is well above the average 2.15% yield of dividend-paying S&P 500 stocks, and the annualized expense of distributing its $0.26 quarterly dividend represents just 42% of the company's $12.42 billion trailing-twelve-month free cash flow.
Growth has been slow in recent years as competitors including Huawei and Hewlett-Packard have put pressure on the company’s core router and switching business, but Cisco has promising avenues in its security, collaboration, and Internet of Things (IoT) businesses. IoT in particular looks to be a big driver over the next decade thanks to an explosion of machine-to-machine communications and the company's dominant position in networking. The company sees the number of machine-to-machine communications growing 2.5-fold from 2015 to 2020 and has opportunities to tailor its hardware to the connectivity boom, offer security services and certification, and drive business with its connectivity and analytics platform.
With a forward price-to-earnings ratio of roughly 12.5, the stock is priced well below the networking industry average of roughly 25, and also looks cheap in the context of the S&P 500's forward earnings multiple of 18. An inexpensive valuation, emerging growth segments, and a strong dividend profile point to Cisco being a good stock to buy and hold for the next decade.
An aging tech giant transforms for the 21st century
Tim Brugger (IBM): When IBM began its transformation to focus on new, fast-growing markets including the cloud, Internet of Things, data security, and machine learning-driven analytics -- an initiative it coined "strategic imperatives" -- the plan was to reach an annual revenue run-rate of 40% of total revenue by 2018.That was a lofty goal at the time, particularly because IBM was still entrenched in its legacy hardware and enterprise markets.
Fast-forward to its recently released third-quarter earnings results, and it becomes clear why IBM is included on a list of best dividend stocks of 2025.
Led by its annual cloud revenue run-rate of a whopping $12.7 billion, $7.5 billion of which came from software-as-a-service (SaaS) sales, IBM has reached its strategic imperatives target a year ahead of schedule. That's impressive in and of itself, but better still is how the company was able to accomplish that while paying one of the industry's strongest dividends, with a yield of 3.7%. IBM understood early on that the largest opportunity in the cloud lies with data. Hosting information in is nice, but IBM's comprehensive suite of cloud software-as-a-service (SaaS) and analytic offerings are where the revenue is at. According to a recent study, more than two-thirds of public cloud revenue will be derived from SaaS solutions over the next three years.
The sales projections for the cloud in general, and SaaS in particular, are staggering, and IBM is positioned to lead the charge. Toss in its fantastic dividend, and by the time 2025 rolls around, IBM will have rewarded patient growth and income investors handsomely.
Coffee chain has opportunities for Trenta-sized growth
Jeremy Bowman: (Starbucks) There aren't a lot of companies that combine the brand power, growth potential, and profitability of Starbucks. The coffee giant is miles ahead of No. 2 player Dunkin Brands, and has an unmatched global presence in coffee retail. In the fiscal year just ended, revenue increased 11% to $21.3 billion, driving a 17% increase in earnings per share. For fiscal 2017, it sees EPS growth of about 15% and plans to open up a whopping 2100 new stores.
Its long-term growth path looks strong as well. On its recent earnings call, CEO Howard Schultz said Shanghai now has more Starbucks stores than any other city in the world, and that he thought China would one day have more stores than the U.S. The company is also bringing in new revenue through consumer products such as K-cups, harnessing technology to speed up service through Mobile Order & Pay, and diversifying the brand with its new Reserve cafes, a higher-end coffee experience.
On the dividend front, Starbucks looks strong as well. The company just hiked its quarterly payout 25% to $0.25 a quarter, offering a 1.9% yield. Since it first started paying a $0.05 quarterly dividend in 2010, the coffee chain has raised it by 23% or more each year, but it still pays less than half of its profits out in dividends, meaning there's plenty of room to increase it. Even if Starbucks' dividend growth rate slows to an average of 15% over the next 10 years, pacing with its EPS forecast for next year, it will still grow by more than four times to over $1 a quarter by 2026. That would be equivalent to an 8% yield at today's share price. If it can maintain a dividend growth rate of 20%, its yield would be more than 12%.
As the company has shown repeatedly, it has the long-term opportunity and the brand power to deliver that kind of growth over the next decade.
Beth McKenna has no position in any stocks mentioned. Jeremy Bowman owns shares of Starbucks. Keith Noonan has no position in any stocks mentioned. Tim Brugger has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Starbucks. The Motley Fool recommends Cisco Systems. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.