Dividends are a key feature of my investment approach. They not only provide a return on my investment (without the need to sell my stock holdings), but they also give me an indication of when it might be a good time to step in and buy a new stock or add to an existing position.
A tough turn
There are a lot of reasons to dislike technology giant IBM right now. The most notable is the company's 21 consecutive quarters of declining revenue. That's bad, but step back and look at the bigger picture. IBM has been shifting its business from older, lower margin operations like building computers to newer, higher margin businesses like the cloud, security, and artificial intelligence. So it's going in the right direction, it's just taking a longer time than investors would like for the new businesses to ramp up.
But here's the thing: IBM is one of the largest technology companies in the world. It takes time to turn a giant ship. Then there's the important fact that IBM is over 100 years old. It started out making things like clocks and scales, transitioned to tabulating machines, then to computers and mainframes, then pivoted toward services, and it is now shifting with the times again. Making big changes like this isn't new for IBM.
Investor impatience with the process, though, could be a big opportunity for dividend lovers. IBM currently yields more than 4%. That's at the high end of the company's historical dividend range -- the five year average yield is around 2.7%. It's also cheap relative to its own history when you look at price to earnings, price to book value, price to sales, and price to cash flow. It's relatively cheap on most of those metrics compared to other technology companies as well.
The best part of this story, however, is that despite falling revenues IBM's earnings have remained relatively strong. To put some numbers on that, IBM's top line has fallen 25% since a peak in 2011, but earnings in 2016, powered by stock buybacks and solid margins, were only 5% lower than they were in 2011. Cash flow, which is where dividends are paid from, is more than enough to cover the dividend, as Motley Fool's Keith Noonan recently highlighted. It's been a tough turn, but if you can stomach the uncertainty, IBM looks like it's on sale today.
We need this stuff
The next big name that I think is worth a deep dive is integrated oil and natural gas giant ExxonMobil. Let's get the bad news out of the way right up front: carbon fuels are dirty and are going to be replaced. But that's not likely to happen for a very long time because there's too much infrastructure supporting oil and gas. They power the world, from cars to planes; they are key industrial feedstocks for chemicals and plastics; and they are easy, and relatively safe to store and move. Oil and natural gas will remain important for decades.
Today, however, investors are down on energy companies like Exxon. Part of that is the dirty fuel thing, and part of it is the fact that oil and natural gas prices are relatively low today. They're commodities, so there's nothing Exxon can do about their prices. But it can make sure its broadly diversified business is financially strong enough to survive commodity downturns, which is where the company shines.
For example, even after one of the deepest oil downturns in recent history, Exxon's long-term debt remains at less than 15% of its capital structure. Yes, debt has increased from roughly $7 billion at the start of 2014, before oil prices plummeted, to around $25 billion at the end of the second quarter. But that's exactly what you want Exxon to do -- use its financial strength to keep powering through downturns.
The next step in all of this is to start paying debt down when the energy markets stabilize. On that front, Exxon reduced long-term debt by nearly 15% through the first six months of 2017. Throughout the downturn, meanwhile, it's continued to reward investors with annual dividend increases. The streak is up to 35 consecutive years of annual dividend hikes. That's impressive for any company, let alone one that sells a commodity prone to extreme price swings.
The yield is around 4% today. Like IBM, that's toward the high end of Exxon's historical yield range. This is a company built to last in a volatile industry that's currently in a downturn. And since oil and natural gas aren't likely to go away overnight, now is a good time to take a closer look at Exxon and collect that big yield.
Harder than it looks
I recognize that buying IBM and Exxon today isn't an easy call; they are both facing big challenges. But that's exactly why they are offering investors juicy yields of around 4%. If you believe these companies are up to the challenges they face, now could be a great time to add them to your portfolio -- their yields are not only high relative to the market, but also relative to their own histories.
If you love dividends like I do, you know that opportunities like this don't come around all that often.