Within the S&P 500 index, only 50 stocks have achieved Dividend Aristocrat status by increasing their dividend payments annually for at least 25 consecutive years. Owning Dividend Aristocrat stocks doesn't guarantee that you'll be free from dividend cuts, but you can give yourself an edge by sticking with these best-of-breed companies.
International Business Machines (IBM +0.66%), the century-old tech giant that has evolved from selling mechanical tabulating machines to be a leader in cloud computing and artificial intelligence, has not yet joined the Dividend Aristocrat club. IBM has paid quarterly dividends without fail since 1916, a record few companies can match. But thanks to turmoil in the early 1990s, requiring dramatic changes from an outsider CEO to save the company, the dividend has only been growing for 22 years.
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In April, the month when IBM typically announces its annual dividend boost, the company will in all likelihood take one more step toward Dividend Aristocrat status. But unlike many other stocks that sport impressive dividend growth streaks, IBM trades at a depressed valuation that makes it one of the best dividend stocks around.
A long history of dividend growth
IBM's dividend was slashed in 1993 amid massive losses, and it remained stagnant for a few years as the company was turned around. By the mid-1990s, with IBM saved from collapse, the dividend began growing once again.
Since then, IBM's dividend has grown at an impressive rate. The per-share dividend has increased by 2,300% over the past 22 years, good for an annualized growth rate of 15.5%. If you invested $10,000 in IBM at the beginning of 1996 and reinvested your dividends, you would have enjoyed an 11% annualized return and currently be receiving $3,600 in dividend payments each year. This result is despite shares of IBM slumping over the past five years.
IBM Dividend data by YCharts.
Dividend safety
IBM's current quarterly dividend is $1.50 per share, which works out to $6.00 annually. IBM recently reported its full-year results -- here's what percentage of earnings and free cash flow went toward the dividend in 2017, based on the current payment:
|
Metric |
2017 Payout Ratio |
|---|---|
|
Non-GAAP (operating) net income |
43.5% |
|
Free cash flow, excluding financing receivables |
42.9% |
Data source: IBM.
Less than half of IBM's earnings and free cash flow were dedicated to the dividend last year. In 2018, IBM expects its operating earnings to be flat, with free cash flow down a bit. Even with a dividend increase this year, these payout ratios will stay at reasonable levels.
It would take a steep decline in earnings for IBM's dividend to be at risk. With the company just starting to grow revenue after a five-year slump, driven by its growth businesses and its latest mainframe system, that looks unlikely.
A discounted price
IBM trades for just 12 times its non-GAAP earnings, compared to a price-to-earnings ratio in the 20s for the S&P 500. The stock has dropped 23% since peaking back in 2013. Meanwhile, the dividend has been rising, pushing the yield up to 3.6%.
That dividend should keep on rising, albeit at a lower-than-historical rate given the lack of earnings growth this year. The good news is that IBM's growth initiatives, which include cloud computing, artificial intelligence, security, and blockchain, are approaching the point where they can fully offset revenue declines in IBM's legacy businesses. Forty-six percent of IBM's revenue in 2017 came from these "strategic imperatives," and this revenue grew by 11%.
These strategic imperative businesses are more profitable than the rest of the business, so earnings growth should pick back up as they grow larger. That will allow IBM to continue to grow its dividend for years to come, reaching Dividend Aristocrat status after a few more annual increases. While investors aren't willing to pay anything more than a beaten-down price for shares of IBM today, I doubt that will remain true for too much longer.
