Intel (INTC 1.77%) has been a much stronger investment than IBM (IBM -8.25%) over the past decade. Intel's stock rallied roughly 180%, buoyed by steady sales of its CPUs for PCs and data centers. At the same time, IBM's stock dipped nearly 10%, as the company struggled to offset the slowdown of its legacy businesses with its higher-growth cloud-based businesses.
Intel might still seem like the stronger overall investment, while IBM's forward dividend yield of 5.5% -- which is much higher than Intel's 2.2% yield -- might resemble a high-yield trap. Yet past performance never guarantees future gains, and a fresh look at both tech giants reveals that IBM might actually be a better dividend stock.
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Have the tables finally turned?
Intel is traditionally considered a "best in breed" chipmaker, since it usually produces the world's fastest x86 CPUs for PCs and servers.
However, the past few years have been rough. Four years ago, Intel abandoned its two-year "tick-tock" cycle, which produced smaller chips with each "tick" and upgraded the processors at the same node with each "tock," due to the challenges of producing ever-smaller chips.
By 2018, a difficult ramp from 14nm to 10nm chips resulted in a CPU shortage that frustrated its customers and left it exposed to its rival AMD (AMD 1.33%) -- which launched new CPUs offering comparable performance as Intel's chips at much lower prices. Intel still hasn't resolved that chip shortage yet, and the promotion of CFO Bob Swan as its new CEO in 2018 (after Brian Krzanich's abrupt exit) didn't inspire much confidence in the chipmaker's management.
Image source: Getty Images.
Meanwhile, IBM made two bold decisions over the past year. First, it acquired open source software giant Red Hat for $34 billion. Second, it promoted Arvind Krishna, its cloud and cognitive software chief, as its new CEO.
Krishna claims IBM will undergo "two transformational journeys" in the cloud and artificial intelligence (AI) markets under his watch, and its development of new services with Red Hat would help win the "architectural battle" for the hybrid cloud market. Krishna also plans to focus on "better aligning" IBM's portfolio to those markets with investments, acquisitions, and divestments of noncore businesses. If Krishna achieves those goals, IBM could finally generate fresh revenue growth again with a streamlined business.
Intel's stock faces tough near-term headwinds, but IBM could attract more bulls if Krishna gradually slims down the company, focuses on higher-growth markets, and leans on Red Hat to boost its revenues.
But what about the dividends?
In addition to paying a higher dividend yield than Intel, IBM is also a Dividend Aristocrat -- a member of the S&P 500 that has raised its dividend annually for at least 25 straight years. IBM joined that elite group this April, while Intel has raised its dividend annually only since 2015.
Over the past 12 months, IBM spent just 50% of its free cash flow (FCF) on its dividend. Intel spent 31% of its FCF on its dividend during the same period. Both companies clearly have plenty of room to raise their dividends, but IBM's longer streak of dividend hikes makes it a more reliable dividend growth stock.
Intel generated higher FCF than IBM over the past decade, but that growth could stall as Intel ramps up its spending to address its chip shortage, fend off AMD in the x86 CPU market, and counter ARM-based chipmakers in both PCs and servers. Meanwhile, IBM's FCF growth should stabilize as it absorbs Red Hat, sells off its weaker businesses, and expands its higher-growth cloud-based businesses.
Source: YCharts
The road ahead
Intel trades at 13 times forward earnings, while IBM has a slightly lower forward P/E of 11. Those low multiples indicate investors aren't willing to pay significant premiums for either stock right now.
Nonetheless, the situation should improve more quickly for IBM, which could gain ground if it streamlines its business amid waning macro headwinds. Intel, on the other hand, could continue struggling with execution issues.
Intel's not a bad long-term investment -- but the next decade could finally be IBM's turn to shine. If that happens, IBM would not only be the better dividend stock with a higher yield and longer streak of annual hikes, but it would also become the better all-around tech stock for long-term investors.
