Seagate's (NASDAQ:STX) stock recently tumbled after the hard drive maker's fourth-quarter numbers missed Wall Street's expectations. Its revenue rose 6% year over year to $2.52 billion, but missed estimates by $100 million. Its adjusted net income increased 17% to $311 million, or $1.20 per share, but also missed expectations by a dime.

Seagate's revenue has risen for two straight quarters, but the company expects its first-quarter revenue to decline 11% annually at the midpoint, missing the consensus estimate for roughly flat growth. It expects its adjusted EPS to decline 17%, which also would miss expectations for 23% growth.

The earnings miss and weak guidance were disappointing, but Seagate maintained its quarterly dividend of $0.65 per share -- which equals an impressive forward yield of 5.9%. I'll explain why that dividend remains secure, and how it could set a floor under Seagate's stock until its business recovers.

Four open HDDs placed on other closed HDDs.

Image source: Getty Images.

How safe is Seagate's dividend?

Seagate raised its dividend for first time in four years last November. At the time, then-CEO Steve Luczo said the dividend hike reflected management's "confidence in Seagate's ability" to "generate sustainable operating cash flow and maintain a strong balance sheet."

Seagate's free cash flow dipped from $1.2 billion in fiscal 2019 to $1.1 billion in fiscal 2020, which ended on July 3. But its FCF easily covered the $673 million in dividends the company paid throughout the year -- which gives it a sustainable cash dividend payout ratio of 61%.

Seagate also repurchased $850 million in shares for the full year, which reduced its diluted-share count by 7%. In total, Seagate returned over 100% of its FCF to shareholders via dividends and buybacks.

That ratio is higher than Seagate's long-term commitment to returning "at least 50%" of its FCF to shareholders, but it was temporarily inflated by its cyclical slowdown in hard-drive sales throughout fiscal 2019. If Seagate's core business recovers, that ratio should decline to safer levels. If that recovery takes longer than expected, Seagate could reduce or suspend its buybacks -- as many other companies have recently done -- to protect its dividend.

But when will Seagate's business recover?

Unlike its rival Western Digital (NASDAQ:WDC), which generates roughly half its revenue from flash-based memory chips and solid-state drives (SSDs), Seagate generates most of its revenue from traditional platter-based hard disk drives (HDDs).

HDDs are bigger, slower, less power-efficient, and more prone to damage than SSDs, but they're significantly cheaper. Instead of competing against SSD makers, Seagate pivoted away from the lower-capacity consumer market and focused on higher-capacity HDDs for enterprise and data center customers -- which often prioritize prices over raw speed.

Seagate's revenue declined annually for five straight quarters, due to soft demand from PC makers and data center customers, before turning positive with year-over-year expansions in gross margin over the past two quarters:

Period

Q4 2019

Q1 2020

Q2 2020

Q3 2020

Q4 2020

Revenue growth (YOY)

(16%)

(14%)

(1%)

18%

6%

Gross margin*

27.1%

26.7%

28.7%

28%

27.3%

Data source: Company quarterly reports. YOY = Year over year. *Non-GAAP.

Seagate seemingly passed a cyclical trough in the third quarter of 2020, but its slowdown in the fourth quarter and weak guidance for the first quarter indicate its troubles aren't over yet.

Seagate attributed its slowdown mainly to the COVID-19 crisis, which throttled its sales to the video and image application, mission-critical, and consumer markets and offset its "robust" growth in the cloud and data center markets. Higher logistics, safety, and plant-underutilization expenses also weighed down its bottom line.

During the conference call, CFO Gianluca Romano said Seagate still saw "healthy cloud data center demand over the long term," but wasn't "planning for a broader market demand to improve this quarter." So instead of trying to predict the next growth cycle, management will focus on "prudent" spending over the next few quarters as it maintains its cash flow growth and restructures its long-term debt to reduce interest expenses.

Romano noted Seagate's "robust balance sheet and solid free cash flow generation" put it in a "healthy position to navigate the current market, while continuing to capitalize on the attractive secular growth opportunities that will play out longer term."

Still an undervalued dividend stock

Seagate didn't offer any guidance for the full year, but analysts expect its revenue and earnings to dip 5% and 8%, respectively, before rebounding in fiscal 2022. Those growth rates are tepid, but Seagate's forward P/E of 8 and its near-6% dividend yield should limit its downside potential. Investors who ignore the near-term noise and buy the stock today could be well rewarded for their patience over the next few years.