There are a lot of great dividend-paying stocks out there, but I hate to break it to you -- Amazon (NASDAQ:AMZN) isn't one of them. But income-seeking investors shouldn't just dismiss the idea of investing in Amazon for that reason.
Instead, investors should understand why the company doesn't pay a dividend, what it does with its cash instead, how good those uses of cash really are, and whether there's room for Amazon in a largely dividend-paying portfolio of stocks.
Amazon has never paid a dividend since it went public in 1997. You might think of that as not being shareholder-friendly, but a company's decision to pay a dividend should come down to whether it has more productive alternative uses for its cash.
For example, if a restaurant can open hundreds of additional new restaurant locations and earn very strong financial returns on those investments, that company should absolutely prioritize that use of cash over paying a dividend. After all, shareholders should earn well more than a dollar for every dollar the company retains and reinvests at those high returns.
If the individual shareholders can invest that cash for significantly higher returns than what the additional restaurants would earn, then perhaps those shareholders would prefer a dividend from the company. But that's not usually the case.
What Amazon does with its cash
Instead of paying a dividend, Amazon is constantly reinvesting in its business. It's opening additional fulfillment centers; investing in more video content for Amazon Prime Video; building new data centers for Amazon Web Services; hiring hundreds of thousands of software engineers and fulfillment center personnel; opening new Amazon Go Grocery and Fresh grocery stores; and more.
The company is also investing in research and development for things like drone delivery technology, artificial intelligence related to the Amazon Echo and Alexa devices, Amazon Go "just walk out" cashierless retail technology, autonomous car technology with its recent acquisition of Zoox, and countless other areas, many of which we don't even know about yet.
Amazon's approach has led to amazing returns
As investors, it's important to evaluate the effectiveness of a company's decisions related to its uses of cash. This is especially true of Foolish long-term investors, because the longer we own a company, the more important management's capital allocation decisions become.
All the earnings and cash flow a company generates over several years may not accrue to shareholders at all if it is squandered on poor acquisitions. Or, a company can reinvest all of its cash flow at high returns and make the company meaningfully more valuable in the long run.
So how has Amazon done? Its annual revenue has grown from $148 million in 1997, its first year as a public company, to $281 billion last year. That's an absolutely absurd 1,898-fold increase in net sales over 22 years. And all of that growth was achieved without raising any equity capital since the IPO.
Instead of raising additional equity to reinvest, the company has generated cash from its established, profitable "cash cow" businesses and used virtually all of it to reinvest in growth, extensive research and development, the occasional acquisition, and the various new ventures it has started over the years. That's how a company grows net sales 1,898 times over 22 years -- and how it grows its stock price by more than 2,000 times since its IPO.
Dividend-seeking investors should understand Amazon has a strong track record of earning far more than a dollar on every dollar of shareholder capital it retains in its business. As long as those reinvestment opportunities exist, investors should gladly prefer to have the company put that cash to work rather than pay a dividend.
In addition, investors who must have dividends can always create their own dividends by selling a tiny amount of their stock every so often. Investors who go that route will probably need to have a brokerage account that allows the trading of fractional shares as opposed to whole shares, considering one share of Amazon goes for about $3,100 these days.
In any case, investors looking for dividend-paying companies should consider making an exception for Amazon, since it makes its shareholders so much money by reinvesting its cash.