Great dividend stocks can be the gems in a portfolio and provide cash flow for decades of an investor's life. But finding dividend stocks that are built to last may not be as easy as it seems. Industries are changing rapidly, and companies we once considered dividend aristocrats (like big oil and manufacturing stocks) are struggling to generate the earnings and cash flow they once did.
There are still great dividend stocks out there today, they just may not pay the high yields investors have been used to from dividend stocks. But that doesn't mean picks like Apple (AAPL +1.50%), Microsoft (MSFT 0.63%), and Target (TGT +0.68%) aren't some of the best dividend stocks on the market.
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The cash flow machine
We can marvel at Apple's products like the iPhone, iPad, AirPods, and Apple Watch or admire how it's built a massive services business out of almost nothing. But at the end of the day those innovations are what drives the company's revenues, strong margins, and ultimately the cash flow that pays investors dividends. You can see the free cash flow trend below and notice the company only pays out about a quarter of earnings as a dividend each year.
AAPL Free Cash Flow data by YCharts
There are two things that I think separate Apple and its dividend from most on the market. First, the company holds $88.2 billion in net cash on the balance sheet, a huge cash cushion for any company. Second, the company's products continue to get stickier as it expands the product line into devices and services that expand the ecosystem. This business moat is what makes me think this relatively small 0.7% dividend yield has a lot of growth ahead, which makes it a great dividend stock.
The software giant
Like Apple, Microsoft is one of the biggest technology companies in the world, but it's built on the software that makes business run. The company's productivity tools like Word and Excel have long been synonymous with business, but it's now the backbone of cloud services with Azure and a critical platform for companies with its Teams service.
While companies like Zoom and Slack get a lot of attention from consumers and small businesses, it's Microsoft Teams that has been a critical tool during the pandemic. And that's just one example of how critical the company's services are to large businesses.
You can see below that the cash flow growth over the last decade is even more impressive than what we see from Apple. And with just a 33% payout ratio and a 1.1% dividend yield, there's a lot of potential dividend growth ahead for the company.
MSFT Free Cash Flow data by YCharts
The dark horse
Target may not have been the kind of company you predicted to be a winner from the COVID-19 pandemic, but it's been one of the biggest beneficiaries in retail. The company's digital services, like Drive Up and Pick Up, have been booming and created a cash windfall for investors. And with more people likely to shop online and look to pick up items at a physical location, Target should benefit long term.
The company's 1.6% dividend yield also has room to grow given the surge in free cash flow and low payout ratio that you see below.
TGT Revenue (TTM) data by YCharts
Retail in 2020 and beyond will be all about selection and convenience. Target is well positioned to win in that market, and that's why it's a great dividend stock to own long term.
Follow the macro trends
You'll notice that these dividend picks are all following broad market trends. Smartphones, software as a service, and digital retail are all going to grow long term and that will help these dividend stocks grow, more than making up for what appears to be low dividend yields today.
