Dividend yield, or dividends per share paid out annually as a percentage of a company's stock price, is an important factor to many dividend investors. After all, this metric determines the amount of cash flow an investor can expect to receive from an investment in an individual stock. But astute investors know that dividend yield is only one thing to look at when examining a potential dividend investment. Another key factor to consider is the dividend's potential to grow over time.
One dividend stock that may be too often overlooked because of its low dividend is Microsoft (MSFT 2.23%). Despite a dividend yield below 1%, this is a great dividend stock thanks to the stock's overall attractiveness and the dividend's potential for significant growth in the coming years.
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Dividend history
Microsoft's dividend has quite an impressive history. First paying a dividend in 2004, the company has paid dividends to shareholders for 17 years straight. Further, Microsoft has raised its dividend every year for 16 years.
The stock's most recent dividend increase was announced on Sep. 14. Microsoft said it would increase its quarterly dividend by $0.6, or 11%. Impressively, the company was able to do this while also approving a new share repurchase program that authorized $60 billion to be used for share repurchases.
The company's quarterly dividend of $0.62 today translates to $7.44 annually. This gives Microsoft a dividend yield of about 0.8%.
Dividend growth potential
While Microsoft's sub-1% dividend yield may seem unimpressive at first glance, the software giant makes up for this small dividend yield with dividend growth potential.
There are several factors, beyond the company's long history of consistent and meaningful dividend increases, that further highlight why Microsoft's dividend will likely grow substantially in the coming years.
First, Microsoft's annual dividend payments account for just 25% of Microsoft's earnings. This means there's lots of room in Microsoft's annualized earnings for its dividend to grow.
Second, Microsoft's earnings are growing rapidly. Trailing-12-mont net income is $68 billion today. This is up from approximately $61 billion in fiscal 2021, $44 billion in fiscal 2021, and $39 billion in fiscal 2019. With earnings momentum like this, Microsoft likely won't even have to increase its payout ratio meaningfully to grow its dividend.
Finally, Microsoft's capital-light business model doesn't seem to need much of its annualized free cash flow to operate and grow its business. Consider that in the trailing-12-mont period, Microsoft generated $60.4 billion in free cash flow (cash generated from operations) yet only spent $21.5 billion was spent on capital expenditures.
No investment, of course, is without risk. If Microsoft loses momentum in one of its main business lines like Microsoft Office or Azure, for instance, this could pressure earnings and potentially impact the dividend's growth potential. But the software company's long history of performance and its diversified products and services suggest that it will continue growing its bottom line meaningfully in the coming years, supporting more dividend growth.
Overall, Microsoft looks poised to likely continue growing its dividend by double-digit rates annually for years to come.
