Many companies talk about how they enhance shareholder value by returning cash through dividends or stock buybacks. But investors shouldn't just take the company's word for it. In this series, we'll investigate how companies have spent free cash flow over the past five years. By doing so, we hope to gain insight into whether the company's management might be good stewards of shareholder capital.
Today, we'll take a look at technology-services giant IBM (NYSE: IBM).
How does it spend free cash?
First, let's have a look at how much free cash flow the company has generated in each of the past five years and how much has gone toward dividends and buybacks.
|
2010 |
2009 |
2008 |
2007 |
2006 | |
|---|---|---|---|---|---|
| Buybacks |
$15,375 |
$7,429 |
$10,578 |
$18,828 |
$8,084 |
| Dividends |
$3,177 |
$2,860 |
$2,585 |
$2,147 |
$1,683 |
| Total Paid |
$18,552 |
$10,289 |
$13,163 |
$20,975 |
$9,767 |
| FCFE |
$15,915 |
$16,786 |
$13,671 |
$8,848 |
$11,337 |
Source: Capital IQ as of July 21, 2011. Figures in millions.
Free cash flow = net income depreciation-capital expenditures-change in noncash working capital.
IBM has a long track record of dividend payments. It's been paying quarterly dividends each year since 1916 and has raised its payout for 16 consecutive years.
Cumulatively over this period, however, IBM bought back more than $60 billion of its shares -- nearly five times as much as it paid in dividends. Despite the long dividend track record, it seems IBM loves its own shares more than it does paying out dividends.
Is the dividend covered?
Next, let's see how much of the company's free cash flow has gone to dividends.
|
Metric |
2010 |
2009 |
2008 |
2007 |
2006 |
|---|---|---|---|---|---|
| FCF Payout Ratio | 20% | 17% | 19% | 24% | 15% |
Source: Capital IQ, a division of Standard & Poor's.
It's clear that IBM can afford to spend a little more on dividends, but the current payout (1.6% dividend yield) is covered five times over by free cash flow. Even though the yield is slightly below the S&P 500 average of 1.8%, you can feel good knowing that IBM's dividend doesn't appear to be in danger.
Is it a good investor?
Companies are notoriously bad investors in their own stock. Consider that in 2007, when the market was hitting record highs, S&P 500 companies bought back a record $589 billion, versus $246 billion in cash dividends. In 2009, when the market was around its nadir, buybacks hit record lows.
Is IBM an exception?
Source: Capital IQ, a division of Standard & Poor's.
Not bad. In hindsight, it looks as though IBM's large buyback in 2007 was a good use of shareholder cash. Thereafter, buybacks seem to have followed the share price, but I'll give IBM credit for buying back stock in late 2008 and early 2009, when many companies were holding on to their cash tighter than Mr. Burns.
Competitors
How does IBM's use of free cash flow stack up against some of its major competitors over the past four quarters?
|
Company |
Free Cash Flow |
Share Buybacks |
Dividends |
|---|---|---|---|
| IBM | $15,436 | $15,275 | $3,177 |
| Accenture (NYSE: ACN) | $2,416 | $2,179 | $464 |
| Hewlett-Packard (NYSE: HPQ) | $8,618 | $11,507 | $715 |
| Microsoft (Nasdaq: MSFT) | $20,521 | $14,138 | $4,960 |
Source: Capital IQ, a division of Standard & Poor's. All figures in millions as based on trailing-12-month data.
Foolish bottom line
IBM has been a consistent generator of free cash flow. Management seems to prefer buybacks to dividends, but to its credit, IBM has increased its dividend per share by 8% annualized over the past five years. I would prefer dividends and buybacks to get more equal funding over time, but it appears that, by and large, the company has prudently used free cash flow.
