Dividend payers deserve a berth in any long-term stock portfolio. But seemingly attractive dividend yields are not always as fetching as they may appear. Let's see which companies in management services offer the most promising dividends.
Yields and growth rates and payout ratios, oh my!
Before we get to those companies, though, you should understand just why you'd want to own dividend payers. These stocks can contribute a huge chunk of growth to your portfolio in good times, and bolster it during market downturns.
As my colleague Matt Koppenheffer has noted: "Between 2000 and 2009, the average dividend-adjusted return on stocks with market caps above $5 billion and a trailing yield of 2.5% or better was a whopping 114%. Compare that to a 19% drop for the S&P 500."
When hunting for promising dividend payers, unsophisticated investors will often just look for the highest yields they can find. While these stocks will indeed pay out the most, the yield figures apply only for the current year. Extremely steep dividend yields can be precarious, and even solid ones are vulnerable to dividend cuts.
When evaluating a company's attractiveness in terms of its dividend, it's important to examine at least three factors:
- The current yield
- The dividend growth
- The payout ratio
If a company has a middling dividend yield, but a history of increasing its payment substantially from year to year, it deserves extra consideration. A $3 dividend can become $7.80 in 10 years, if it grows at 10% annually. (It will top $20 after 20 years.) Thus, a 3% yield today may be more attractive than a 4% one, if the 3% company is rapidly increasing that dividend.
Next, consider the company's payout ratio, which reflects what percentage of income the company is spending on its dividend. In general, the lower the number, the better. A low payout ratio means there's plenty of room for generous dividend increases. It also means that much of the company's income remains in its hands, giving it a lot of flexibility. That money can fund the business's expansion, pay off debt, buy back shares, or even buy other companies. A steep payout ratio reflects little flexibility for the company, less room for dividend growth, and a stronger chance that if the company falls on hard times, it will have to reduce its dividend.
Peering into management services
Dividend investors typically focus first on yield. Corrections Corp. of America (NYSE: CXW) is among the highest-yielding stocks in management services companies, offering 2.6%, but its dividend is very new, without much of a history to assess. It specializes in privatized prisons, which are rather controversial, and which might see business shrink because of public concern and rising numbers of released prisoners. California, for example, has announced plans to reduce its massive prison spending. Meanwhile, some activists are calling for the company to convert into a REIT, or real estate investment trust.
It's smart to pay attention to dividend growth rates, too. Corporate advisor and educator Corporate Executive Board (Nasdaq: EXBD), for example, recently yielded 1.6%, but cut its payout by 77% in 2009 and has been slowly upping it. It's still below 2006 levels. Revenue and earnings have been growing recently, and shares jumped 12% last month on news of the company's largest acquisition, aimed at boosting its talent management business. The company reported a 10% increase in its membership ranks in its latest quarterly report, mainly stemming from mid-sized businesses.
Some management services companies, such as LinkedIn (Nasdaq: LNKD) and Monster Worldwide (NYSE: MWW), don't pay dividends at all. That's because smaller or fast-growing companies often prefer to plow any excess cash into further growth, rather than pay it out to shareholders. LinkedIn has doubled its revenue over several of the past years, and has found great success charging businesses for special recruiting abilities. Analysts disagree on whether it's undervalued or overvalued now, though. Monster Worldwide is not in the best position to be paying rising dividends because LinkedIn is in some ways eating its lunch. Indeed, the stock plunged some 20% recently, when the company reported falling revenue and earnings. Some have even suggested that LinkedIn might buy Monster.
Just right
As I see it, 2.2%-yielding Accenture (NYSE: ACN) offers the best combination of dividend traits, sporting some solid income now and a good chance of strong dividend growth in the future. It specializes in management consulting, information technology services, and outsourcing. It offers global and operational diversification, and generates a lot of free cash flow. It has gone from paying an annual dividend to a twice-a-year one, and its total payout has averaged annual growth of more than 25% over the past five years.
Of course, as with all stocks, you'll want to look into more than just a company's dividend situation before making a purchase decision. Still, these stocks' compelling dividends make them great places to start your search, particularly if you're excited by the prospects for this industry. Remember, though, that you may find even more attractive dividends elsewhere, such as in telecommunication companies.
Do your portfolio a favor. Don't ignore the growth you can gain from powerful dividend payers.
Looking for some All-Star dividend-paying stocks? Look no further.
