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Is Hewlett-Packard's Dividend Reason Enough to Buy?

By Bob Ciura – Mar 22, 2014 at 10:00AM

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For investors looking for yield in the technology space, here's why Microsoft is a better bet than HP.

In the technology industry, there's perhaps no better turnaround story right now than Hewlett-Packard (HPQ 2.46%). After reporting several consecutive quarters of declining revenue, its shares collapsed, only to strongly recover over the past year. In fact, its rise from the depths has been so strong you'd think nothing at all was wrong with the company. But judging a company by its share price performance can often be misleading.

HP continues to struggle and its underlying business is by no means out of the woods. And yet, its share price does not reflect its struggles. HP has been able to keep shareholders relatively happy with a strong dividend yield that is very competitive within the technology sector. And, thanks to its ability to generate cash flow, the company even offered investors a dividend increase recently.

But investors should take caution before celebrating HP's return to glory. Despite its willingness to send more cash back to shareholders, HP's core segments continue to underperform. That's why technology enthusiasts may want to look past HP and consider Microsoft (MSFT 1.92%) instead.

Is HP's dividend masking its struggles?
For better or worse, HP's core business continues to be hardware, particularly PC-reliant hardware. It's busily building out its other software and services businesses, but its large printers segment continues to drag it down. HP's revenue fell 7% in 2013, and the company followed this performance with a 1% revenue decline in the fiscal 2014 first quarter.

The struggles of firms still dependent on the personal computer should come as no surprise. Several large technology companies that rose to prominence during the PC era are looking more old and stodgy with each passing quarter. Take semiconductor giant Intel (INTC 7.61%) as an example. For years it whiffed on its attempts to get its chips into mobile devices. It basically missed the boat on the global smartphone boom and has been trying to play catch up ever since, with little to show for it.

Intel posted declining revenue, gross margin, and earnings per share last year. Intel has demonstrated a notable lack of ability to get its chips into tablets, smartphones, and other mobile devices, and the results speak for themselves.

Like HP, Intel is relying on its hefty dividend to keep shareholders from fleeing for the exits. Intel's 3.7% dividend yield is nice, but technology investors should be more concerned about growth than yield, and that's where Intel is coming up short.

HP runs the same risk in that regard. It recently increased its dividend by 10%, which will likely satisfy investors who like to receive income. But there are more pressing needs for HP to be concerned with, the most concerning of which is its continued lack of revenue growth.

A better tech stock for growth and income
Microsoft's cloud-based offerings are performing tremendously. Its commercial cloud services, which include Office 365, Azure, and Dynamics CRM Online, more than doubled quarterly revenue versus the same quarter last year.

The real growth engine at Microsoft is its commercial licensing, which accounts for nearly half of the company's total revenue. Gross margin at that division clocked in at 92% over the past two quarters. Microsoft showed a tremendous ability to rise above what's amounted to relatively modest overall IT spending at the enterprise level, because it's taking share from competitors.

This allowed Microsoft to post 14% revenue growth in its most recent quarter. And, for investors who insist on receiving a dividend, Microsoft provides a very healthy 2.8% yield.

The Foolish takeaway
HP has made some solid progress over the past couple of years. It's slowed the rate of its revenue decline, and recently gave investors a dividend increase. But that's a far cry from declaring the company's turnaround as a done deal.

After releasing first quarter results, HP Chief Executive Officer Meg Whitman stated that the company is in a stronger position today that it has been in some time. While HP's ability to slow its revenue decline is a good start, a lot of progress needs to be done in order for its turnaround to materialize. That's especially true since HP's share price has skyrocketed over the past few months.

For investors who want yield in the technology sector, Microsoft looks to be a much better bet. Its underlying business is growing, thanks to its success in cloud-based products and services.

Bob Ciura owns shares of Intel. The Motley Fool recommends Intel. The Motley Fool owns shares of Intel and Microsoft. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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