For beginning dividend investors, simplicity is key.
This means finding a business to invest in that you understand. A business with a model that you can articulate how it generates revenue, where its expenses come from, and why its success is likely to continue in the future.
These companies will be boring. Not boring in any negative sense, but boring in a stable, steady kind of way. To help you get started, I've selected two businesses with solid dividends that I think fit the bill: Coca Cola (NYSE:KO) and General Electric (NYSE:GE).
Coca-Cola and its zero-calorie cousin Diet Coke are two of the most popular drinks in the world. Some rankings put Coke as high as the fifth most consumed beverage in the world, trailing only coffee, tea, beer, and juice. That's a ridiculous amount of Coke, and it's a major reason the company is such a great place to start for beginning dividend investors.
Coca-Cola's business model is easy to understand. The company owns the recipes to various carbonated and non-carbonated beverages. It either manufactures those drinks or licenses the formula to bottlers that make it on their behalf. From there, the drink is sold at retail locations all over the world.
Coca-Cola's products, particularly its flagship Coke and Diet Coke, have become so ubiquitous that the business side of things has gotten to be pretty mundane. The company keeps making the drinks, and people keep drinking them. And, as a byproduct, the dividends keep flowing, too.
In fact, the company has increased its dividend for 53 consecutive years, making it elite even among its fellow Dividend Aristocrats.
The company's dividend currently yields 3.2%. The key to maintaining that dividend is generating enough cash flow to keep the dividend checks in the mail with enough left over to support the company's growth and strategic objectives.
For an international company like Coca-Cola, the easiest way to do that is by comparing the company's free cash flow per share against its dividend per share. Other metrics can become confusing because of the various accounting requirements when dealing with sales in multiple countries and multiple currencies.
As the following chart shows, Coca-Cola has more than enough free cash flow to support its dividend.
The quintessential American manufacturer
As a beginning investor, you may not realize that General Electric is about more than just light bulbs. It also manufactures a wide variety of industrial parts, aircraft components, equipment for the energy industry, and more.
This year, GE announced the sale of its large finance division, GE Capital, meaning that the company will soon be a nearly perfect play on the American manufacturing industry.
The sale of GE Capital is also interesting in that it will generate tens of billions of dollars in cash for the company, cash that GE management will have to put to use. So far, it's said that most of the cash will be used to fund a massive $50 billion share buyback. However, I wouldn't be surprised if there's also a special one-time dividend.
GE's dividend currently yields 3.5%. As with Coca-Cola, we can assess the fundamental strength of the dividend by comparing free cash flow and dividends paid.
The trend here is not quite as pristine as what we saw with Coca-Cola, but that can largely be attributed to the volatility in GE Capital's numbers over the past decade. With GE Capital sold, GE's free cash flow will become much more predictable and much more boring, and that's exactly what we're looking for.
An important lesson for beginners
Every stock has risk, and these two companies are no exception.
Coca-Cola, for example, has struggled to generate meaningful growth for the past several years as consumer preferences have turned away from carbonated, high-calorie drinks. Net revenue declined by 3% year over year in the second quarter. In our case, though, we aren't buying Coca-Cola for its growth.
On a volume basis, Coca-Cola saw a 2% year-over-year sales increase, meaning the company is still shipping plenty of bottles of Coke, Diet Coke, and the myriad other brands the company owns. This is the stability that makes Coca-Cola a great beginner dividend stock.
Likewise, General Electric is no sure thing. Selling off GE Capital is a major strategic shift, and there's no guarantee it will work out over the long term. At its peak, GE Capital contributed over 60% of the entire company's profits. Now the company is leaving that business behind.
As such, it's far from a foregone conclusion that the company will be able to successfully manage the transition away from GE Capital. One advantage the company has to mitigate this risk is the specialization of the products it manufacturers. Not just anyone can build a nuclear power plant, for example.
No stock investment is guaranteed. But for the beginning dividend investor, Coca-Cola and General Electric have many characteristics that make them an ideal place to start your dividend-investing journey.
Jay Jenkins has no position in any stocks mentioned. The Motley Fool recommends Coca-Cola. The Motley Fool owns shares of General Electric Company and has the following options: long January 2016 $37 calls on Coca-Cola, short January 2016 $43 calls on Coca-Cola, and short January 2016 $37 puts on Coca-Cola. Try any of our Foolish newsletter services free for 30 days. 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.