Image source: Apple.
Apple (AAPL +2.62%) stock pays a modest dividend yield, and the company comes well behind other big tech players such as Microsoft (MSFT +2.05%), IBM (IBM 1.49%), and Cisco (CSCO +0.11%) in that regard. Make no mistake, though, Apple is positioned for big dividend growth in the years ahead, and this has huge implications for investors.
Small dividends and big room for growth
Apple, Microsoft, IBM, and Cisco are fairly different companies, operating in their own sectors, and with their particular weaknesses and strengths. On the other hand, the four companies also offer some important similarities for investors. Apple, Microsoft, IBM, and Cisco are among the biggest and most stable tech corporations in the world, and they look quite attractive from a dividend investing perspective.
Apple comes well behind its peers in terms of dividend yield. The iPhone maker is yielding 2.1% at current prices, while Microsoft pays a dividend yield of 2.8% and both Cisco and IBM offer much higher yields in the neighborhood of 3.9%.
However, it's of utmost importance to note that Apple has enormous room to raise dividends in the future. Apple has a dividend payout ratio in the neighborhood of 23% of earnings forecasts for the current fiscal year, this is much lower than the payout ratios offered by comparable tech companies: Microsoft distributes nearly 52% of earnings as dividends, IBM ha a payout ratio around 39%, and Cisco is in the area of 36%.
Apple CEO promises to sustain dividend growth
Apple reinstated its dividends in 2012, and the company has raised payments every year since then. Speaking at the company's annual shareholder meeting last Friday, Apple CEO Tim Cook said that management is committed to increasing dividends annually, since Apple typically announces its dividend increases when it reports earnings for the March quarter, chances are that Apple's next earnings report will include a new and enlarged dividend.
Not only is Apple's dividend relatively low in comparison to the company's earnings, cash flows also provide enormous room to increase dividends in the future. Apple produced $27.5 billion in operating cash flow last quarter, and capital expenditures consumed $3.6 billion of that money, leaving Apple with almost $24 billion in free cash flow. Dividend payments during the period amounted to less than $3 billion, or a remarkably low 12.5% of free cash flow. In addition, Apple is sitting on a gargantuan cash hoard of nearly $216 billion in cash and investments on its balance sheet.
Management is clearly committed to raising dividends over the coming years, and Apple has more than enough financial resources to put its money where its mouth is, so the company has the willingness and the ability to sustain dividend growth.
Why dividend growth matters
Dividends provide predictable cash payments to investors, and this can be a major advantage to keep in mind when analyzing investment decisions. Even more important, dividends say a lot about the health of the business. When a company has the financial strength to sustain dividend growth over the years, this shows that the business is healthy enough to produce consistently growing cash flows over time.
Goldman Sachs measured the returns of different kinds of companies based on their dividend policies over the long term, and the results are quite interesting. Dividend-paying stocks typically perform much better than stocks paying no dividends, and companies with consistently growing dividend payments materially outperform both those with stable dividends and companies paying no dividends at all.
According to this research report from Goldman Sachs, a $10,000 investment in non-dividend stocks on Jan. 31, 1972, would have turned into $30,316 at the end of 2014. The same amount of money invested in dividend-paying stocks would have an ending value of $461,904, while investing in companies starting new dividends or increasing their dividend payments every year would have resulted in a much bigger ending capital of $630,024.
Apple has the financial strength to continue increasing dividends in the future, and CEO Tim Cook has recently confirmed that the company is in fact planning to raise dividends on an annual basis. Considering the historical evidence about the positive impact of consistent dividend growth on investment returns, this is clearly a major positive for investors in Apple stock.
