Listen, I like the Investors’ Chronicle. It usually gives solid advice. I feature information from its pages on a regular basis. But the example they give below on companies which substantially raise their dividends every year is completely over the top and misleading. These companies make great investments, just not for the reasons given! Read the excerpt and then I’ll explain why I say this…
Dividend growth may not seem as important as raw yield, but in the long term it can provide more income. The table below shows how a company that has a relatively low, but fast-growing dividend can outstrip a company with a high initial dividend that only grows slowly.
Year Grower Yielder 1 3.0 6.0 2 3.9 6.3 3 5.1 6.6 4 6.6 6.9 5 8.6 7.3 6 11.1 7.7 7 14.5 8.0 8 18.8 8.4 9 24.5 8.9 10 31.8 9.3 TOTAL 127.9 75.5 The ‘grower’ increases dividends at 30 per cent a year, the ‘yielder’ starts high but grows at 5 per cent. Clearly with earnings that support this level of dividend growth, the share price rises may be quite spectacular, too. More subtly, dividends can predict subsequent share price movements, thus leading the way to both capital gains and a good income. Companies whose dividend yield is above their own historic average tend to outperform subsequently, while those whose yield is lower than average underperform.
The biggest problem with this example? Companies that raise their dividend by 30% a year should also be increasing their cash earnings at the same rate. Otherwise, these dividend hikes aren’t sustainable over time.
Can a company grow at a 30% annual clip for 10 years running? Maybe but they certainly don’t grow on trees. And more likely than not, they’re tech companies which don’t usually offer dividends.
I’ve seen these big dividend hikes for five years in a row but almost never for 10. Just too hard to pull off. So, in the above example, instead of the dividend “grower” catching up in year 4, it would be catching up much later. For example, if it could sustain a 15% a year dividend growth rate, it would catch up to the dividend yielder in Year 8. That’s quite a difference.
