Dividends Aren’t Evil

Dividends Aren’t Evil

Dividends

by Total Return Investor

Matt Yglesias has a post called “Dividends Are Evil”, he is right in some ways, but mostly wrong. Let’s count the ways:

1. Yglesias begins by saying that dividends are a “triumph of short term thinking”; I could not disagree more. Dividend investing requires long term thinking. No one cares about a 3% current yield, but if you can grow it into a double digit yield on cost you have a pretty interesting investment. This will take ten years, so you are automatically oriented to a) quality and b) long term. Thinking a decade plus out is vastly longer term than 99.9% of Wall St, and that’s a good thing.

2. Yglesias leads off the piece criticizing GE and AT&T for raising their dividends. He is singularly unimpressed by AT&T’s track record of 30 straight years of dividend increases. Please re-read above point #1. A 1984 investor in AT&T got paid $0.11/share dividend and today the yield is $1.76. I doubt long term holders are complaining too much. If anything AT&T shareholder might wish for better growth, the 25 year annualized dividend growth rate is 5.9%. Did all these payments hurt shareholder returns as Yglesias is concerned about?

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If you bought $1,000 in AT&T in December 1984, today you would have $22,866, an annualized return of 11.4%. I don’t see that AT&T shareholders have been hard done by with regard to AT&T’s dividend policy.

3. Yglesias: “When a firm such as GE flushes cash out in this way (dividends), the good news for shareholders is that they get money…The advantage, of course, is that you can use money in the bank to buy a car or make a down payment on a house.”

Yes, that is an advantage! Far from being a negative, its simple, relatively efficient way to return cash to shareholders. As Morningstar’s Josh Peters says, “dividends are always a positive.” This is worth keeping in mind, because Yglesias goes on to state that buybacks are a better way to return cash to shareholders. That can be true, but not always.

4. Yglesias goes on to make the case for buybacks. A lot of income investors eschew buy backs, preferring say Shell’s 5% dividend yield versus Exxon’s 3% yield plus buybacks. I think there’s plenty of reasons to like buybacks in some circumstances. Some of the great capital allocation track records in history, like John Malone’s, have been built up through judicious buybacks.

Aye, but there’s the rub. There are not many John Malones out there! Michael Jordan played by the “Jordan Rules”, what is good strategy for the best of the best is often a recipe for disaster for the average, i.e most management teams. If you have a John Malone at the helm, then buybacks are a wonderful way to return cash to shareholders, and Yglesias is right to say that they are more tax efficient than dividends. But this is only the case when you have a master capital allocator at the helm with talent and integrity. Otherwise, buybacks can absolutely destroy shareholder value. Look no further than HP where various managers bought back 1/3 of shares outstanding in last decade at prices well above today’s, and at the same time earnings per share went way down and debt went way up. So whereas dividends are always a positive, buybacks can be good or they can be a way to light money on fire.

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