Published Tue, 29 Oct 2013 09:00 CET by DividendYields.orgTechnology companies have been traditionally associated with growth, not income. However, flush with cash, they have now easily become the strongest drivers of dividend growth. Based on the data for the S&P 500 index, the IT sector registered the leading rate of year-over-year dividend growth of 62.0% in the second quarter of 2013. Analysts peg the annual dividend-per-share growth rate at about 17.4% for the next 12 months –the highest among all S&P 500 sectors– which is nearly double the projected growth rate of 9.1% for the overall index. At the same time, the number of tech sector dividend initiators is rising. Is this a good or a bad sign? An article in Barron’s “Once your tech company starts paying a dividend, run away!” seemed to suggest it was a bad omen, given that dividend initiations by tech companies indicated those companies’ management was incapable of finding better uses for its hard-earned cash. What’s more, a Bloomberg article from 2012 suggests that “new dividends have historically preceded weaker stock performance.” Still, this should not dissuade the long-term income investors.
Last month, The Nasdaq Technology Dividend Index, a modified dividend value weighted index, underwent its semiannual reconstitution, adding 15 new tech securities to its tally of 100 technology and telecommunications companies that pay a regular or common dividend. (The index is available as an ETF, known as The First Trust Nasdaq Technology Dividend Index Fund.) Among the new additions to the index are three tech companies that have initiated dividends this year. These stocks harbor potential for long-term income generation. The table below presents the main profiles and dividend characteristics of these three tech dividend initiators.
Among the featured stocks, Compuware (Nasdaq: CPWR), an IT provider of services, software, and practices for IT companies, offers the highest dividend yield. However, its payout ratio is stretched; hence, given the forecast EPS growth trends and its free cash flow trends, the company is likely to refrain from making large dividend increases in the near future. Still, its yield is nearly triple the average yield of the S&P 500’s IT sector. On the other hand, both CSG Systems International (Nasdaq: CSGS) and Symantec (Nasdaq: SYMC) have attractive payout ratios, which may suggest additional dividend increases in the future, given the forecast EPS CAGR of at least 8.0%, on average, over the next five years.
Compuware has four decades of experience in providing mainframe programs, collaboration technology and project-management tools. The company has been viewed as a buyout candidate, mainly by private equity firms, as investors are attracted to its mainframe business because of its strong free cash flow generating capacity and the opportunity to unlock value through cost cuts and spin-offs or divestitures. Back in January 2013, Compuware rejected a takeover bid worth $2.3 billion from its large shareholder, an activist hedge fund Elliott Management. The company has since initiated a 3-year restructuring plan that will result in annual savings of $60 million, helping boost the bottom line and shareholder value. As part of its repositioning, the company has also sold a 20% stake in Covisint (Nasdaq: COVS), a provider of cloud engagement platform. Compuware looks poised to expand its cloud computing and mobile growth strategies. Recently, it posted solid second-quarter results, featuring strong top-line and license growth, reporting its positive sales momentum will spill over into the second half of the year. Growth and cost savings are bolstering the company’s margins, helping drive a substantial EPS expansion.
CSG Systems International is one of the world’s largest and most established communication industry’s business support solutions, providing software- and services-based business support solutions that help the company’s clients generate revenue and maximize customer relationships (i.e. customer billing and account management). Some of the CSGS’ principle customers include AT&T, Comcast, DISH, France Telecom, Orange, T-Mobile, Telefonica, Time Warner Cable, Vodafone, Vivo and Verizon. The company has stable, recurring revenues, high switching costs (which adds to the revenue security), and strong free cash flow generation capacity. Its payout ratio as a share of free cash flow is low at 26%, based on the trailing-twelve-months data provided by Morningstar. Interestingly, this stock has a low PE ratio and is trading below the price-to-book ratio of its peers on average.
Symantec, an IT security solutions company well known for its Norton antivirus software, is another dividend initiator in 2013. In fact, the company approved an “enhanced capital allocation strategy” in January 2013, committing to return, over time, about 50% of free cash flow to shareholders through a combination of dividends and share repurchases. The company’s board of directors augmented the remaining $283 million in the previous authorized stock repurchase plan with an additional $1 billion share buyback program commencing as of March 30, 2013. This company generated about $6.9 billion in revenues last year, out of which 52% was outside the United States. Its financial targets include achieving a 5%-to-7% annual organic growth in the FY2015-2017 period and a non-GAAP margins expansion of 200 basis points in FY2014 and FY2015.
The aforementioned three tech stocks represent good examples of companies with solid free cash flow generation that can support dividends. The latter two stocks have particularly strong predisposition for dividend growth in the future. As such, the featured stocks could serve as a basis for further research of tech stocks offering solid yield and dividend growth potential for long-term income generation.