Updated by Nick McCullum on June 26th, 2017
The ‘holy grail’ of dividend growth investing is to find businesses that offer:
- Growth potential
- High dividend yields
- Consistent and safe operations
This article takes a look at 4 businesses that have:
- High dividend yields above 4%
- Above average total return potential
- Consistent operations backed by a long dividend history.
This combination is difficult to find in today’s low interest rate environment. Low interest rates increase the share prices of high dividend stocks, reducing their yields.
The trade off between growth and dividends makes it difficult to find stocks with both a high payout ratio and solid growth prospects. The more a company pays out in dividends, the less it has to reinvest in growth.
Management must be very efficient with its capital allocation policies to have both a high dividend payout ratio and solid growth prospects. There is little room for error.
Finding businesses that consistently pay rising dividends and have safe operations is difficult. Strong competitive advantages in the business world are rare.
For instance, there are currently only 51 Dividend Aristocrats. To be a Dividend Aristocrat, a company must:
- Be in the S&P 500
- Have 25+ consecutive years of dividend increases
- Meet certain minimum size & liquidity requirements
You can see the full list of all 51 Dividend Aristocrats here.
The list of Dividend Kings (50+ years of dividend increases) and Dividend Achievers (10+ years of dividend increases) are also quite short, providing further evidence on the rarity of durable competitive advantages.
Businesses with long dividend histories have proven the stability of their operations. This article analyzes 4 consistently high paying dividend stocks, listed in order of increasing rank according to The 8 Rules of Dividend Investing.
Consistent High Yield Stock #4: Verizon Communications (VZ)
Verizon Communications (VZ) is the second-largest domestic communications company behind AT&T.
Verizon has a market capitalization of $185 billion at current prices, and services ~114 million connections across every U.S. state.
Together, Verizon and AT&T control about two-thirds of the U.S. telecommunications industry.
The reason why there are so few large players in this oligopolistic industry is the tremendous barriers to entry. The telecommunications sector is capital-intensive and complicated from a regulatory perspective, which lowers the number of new players in this industry.
Another notable characteristic of the large telecommunications companies is their high dividend yields. Both AT&T and Verizon have dividend yields north of 5% right now, and many of the large Canadian telecoms (including Telus, BCE, and Rogers) have similarly high dividend yields.
More specifically, Verizon Communications’ current dividend yield is 5.1% and its long-term average dividend yield is 4.6%.
Verizon’s detailed dividend yield history can be seen below.
Source: YCharts
Verizon is an exceptionally shareholder-friendly stock.
However, the company is not a member of the Dividend Aristocrats or the Dividend Kings list, largely because it held its dividend constant for a stretch during the early 2000s.
This does not mean that the company is not a regular dividend raiser. Since 1985, Verizon Communications has increased its dividend 24 times.
Verizon’s long-term dividend history can be seen below.
Source: YCharts
Verizon is able to increase its dividend on a regular basis because of its considerable size-based competitive advantage.
As mentioned, this telecommunications company operates in an oligopoly with AT&T. Verizon’s quarterly revenue is roughly $30 billion and the company’s existing long-lived asset base gives it staying power in an industry with very sizeable barriers to entry.
Source: Verizon Communications First Quarter Earnings Presentation, slide 6
Verizon also generates robust free cash flow, which is important for a company with such a high dividend yield.
In the most recent quarter, Verizon reported free cash flow of negative $1.4 billion, which was artificially reduced by a $3.4 billion discretionary contribution to its unfunded pension plan.
Absent this $3.4 billion discretionary pension contribution, Verizon’s free cash flow would have been $2 billion in the most recent quarter. In the quarter prior to that, the company reported free cash flow of $4.1 billion.
Source: Verizon Communications First Quarter Earnings Presentation, slide 7
Verizon also has very compelling growth prospects, giving it an attractive blend of income and growth for total return investors.
Verizon is set to benefit immensely from the growing popularity of Internet of Things (IoT) technology, which includes voice assistants, connected speakers, and connected home devices manufactured by companies like Google (GOOG) (GOOGL) and Apple (AAPL).
While Verizon is not a direct manufacturer of these devices, the company will be a provider of connections and networking and will see revenue growth from this fledgling industry.
Source: Verizon Communications First Quarter Earnings Presentation, slide 11
Verizon is also very active in the M&A markets.
Last summer, the telecommunications company announced the acquisition of the majority of Yahoo!’s assets. While the deal changed slightly over time as the companies performed their due diligence, it closed earlier this month for a price of $4.5 billion.
Verizon’s recently-acquired Yahoo! assets are to be combined with its AOL assets under the new subsidiary named Oath, which will contain more than 50 media brands.
Selected Oath brands can be seen below.
Source: Tech Crunch
Verizon’s current dividend yield is higher than its average dividend yield.
Many investors are bearish on this stock, largely due to its significant debt load. The company currently has ~$113 billion of long-term debt, which is not ideal in the current rising interest rate environment.
With that said, Verizon generates heaps of free cash flow and is not likely to experience any meaningful difficulties as interest rates rise.
Altogether, Verizon’s high dividend yield and capital appreciation potential make it a very attractive stock for long-term investors.
Consistent High Yield Stock #3: Chevron Corporation (CVX)
Chevron (CVX) is one of the 6 oil & gas supermajors along with:
- BP (BP)
- Eni SpA (E)
- Total SA (TOT)
- ExxonMobil (XOM)
- Royal Dutch Shell (RDS-B)
Chevron & ExxonMobil are the only two energy companies to be Dividend Aristocrats.
Chevron is well-known among dividend growth investors because of its consistently high dividend yield. The energy company’s current dividend yield is 4.1% and its long-term average dividend yield is 3.8%.
Source: YCharts
Even more impressive than Chevron’s high dividend yield is its remarkably long dividend history.
Chevron has paid steady or increasing dividends each year since 1984, a time period which has seen this oil & gas supermajor execute 26 individual dividend increases.
Chevron’s dividend history can be seen below.
Source: YCharts
Chevron’s total return history differenctiaties it from its peers among the oil & gas supermajors.
This energy companies leaders its peer group for total returns over 1, 3, 5, 7, 10, 20, and 25 year periods, an outstanding track record that shows the quality of this business and its management’s strong capital allocation skills.
Source: Chevron 2017 Corporate Overview Presentation at The 2017 Security Analyst Meeting, slide 7
With that said, Chevron’s business has been under pressure in recent years.
Oil stocks took it on the chin when the price of crude oil began its sharp decline in 2014.
Today, oil prices are significantly above their 2016 lows of ~$27 per barrel. The current price of WTI crude is about $44 per barrel.
Chevron’s financial priorities remained unchanged during this difficult operating environment.
The company remained focused on growing its dividend payout, funding organic growth, and maintaining the quality of its balance sheet.
Source: Chevron 2017 Corporate Overview Presentation at The 2017 Security Analyst Meeting, slide 6
Just as declining oil prices created considerable difficulties for Chevron, rising oil prices will likely be the single largest catalyst for this company’s future growth.
Chevron is expected to generate positive free cash flow growth at $50 per barrel oil prices.
However, mean reversion is one of the most powerful trends in the financial markets. The average price of oil over the past 5 years is $71/barrel and the average price of oil over the past 10 years is $78/barrel.
Oil prices are very likely to rise back to more normalized levels, and when they do, Chevron will experience a meaningful pickup in both earnings and free cash flow.
Source: Chevron 2017 Corporate Overview Presentation at The 2017 Security Analyst Meeting, slide 9
With that said, Chevron is likely to continue experiencing short-term difficulties.
The energy company is taking measures – including asset sales – to generate positive cash flow after dividend payments.
Any oil price upside in addition to these short-term stop loss measures will be accretive to the company’s shareholders.
Source: Chevron 2017 Corporate Overview Presentation at The 2017 Security Analyst Meeting, slide 8
Since oil prices have dropped, Chevron has benefitted from its industry-leading leverage levels.
The company’s debt ratio (defined as total debt divided by total assets) can be thought of as the percentage of the company’s balance sheet that is financed with debt (rather than being financed with shareholders’ equity).
Chevron’s debt ratio has ticked up in recent years but is still well below the average debt levels of its peer group.
Source: Chevron 2017 Corporate Overview Presentation at The 2017 Security Analyst Meeting, slide 16
For potential and existing Chevron shareholders, the bottom line is this: Chevron is a Dividend Aristocrat and has delivered consecutive dividend increases for literally decades.
This is not the first time that Chevron has operated through a low oil price environment. The Lindy Effect suggests that since Chevron has increased its dividend for many years, it is highly likely to continue doing so in the future.
Moreover, global energy demand continues to increase each year due to population growth and the increasing adoption of technology in emerging market countries.
Buying out of favor industries is a fantastic method to build long-term wealth. While Chevron may be struggling right now, the company’s high dividend yield and strong growth prospects make it a compelling stock to own for long-term investors.
Consistent High Yield Stock #2: AT&T (T)
AT&T (T) is the largest domestic telecommunications company in the United States based on its $233 billion market cap and 2016 consolidated revenue of ~$164 billion.
The company’s only competitor with similar size is Verizon (VZ).
Today, AT&T generates more revenue than any other communications company and employs more than 200,000 individual in the U.S. alone.
AT&T has traded at a high dividend yield for a very long time. With that said, the company’s dividend yield is currently elevated beyond its already-high normal levels.
More specifically, AT&T’s current dividend yield is 5.1% and its long-term average dividend yield is 4.3%.
Source: YCharts
AT&T’s high dividend yield is certainly notable in today’s low-yield world, but what makes AT&T truly special is its unique combination of both yield and growth.
AT&T is likely the single safe stock with a dividend yield above 5%, making it very appealing for investors that are both conservative and yield-thirsty (think retirees). The company had a payout ratio in the most recent quarter of 87.5% and 66.2% using GAAP and adjusted earnings, respectively.
In addition, this stock is no stranger to inflation-beating dividend increases.
AT&T has paid steady or rising dividends each year since 1986, a period which has seen the company announce 35 individual dividend increases.
AT&T has increased its annual dividend payment for 33 consecutive years, making it a member of the Dividend Aristocrats – an accolade that its major competitor Verizon does not hold. In fact, AT&T is the only telecommunications company to be a member of the Dividend Aristocrats.
AT&T dividend history can be seen below.
Source: YCharts
Like Verizon, AT&T has a tremendous scale-based competitive advantage in the highly oligopolistic telecommunications industry.
AT&T reported nearly $40 billion of revenues in the most recent quarter along with $3.2 billion of free cash flow.
The company’s high revenue levels and robust free cash flow conversion are key factors in its ability to generate rising dividend income year after year.
Source: AT&T First Quarter Earnings Presentation, slide 5
AT&T also has strong growth prospects.
We live in an increasingly connected world. More and more people are making use of cellular devices, data plans, and other forms of connectivity.
AT&T is highly entrenched in this industry, with:
- 147 million mobile subscribers
- 47 million television subscribers
- 16 million broadband subscribers
- The largest fiber op footprint in the U.S.
AT&T’s leadership position in this industry means that the company is well-positioned to achieve solid growth even if it simply maintains its current market share.
Source: AT&T First Quarter Earnings Presentation, slide 10
The company has also been quite active on the M&A front in recent times, which is another similarity that it has with its main peer Verizon. With that said, AT&T’s current headline acquisition dwarfs Verizon’s Yahoo! acquisition.
Last October, AT&T announced its intention to acquire Time Warner (TWX) for $85 billion. An $85 billion acquisition is very large for any company, even a business as large as AT&T.
The acquisition proceedings are moving along largely as planned by the company’s management team.
In February, the shareholders of Time Warner approved the transaction. 78% of the outstanding Time Warne shares voted in favor. However, this number is artificially reduced by the low number of shareholders that actually voted on the decision. Of the shares that were actually voted, 99% gave approval for the merger.
AT&T’s Time Warner acquisition is expected to create approximately $1 billion of synergies after the transaction closes, which is a compelling growth opportunity for AT&T.
While there is certainly execution risk in performing an $85 billion acquisition, AT&T is no stranger to sizeable M&A transactions.
In July of 2015, AT&T closed on its $63 billion acquisition of DirecTV. That transaction combined with the pending Time Warner acquisitions shows that AT&T is going ‘all in’ on media.
AT&T’s intention appears to be the creation of a vertically integrated content company that is responsible for both the creation and distribution of media. This makes sense – after the merger, AT&T will be able to leverage its existing user data to more accurately determine the best content to produce for its customers.
A targeted content creation strategy will increase AT&T’s advertising revenue. By generating both advertising revenue and subscription revenue, the company will benefit from increased earnings stability and a more diversified business model.
Altogether, AT&T’s growth prospects appear to be very robust. And, the company has a very compelling 5%+ dividend yield. This stock is one of the best opportunities for conservative, high yield investors looking for both current income generation and capital appreciation potential.
Consistent High Yield Stock #1: Target Corporation (TGT)
Target (TGT) is a well-known U.S. retail giant with headquarters in Minneapolis.
Founded in 1902, the company operates 1,807 stores with a supply chain of 38 distribution centers. Target has given 5% of its profits to charity since 1946, a practice that equals millions of dollars per week today.
Target’s current market capitalization of $28 billion makes it one of the largest retail companies in the U.S. today. The company operates in five segments:
- Household Essentials
- Food, Beverage, & Pet Supplies
- Apparel & Accessories
- Home Furnishings & Decor
- Hardlines
Each segments contributions to 2016’s sales can be seen below.
Source: Target 2016 Annual Report, Page 1
Target is an appealing stock because of its exceptionally high dividend yield. In fact, Target stands out from the other stocks on this list because its current dividend yield is well above its typical levels.
More specifically, Target’s current dividend yield is 4.7% and its long-term average dividend yield is 1.7%.
Target’s long-term dividend history can be seen below.
Source: YCharts
Looking at the chart above, the obvious question is ‘why is Target’s current dividend yield so much higher than its normal levels?’
There are two reasons.
First, the company has a long history of steadily increases its dividend payments.
In fact, Target has paid increasing dividends for 46 consecutive years. Target is a member of the Dividend Aristocrats along with its major competitor Wal-Mart (WMT).
Naturally, a company that steadily increases its dividend payments will experience an increase in dividend yield, all else being equal. This certainly contributes to Target’s current dividend yield being above its long-term average.
Target’s dividend history can be seen below.
Source: YCharts
Target’s 46 consecutive years of dividend increases mean that there is a very high probability that the company will join the Dividend Kings list in 2021. There are currently only 20 Dividend Kings, which shows exactly how rare this level of dividend consistency is in today’s market.
The second reason why Target’s dividend yield is so high right now is because of widespread investor pessimism on the future of the retail shopping industry.
Indeed, Target has seen deteroriation in its financial perfrmance in recent years thanks to competitive pressures imposed by eCommerce incumbents like Amazon (AMZN).
Source: Target 2016 Annual Report, Page 1
However, we believe that Target’s future is still quite bright, and investors should view the company’s high dividend yield as a buying opportunity.
Interestingly, Target’s recent financial performance as been stronger than anticipated. Target’s first quarter adjusted earnings-per-share of $1.21 actually beat expectations, and were well above management’s guidance of $0.80-$1.00.
What caused the earnings beat?
Same-store sales came in better than expected, declining only 1.3% from the same period a year ago. The company also benefitted from robust 22% growth in digital sales.
However, the gains that Target’s shareholders experienced after its strong earnings release were completely erased after a frightening announcement from one of the largest disruptors in the retail space.
Of course, I’m referring to Amazon’s recently announced potential acquisition of Whole Foods (WFM). On the day of the Whole Foods transaction announcement, Target’s stock price declined by 5.1%.
The company also experienced meaningful negative price action after fellow retailer Macy’s reported a 5.2% decline in comparable same-store sales and a 7.5% decline in total revenues.
Altogether, Target’s stock price has been very volatile lately.
In late November, Target was trading at $78/share. The stock is currently trading at $50.76, which represents a ~35% decline during that time period.
This reminds me of a very appropriate quote from the world’s best investor:
“Whether we’re talking about socks or stocks, I like buying quality merchandise when it is marked down.”
– Warren Buffett
Target is a high-quality business, has a strong online presence, and is expected to grow its earnings-per-share during the coming years.
The company’s stock price may have become irrationally disconnected from its underlying fundamentals. Investors should take advantage of this compelling buying opportunity.
Final Thoughts
Finding stocks that have high dividend yields, long histories of steadily increasing dividend payments and strong growth prospects can be difficult in today’s market.
After all, valuations across the stock market are elevated from normal levels, driving dividend yields down and lowering the future expected returns of equity investors.
To find attractive valuations and high dividend yields, investors often need to look at companies that are experiencing some kind of temporary business difficulty. On this list, Target (eCommerce) and Chevron (low oil prices) both fit this description.
“The best thing that happens to us is when a great company gets into temporary trouble…We want to buy them when they’re on the operating table.”
– Warren Buffett
While these companies are far from being ‘on the operating table’, their stock prices have declined enough to present compelling buying opportunities for dividend growth investors.
