Hey guys all over the net I see people advising that coke is a stock to hold forever but I see their payout Ratio is over 99% which is crazy high right? Doesn’t this mean that future dividend growth is nonexistent? Same with Qualcomm which is over 151% which is confusing. My research tells me anything between 20-70% is good.
I’m a little dubious on Coke. There are a number of ‘one-time costs’ that Coke has had to encounter over the last few years, mainly due to acquisitions & a few write-downs. The 99% is vs earnings rather than FCF (free cash flow) so it depends how much you want to get into the detail to see if this is relevant or not - earnings will be lowered by one-time items, FCF won’t be.
My issue with Coca Cola is that it has had a LOT of ‘one-time’ costs in recent years. Back in 2017 its payout ratio was around 150% of earnings and this has come down, but not significantly. There are a couple of things at play here that you’ll need to consider:
- Coke returns a lot of cash to shareholders, both in dividends and buybacks. It generates a tonne of cash and has low operating costs so it can continue to return that cash.
- The ‘big’ brands that it owns in the ‘western world’ are in perpetual decline (eg sugary drinks aren’t as popular as they once were). So the growth from these big brands has to come from emerging markets (where growth is pretty good). Sugar taxes around the world have played their part here too.
- Related to point 2, the company has had to invest a lot in lower margin drinks and new, less established brands in recent years to keep earnings stable in the developed markets.
Coming back to your question, the payout ratio on its own isn’t that alarming as it can easily be covered by FCF. I guess future dividends and (more importatnly) dividend growth come down to how well established the new Coca Cola is with its ‘total beverage company’ ambitions.
For me, Coffee, water & fruit juice are either low margin or high cost (or both) for Coke to be able to keep up its quite frankly, amazing dividend record into the long term. But i have to stress long term here, bottles of coke aren’t going away anytime soon & Coca Cola has an amazing management team that isn’t going to let that dividend paying record slip anytime soon.
Over 5 years, I doubt Coke will have any issues maintaining or even growing its dividend. But past that, it comes down to how quickly consumer behaviour changes in those emerging markets its not targeting.
I haven’t researched Qualcomm but I do know that most of the big tech players are pssd at paying their royalty fees (which makes up the bulk of their profits I believe). Its the ultimate patent troll & I think most of the tech players will look to move away to their own tech moving forwards. Not an area of investment for me though so I’ve given you everything I know in those 3 sentences
Thanks a lot for that mate. I thought that closer to 100% was bad. I didn’t realise a company could lower the payout Ratio %. What can they do to lower the %?
Hi Louis. Sure dividend does analysis on all of the US Dividend Aristocrats of which Coca Cola is one.
Anytime, hope it helps.to lower the ratio they have a few options:
- cut the dividend. Not really an option for the ultimate dividend king
- Increase earnings faster than the dividend increases.
It’s important to understand what earnings is/are. Essentially it’s an accounting snapshot, like a picture taken during a movie - it might tell You a lot but some argue it doesn’t tell you the whole story. Earnings can increase or decrease each quarter based on external factors (tax changes, accounting practice changes etc) or because of one time costs. This is why some people (Ben Graham and Warren Buffet are famous examples) prefer to look at FCF as (they believe) this is more true sense of overall business strength - FCF is kind of like the movie in the picture-movie analogy I gave before. That being said, earnings & accounting practices formalise and make businesses and executive teams accountable to the market - so you would be foolish to ignore them.
I’d back the video posted by @Richard. These guys do great work and I watch all their videos. A small note of caution though…
…their ‘long term’ is typically the next 12 months. They are very much caught up in the quarterly earnings rush that the US market has. On it’s own it’s not a bad thing but I do think it’s not fair to call it ‘longer term’ as they often do. Their videos wouldn’t catch a business that is in structural decline, in my humble opinion.