The Short-Term Power of Reinvesting Dividends

| About: Altria Group, (MO)

One of the least discussed topics among financial pundits on TV and in the newspapers is the power of reinvested dividends. It seems that business channels, in an effort to drive ratings, would rather talk about the stock that doubles in price from $15 to $30 as opposed to focusing on solid companies that throw off ever-growing amounts of cash to shareholders on a quarterly basis, year-in and year-out. Whenever someone like Jim Cramer pumps a stock, he’ll throw in that it also has a 3-4% dividend as if it’s an afterthought.

To get an idea of how powerful dividend reinvestment can be, let’s take a look at the performance of Altria stock over the past three years. As most Altria (NYSE:MO) shareholders remember quite well, the company divested its international tobacco arm (Philip Morris International) and snack business (Kraft) to focus on the domestic cigarette market several years ago. Altria shed Kraft Foods (KFT) on March 30, 2007, and broke up with Philip Morris International (NYSE:PM) on March 28, 2008. Let’s pretend that your hypothetical-self decided to invest $10,000 in the standalone company, Altria Group, in April 2008. The stock was trading in the $21-$22 range then, so let’s split the difference and assume you called your broker or went online to place a buy order for 465 shares of MO at $21.50.

Fast forward two months, and you are collecting your first dividends from Altria, in the amount of $0.29 per share. This gives you the option for $134.85 in cash, which you decide to plow back into the dividend reinvestment plan to increase your overall stake in the company by acquiring more shares. Altria closed at $20.72 that day, and you find yourself the owner of 6.51 new shares of Altria, bringing your total to 471.51 shares of Big Mo.

When the next quarter’s dividends roll around, you decide to do the same thing. However, Altria’s Board of Directors voted to raise the dividend from $0.29 per share quarterly to $0.32, so your yield on initial investment just got a nice little bump up. You’re now able to buy $150.88 worth of Altria stock, and at a closing price of $20.91, you’re able to purchase 7.22 more shares, bringing your total to 478.73 shares. Come December, you do the same thing, earning 478.73*$0.32=$153.19. At this time, the USA was in the throes of recession, so you were able to reinvest at $14.73, giving you 10.40 shares, bringing your total up to 489.13 shares.

Now you’re ready to roll into the year 2009, ready for your Altria dividend train to continue to pick up steam. In March 2009, you receive a dividend for $156.52, netting you 9.60 more shares, at $16.30 a piece, bringing your total to 498.73 shares. Come June, you were able to pick up 9.47 more shares, giving you a total of 508.20 Altria shares.

Come September 2009, Altria has raised its dividend yet again, this time to $0.34 per share. On September 11th, 2009, you received $172.79 in dividends, netting you 9.53 shares. Just in time for the New Year, you received another $0.34 dividend from Altria. In addition, in December 2009, you picked up 8.81 shares, making you the owner of 526.54 MO shares as you enter the year 2010.

2010 was another nice year for Altria shareholders, as owners received a raise to $.35 per share in the first half of the year, coupled with a raise to $0.38 per share in the second half. Your four dividend payments in 2010 netted you: 9.05 shares in March, 9.34 shares in June, 8.82 shares in September, and 8.46 shares in December. By the end of 2010, you would have owned 562.21 shares of Altria.

Going into 2011, Altria maintained its $0.38 per share payout through the first half of the year. In March, your 562.21 shares would have earned you a $213.64 payout, giving you 8.53 more shares. And this past June, you would have 8.05 more shares, bringing you to a grand total of 578.79 shares.

Now of course, Altria is an unusual example in that they have raised their dividend multiple times per year, and they have committed to paying 80% of the earnings to shareholders as dividends. But as the numbers show, that is not necessarily such a bad thing. Over the course of three years, you would have raised your Altria share count from 465 to 578.79.

You received $134.85 per share in dividends in 2008, now you’d be receiving $219.94 per share, and that number continues to grow. Your initial dividend yield on Altria would have been 5.39%, now your effective yield on initial investment is 8.80% just three years later. This is important to keep in mind. If you hear Jim Cramer say that Altria has only gone up from $21.50 to $26.30 since April 2008, that doesn’t quite tell the whole story. If you don’t take into account dividends, you might think your investment has only grown from $10,000 to $12,229.50. But counting reinvested dividends, you would now have $15,222.18. In just three years.

As this example makes clear, the power of reinvested dividends has been the difference between 52.2% returns and 22.29% returns for shareholders of Altria. And for companies that grow their dividends year-in and year-out, those returns will only magnify.

N.B.: I used the closing price of Altria stock on the dates of the dividend payments, and I rounded to the nearest hundredth of a cent for my calculations.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.