Bummed About Your Wal-Mart Dividend? Here's How To Boost It

| About: Wal-Mart Stores, (WMT)

Summary

Wal-Mart had a very strong dividend growth history for many years.

Recently that has changed as the payout growth rate has slowed dramatically.

This article demonstrates how you can slightly or significantly increase the amount of cash flow that you receive from the security.

Recently, Wal-Mart (NYSE:WMT) announced a $2 annual dividend payment to be paid in four quarterly installments over the coming 12 months. This marks the 43rd consecutive year that the company has not only paid but also increased its dividend. That's the good news.

The bad news, in the eyes of a good deal of income investors, is that the latest increase represents just a 2% year-over-year rise. It certainly beats a freeze, cut or suspension, but it's not exactly the type of thing that you're going to go around bragging about at the dividend growth table either. Moreover, this has become a pattern as of late.

Here's a look at Wal-Mart's per share dividend growth since the turn of the century:

For quite some time, investors got used to seeing double-digit payout boosts. You had a 20% increase followed by a 16% raise, or 9% jumps before 18% increases. From 1999 through 2013, Wal-Mart was increasing its dividend by an average compound rate of 17%. Of course, the payout ratio also increased from around 15% to over 35%, but still that's a solid period of growth.

More recently, this growth has all but halted. What was once a dividend growth darling, with regard to the rate of increases, has turned into your typical slow growing AT&T (NYSE:T) type firm with one-penny per quarter increases.

Now assuredly a reasonable argument can be made for better use of the funds at present or else the expectation of accelerated payout growth in the years to come. Yet I'd like to stick with the most recent increase for a moment longer.

This year, Wal-Mart told you that it's going to pay you 2% more in dividend income. And a lot of income investors might not appreciate this news, especially in comparison to other alternatives and the company's own past. As a result, the income investor might feel "stuck." The choice may appear as follows: either continue owning a company with a slow growing payout, or else sell your shares and move on. Yet I'd contend that your options are not that extreme.

If instead of a 2% dividend increase, Wal-Mart announced an 8% payout boost, I bet that would have made a lot of investors happy. Yet here's the thing: on a single share that's the difference between collecting an extra 4 cents for the year or an extra 16 cents. On a per share basis, we're talking about 12 cents, making the difference between being aggravated with "slow growth" or content to hold a solid income producer.

If you stop to think about it on those terms, the problem may not seem so large. Moreover, we have tools in our investing toolbox to make up for this discrepancy. You can "manufacture" a bit more income growth by selling a covered call. This is where confliction resolution comes into play. You can achieve additional income and you don't have to sell at a lower price to do so.

I'll give you an example to demonstrate what I mean. In the next year, Wal-Mart told you to expect to receive $2 in annual income. You would have preferred that number to be $2.12 or so. Based on 100 shares, that's the difference between collecting $200 or $212 for the year.

As of this writing, the last price for the January 2017 call option with an $85 strike price was $0.23. Let's call it $0.12 to account for transaction costs. So you could agree to sell your Wal-Mart shares at $85 in the next 11 months and receive ~$12 for doing so. (Note that I'm not recommending this, I'm merely presenting a conceptualization of the notion.)

One of two things happens with this arrangement. Either the option is exercised or it is not. If the option is not exercised, you continue holding shares just as you had planned on doing anyway. The difference is that you also received the option premium upfront. (Note this can be taxed differently than dividends.) This is like receiving an income raise of 8% over the previous year, but could actually be a bit better.

For one you receive some of the funds today rather than in a few months or at the end of the year. Moreover, someone else is paying this premium and not Wal-Mart. So the company you hold still gets to retain the funds that otherwise would have gone to "extra" dividends, and you still have an ownership claim.

The second possibility is that the option is exercised. In this case, you would agree to sell at $85, for a total return between 32% and 35% depending on if you collected dividends along the way. You have "capped" your upside here, but a 30% gain in less than a year isn't exactly a great tragedy.

Once more, I'd like to underline the idea that I'm not recommending this strategy. However, I think it points out just how small of a difference "disappointed" and "happy" can be in the income-investing world. If your investment theses change over 12 cents (or even a few dollars during the course of years) then perhaps it is time to reevaluate your underlying partnership decisions.

Moreover, you can make agreements to supplement your income should you so choose. You're not limited to "putting up with" owning a slow growing dividend or else turning your back on the company altogether. As illustrated above, you could increase your yearly income by a greater rate and the downside is capping your gain at 30%-plus.

Of course, this is just one example. Naturally, you don't have to stray so far on the option spectrum. Here's a look at other option possibilities with the same expiration date:

Note that I have no affinity for the January 2017 expiration (many prefer shorter time frames) but it makes an almost annual comparison easy to see. Plus it aligns nicely with Wal-Mart's fiscal year.

In the first column, you have the strike price followed by the premium that you would receive for agreeing to sell at that price - as the price goes up, the premium declines. (I used the recent price less $0.11 for the "net" premium to keep the example consistent.) The "premium yield" represents the additional upfront cash flow that could be derived from selling a covered call. Keep in mind that the option premium may be taxed differently, but the funds are immediately available.

Finally, in the last column, you have the "capped" or maximum gain based on the share price and premium received. You also might receive dividend payments along the way, but this is not yet known. Should shares of Wal-Mart jump 50% and you sold a call, you would be left forced to sell at a lower price.

This table gives you an idea of what's out there. I'm not saying definitely do this or that. I'm simply providing you with a view of what types of potential agreements are associated with owning shares of Wal-Mart.

A lot of people get worked up about a 2% or 5% or 8% dividend increase, but really, you could potentially generate a lot more income in other ways. As illustrated above, you would just have to agree to sell shares at a 30%-plus gain to turn that 2% income growth into 8%. Moreover, if shares did increase 30%, I'd contend that you very well could be looking elsewhere anyway.

If you were content with a 20% gain in less than a year, you could agree to sell your shares at $77.50. In this case, your annual income could go from $1.96 to $2.64. Not a lot of people talk about 35% income increases, but it's obvious that you can generate more than $2 per share from Wal-Mart in cash flow. You're not "stuck" with the low dividend growth rate - in other words, "woe is not you."

If you would be satisfied with a 12% gain, you could double your dividend yield by agreeing to sell at $70. Or if you really wanted to up the ante, you could think about a 9.5% cash flow yield or else a 7% to 10% gain if you agreed to sell at $65. The point is that options are quite literally available to you. It all comes down to personal preference if one (or any) of the agreements is right for you.

In short, Wal-Mart had an exceptional dividend growth history until the last few of years. More recently, we have seen $0.04 annual payout raises and a lot of income investors bemoan this fact. Yet it's important to remember that you're not painted into a "slow growth" income corner. You can do something about it. By becoming aware of potential agreements, you can slightly or significantly increase the amount of cash flow that you receive from owning a security.

Disclosure: I am/we are long T.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.