Avoid These 5 Dividend Stocks

 |  Includes: DELL, HPQ, IBM, INTC, MSFT
by: Dividendinvestr

Several IT companies reported earnings recently, showing notable deterioration in financial performance. Intel (NASDAQ:INTC), the world's largest chipmaker by revenue, reported third-quarter sales at the top of previous guidance and beat earnings estimates. However, sales were down 5% over the past year and EPS was 14% lower than in the same quarter of last year. Microsoft (NASDAQ:MSFT), the world's largest software maker, saw its first loss in 26 years as a public company, due to write-offs and revenue deferrals. Its quarterly sales and EPS were down markedly, missing analyst estimates. IBM Corporation (NYSE:IBM) also reported lower revenue, although its EPS beat analyst estimates.

The main culprit behind the weak performance of these IT bellwethers is a severe decline in the PC demand. While enterprise revenues continued to perform well, the PC demand plunged. IT research firm IDC reported an 8.6% decline in PC shipments in the third quarter on a year-over-year basis. Another IT research company, Gartner, reported total PC shipments were down 8.3%. IHS iSuppli, a research firm, predicts that "global PC shipments for the year (will) decline for the first time since 2001." The overall count will fall by about 1% to 349 million units. The PC market is on a secular decline amid a robust rise in the demand for mobile computing devices such as tablets and smartphones. This trend is likely to persist, spelling trouble in the future for many traditional PC market players.

Here is a quick look at several dividend-paying stocks that are likely to be adversely affected by the PC market's slow descent. Some of the five stocks featured below pay high dividend yields and boast attractive fundamentals. However, investors are cautioned to scrutinize these stocks carefully before investing.

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Hewlett-Packard Company (NYSE:HPQ) has seen its sales and EPS plunge since 2010 amid the general weakness in the industry and fierce competition that has significantly squeezed margins in the industry. To describe the competitive landscape, HP's top spot in the number of PC shipments has been overtaken by Asian PC maker and IBM's alliance partner, Lenovo Group (OTCPK:LNVGY). HP is having a difficult time competing on costs with Asian rivals and is focusing on cost cuts as part of its five-year strategy. The company is focusing on more profitable hardware, software and services for businesses. Still, the company's CEO has recently stated that she "expects a broad-based profit decline in 2013." She cautions that in 2013 the bulk of the profit decline will be in enterprise services. Meg Whitman forecasts a "real recovery and expansion at HP," with "every business unit recovering and growing," only as of 2014.

HP currently pays a dividend yield of 3.6% on a payout ratio of 14% of last year's free cash flow. The company is currently operating at a loss. HP's rival Dell Inc. (NASDAQ:DELL) pays a dividend yield of 3.3%. Over the past five years, HP's EPS and dividends grew at average annual rates of 8.9% and 9.5%, respectively. Analysts forecast that HP's EPS will expand at an average rate of 3.6% per year for the next five years. HP has a high free cash flow yield of 12.7%; its ROE and ROIC are negative at present. As regards its valuation, the stock has a low forward P/E of 4.0x, which compares to Dell's forward P/E of 5.9x and IBM's at 12.1x. Some market observers view HP as a value trap. The HP stock is trading near its 52-week low, down nearly 42% over the past year. Among fund managers, Ralph V. Whitworth (Relational Investors) and Baupost Group's Seth Klarman hold large stakes in the stock.

Dell Computers is experiencing the same headwinds as HP. Dell beat earnings estimates when it reported financial performance in August; however, its sales and outlook disappointed. The company said that "growth in (its) PC business was challenging," amid tough macroeconomic and competitive environment. The company continues to focus on higher-value solutions and cost cutting. Over the past five years, Dell's EPS grew at an average annual rate of 10.6%. Analysts forecast that the company's EPS will expand at an average annual rate of 3.3% for the next five years. To make its stock more attractive in the current environment, Dell will be paying a quarterly dividend as of October 2012. Currently, that dividend is yielding 3.3% on an annual basis. Dell's dividend payout ratio is 19%. The company's main rivals HP and Lenovo Group are paying dividend yields of 3.6% and 2.2%, respectively. Dell has a free cash flow yield of 15.0%, ROE of 33.5%, and ROIC of 19.4%. In terms of its valuation, Dell's forward P/E is higher than that of HP, but well below that of the computer hardware industry. The stock has fallen nearly 40% over the past 12 months. Fund manager Mason Hawkins (Southeastern Asset Management) holds almost $1.66 billion in the stock.

Intel Corporation produces microprocessors that power about 80% of all PCs sold. The slowdown, which has hurt the chipmaker's financial performance, has also prompted the company to cut back production. Over the past five years, this company saw its EPS and dividends grow at average annual rates of 22.8% and 14.3%, respectively. Analysts now forecast Intel's EPS to expand at an average rate of 10.7% per year for the next half decade. The company's capacity to adapt to the changing environment, characterized by a strong growth of mobile computing devices such as smartphones and tablets, will influence its future growth potential. Motorola has started selling an Intel-powered smartphone, while Acer is in the process of launching a similar phone soon. Intel's current dividend yield is 4.1% and its payout ratio is 39%. Competitors Texas Instruments Inc. (NYSE:TXN) pays a dividend yield of 3.0%, while rival Advanced Micro Devices, Inc. (NYSE:AMD) does not pay any dividends. The stock boasts a free cash flow yield of 4.8%, ROE of 25.4%, and ROIC of 22%. As regards its valuation, the stock has a forward P/E of 10.6x, which is below Texas Instruments' ratio of 16.1x and AMD's of 11.9x.

Microsoft Corporation is the world's second largest IT company by market capitalization. This software giant has seen lower sales due to a declining PC market but also because of deferred PC purchases due to its upcoming Windows 8 release, slated for October 26. The company has been fighting weak PC sales by growth expansion in the enterprise market. The trends in PC sales post Windows 8 release will be telling how much the demand for PCs is weak due to secular trends and how much due to a temporarily effect of deferred purchases. It looks likely that the company will continue to shift its sales efforts toward higher-margin enterprise business. With this in mind, analysts expect the company's EPS to expand at an average annual rate of 8.9% for the next five years. Over the past five years, Microsoft's EPS and dividends expanded at average annual rates of 7.0% and 14.9%, respectively. Microsoft's dividend yields 3.1% on a payout ratio of 46%. Peers Apple Inc. (NASDAQ:AAPL) and Oracle Inc. (NASDAQ:ORCL) yield 1.6% and 0.8%, respectively. Microsoft's stock boasts a free cash flow yield of 9.2%, ROE of 27.5%, and ROIC of 22%. In terms of its valuation, Microsoft's forward P/E of 9.3x compares to 12.7x for Apple Inc. and 11.5x for Oracle Inc.

IBM Corporation posted weaker than expected revenue for the fifth straight quarter. Revenue was weak in both hardware and software segments, especially in software services and mainframes and storage products. The push toward higher margin areas has helped IBM grow its bottom line faster than many of its peers in recent years. IBM has also expanded its reach in emerging markets, which bodes well for future growth, although in the near-term sales in those markets have been lackluster as well. Currently, IBM's stock is yielding 1.6% on a payout ratio of 24%. Its competitors HP and Microsoft are paying higher dividend yields, though IBM has shown higher rates of dividend growth over the past several years. Over the past five years, IBM's dividends grew at an average rate of 18%, while its EPS expanded at an average annual rate of 16.6%, despite the recession earlier in the period. Analysts forecast that IBM's EPS will rise at an average rate of 10% per year for the next half decade. The stock has a free cash flow yield of 5.4%, ROE of 75%, and ROIC of 36%. As regards its valuation, the stock is priced at a forward P/E of 12.1x, which is higher than Microsoft's and HP's ratios, albeit HP is lacking growth and is viewed by some as a value trap. Legendary investor Warren Buffett owns more than $13 billion in IBM's stock.

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