I’ve talked about growing profits and cash piles for a while now (read more), but at some point investors and board members get restless and demand action (Steve Jobs has not yet). The most recent blue-chip company to make a splash, when it comes to capital management, is Microsoft Corp. (NASDAQ:MSFT), which just announced a significant +23% increase in its dividend in conjunction with $4.75 billion in debt offerings. These capital structure changes still leave plenty of room for additional share repurchases and acquisitions.
Debt Offering – Are You Sure?
Huh? What in the heck is Microsoft doing borrowing money? I mean, does a company with $44 billion in cash and investments, generating a whopping additional $22 billion in free cash flow in fiscal 2010 (ended in June), really need access to additional capital? The short answer is “NO.” But a company like Microsoft borrowing $4.75 billion is like Donald Trump borrowing $50 on his credit card. Well wait, “The Donald” has actually had some hair and Chapter 11 problems, so the more appropriate analogy would be Bill Gates borrowing $20 on his credit card. Not only is it a rounding error, but it’s a good financial management practice for corporations to take advantage of the debt tax shield (read definition).
What makes Microsoft’s debt issuance that much more incredible is the astonishingly low rates the company is paying investors on the debt. According to Dealogic, Microsoft set a record low for yield paid on corporate unsecured debt. For the separate maturities ranging from 2013 to 2040, Microsoft paid a stunningly low 25-83 basis point spread over Treasuries. I don’t want to get into government credit worthiness today, but who knows, maybe Microsoft will pay lower debt rates than the U.S. Treasury, in the not too distant future?!
Regardless of the array of capital structure management strategies used by other companies, Microsoft is not alone in dealing with its cash hoarding problems. Cisco Systems Inc. (NASDAQ:CSCO), another blue-chip cash printing press, just announced the initiation of a 1-2% dividend to be paid by the end of their fiscal year ending in July 2011 (read more about dividend cash “un-hoarding”).
But Who Cares?
Who cares about Microsoft’s wimpy 2.62% yield anyway? Well, for one, I sure care! A 10-year Treasury Note is yielding a measly, static 2.55%. If Microsoft continued on the same dividend path growth over the next five years as it did over the last five years, investors could potentially be talking about a 5.2% yield on our initial investment, and this excludes any potential stock price appreciation. With only roughly a 25% payout ratio on Microsoft’s fiscal 2010 free cash flow, the company has a lot of freedom to hike future dividends, even if earnings don’t grow. Microsoft has also enhanced shareholder value by putting its money where its mouth is by purchasing over $30 billion of company stock over the last three years.
The extreme case of dividend growth is Wal-Mart Stores (NYSE:WMT), which if purchased in 1972 would provide a +2,300% yield on the original investment, excluding any benefit from the massive price appreciation ($.05 split-adjusted per share to $53.65). Microsoft is no young chick like Wal-Mart 40 years ago, but you get the gist (read Dividend Sapling to Fruit Tree).
So while strategists and economists fret about the possibilities of a “double dip” recession, in the interim there have been 179 companies in the S&P 500 index that have hiked dividends in 2010 (versus only 3 companies that have cut). Microsoft has been no slouch either, growing revenues by +22% and EPS (Earnings Per Share) by +50% in their most recent fiscal fourth quarter. Although Microsoft’s stock is down -20% for 2010, the capital management and dividend splash recently announced by Microsoft (and other companies) should eventually capture the eye of investors currently earning squat on overpriced bonds and almost worthless Certificates of Deposit.
DISCLOSURE AND DISCLAIMER: Sidoxia Capital Management and some of its clients own certain exchange traded funds, CSCO, and WMT, but at the time of publishing Sidoxia Capital Management had no direct position in MSFT, or any other security referenced in this article.