It's the third of January, Apple (NASDAQ:AAPL) is down a massive 39% from the top and 10% from just the day before when Tim Cook sent out his letter, warning of lower revenue for both the last quarter of 2018 and the first quarter of 2019. It really felt like this was it. The great trillion dollar market cap company had left its best days behind it.
As it turns out, though, the third of January was a very good day to buy this stock. The stock is up a massive 24% from that low -- and that in just two months! That leaves us with a question: Is Apple a good buy for dividend growth investors at these levels? My answer is yes. My reasons are twofold: 1) Apple has the capacity to increase its dividend massively for many years to come; and 2) The company has a solid base with its products revenue and a rapidly growing services revenue. These factors are enough to ensure growth for many years to come. On top of this, there is the opportunity for new products or services that investors do not factor into the stock price at this point.
You wouldn't be the only investor to be scared of that drop at the end of 2018 and into 2019. Stomaching a close to 40% drop in the value of your investment is not nice, even if you told yourself you hold the stock for the dividend. Over the longer term, however, it has done quite well for its investors. The stock is up 130% from approximately $76 in March 2014 to the current level of roughly $175. That is a very respectable 18.1% per year. Adding in the approximate annual dividend yield of 1.7% leaves investors with an annual total shareholder return of almost 20% over the last five years. Nice!
Apple's Dividend History
Though it is by no means a dividend aristocrat, Apple has all the trappings of a future dividend aristocrat. Steady annual hikes, massive cash flow generation and a huge cash pile all make a solid foundation for consistent hikes going forward. It is also well under way in terms of number of years. Currently it has raised its dividend for six straight years and that will soon turn into seven.
As we can see from the chart above, the dividend is increasing nicely year after year, as we have become accustomed to. Between May 2014 and May 2018, when the dividend was last hiked, it increased from $0.47 to $0.73 for an increase of 55% or an average annual increase of 11.6%. Last year the average was pulled up as the dividend increase was a full 16% from $0.63 to $0.73. Dividend growth investors have gotten exactly what they were looking for from this stock.
The payout ratio is naturally a bit more volatile but overall it has a very good downward trend from almost 30% in 2014 to 23.5% currently. Needless to say, a payout ratio of less than a fourth of earnings is very conservative by any standard. We can safely conclude that the dividend is safe and that there is ample room to increase it for many years to come -- even without underlying earnings growth.
Upcoming Dividend Hike
Just around the time April turns to May is when Apple investors have become accustomed to getting some good news from Apple as that is when the Board announces the dividend increase. Last year it was May 1st whereas it was announced on April the 26th two years ago. It seems to be consistent in declaring it on a Tuesday, so this year the likely date will be Tuesday, April the 30th.
In trying to discern the magnitude of the coming dividend increase, we should look a little bit into how the business is doing. For better or worse, Apple is very dependent in iPhone sales as this constituted a full 62% of revenues last fiscal year. Especially after the letter from Tim Cook, there is significant concern about the trajectory of iPhone sales going forward. Any negative deviation will obviously have a large impact on overall Apple results given the very high share of revenues. Hopefully a trade deal will rectify the current iPhone troubles in Greater China, but there is still a risk that the problem is deeper. In his letter he also noted that iPhone upgrades were slower than anticipated in several developed markets. This could signal that iPhone will not be the golden goose going forward as it has been historically.
On the bright side, Services, Mac and Wearables are all growing rapidly and set an all-time revenue record last quarter. In addition, earnings per share also reached a record $4.18, representing a growth rate of 7.5%. Services revenue grew by 19% to a quarterly level of $10.9 billion. This is 13% of total revenues. There can be no doubt that Services is growing rapidly. The good news is that the base level is now also high which means that its growth rate now has a material impact on the overall revenue development of the company. Therefore, if the company can manage flat or slightly rising iPhone sales, the long term revenue development of this company is very bright, indeed.
The smallest dividend increase this company has offered investors over the last six years is 7.9%. This happened way back in April 2014 when the dividend pre-split was increased from $3.05 to $3.29. An increase like this will be an absolute minimum, in my opinion, considering that even in a bad quarter this company manages to grow earnings per share by 7.5%.
Aside from the low increase in April 2014 and the exceptionally high increase last year, the Board has tended to declare a dividend hike of plus-minus 10%. With a payout ratio of less than 25%, the Board certainly has a lot of headroom. Given that the Board has historically been quite conservative with its dividend increases, my prediction is that they will offer an increase of 10-12% for a new quarterly dividend of $0.80-$0.82. This way the payout ratio will only rise slightly even with EPS growth somewhat below the double-digit level.
As has become readily apparent to all, a major risk for Apple is shifting preferences in the global smartphone market. If consumers choose to delay upgrades or shift to competing brands, of which there are many, revenues and earnings will hurt. Additionally, the smartphone market used to be a high-growth market, but as most people who want and can afford a smartphone already has one, the market has become saturated, as evidenced by the small industry-wide volume decrease in smartphone shipments in 2018.
A further risk is global trade tensions as this can disrupt supply chains and slow sales due to potential tariffs. Lastly, currency is also a risk for Apple as the majority of its revenues, -- 62% in Q1 -- comes from abroad. A rising U.S. dollar will reduce earnings as reported in U.S. dollars when sales in foreign currency is converted to U.S. dollars.
In order to see if the Apple stock price is currently offering a good entry point for investors, I will look at some key metrics and compare it to two of its competitors. As a peer group, I've chosen Samsung (OTC:SSNLF) and Microsoft (NASDAQ:MSFT).
In the Price/Sales category, Apple comes in second place with Samsung the clear winner and Microsoft far more expensive than the other two. The same for Price/Earnings, where Samsung is significantly cheaper than the other two, though Apple's ratio is not at all high. Rather, Samsung is priced very low for such a large, global company.
As for the dividend yield, Samsung also wins that category. It should be noted that the numbers are, however, much closer here. Microsoft and Apple are priced practically at par with each other. The wider market, as represented by the S&P 500 currently offers a dividend yield of 1.8%, so both companies are giving investors slightly less than the market. This, in my opinion, is as expected from solid companies that are expected to grow decently over the long term. Fairly low risk with decent growth should be priced at a premium. That said, Apple is priced downright cheaply on earnings, as it has been for a long time. Investors are therefore taking on limited downside risk if they enter this stock at the current level.
Analysts on Wall Street expect Apple to produce an average annual earnings growth of 13% over the next five years. Assuming this comes to pass and assuming no change to the earnings multiple -- a conservative assumption given the low ratio -- and adding in the dividend yield, we arrive at an expected annual total return of 14.7%. This is very good considering the enormous size of this company, its global reach, its rock-solid balance sheet and its consistent dividend growth. Even after the recent rebound, Apple shares offer dividend growth investors a good entry point currently. Investors should take note and add this money machine to their portfolios.
Apple has given investors a dividend raise every year for six years straight. That will soon turn into seven years. The stock took a real beating at the beginning of the year and has since rebounded nicely -- but it still offers investors a nice entry point. There are risks and several growth concerns currently at Apple. Even so, the current problems are not large enough to have any impact on the dividend or to hinder growth of that dividend for many years to come. Expect Apple to announce a new quarterly dividend of $0.80-$0.82 in late April. The decent dividend yield and the solid long term growth of that dividend will likely provide investors with market-beating returns over the long term. Apple should be in your dividend growth portfolio.
Disclosure: I/we 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.
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