The return on investment you deserve

Shareholders earn more if their company pays a dividend. And they deserve one: They own the company.

By Edward von der Linde

from the December 12, 2007 edition

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Jersey City, N.J. - It used to be that when it came to dividends, investors could literally count on the check being in the mail.

Dividends were traditionally the way companies distributed excess earnings to shareholders. They represented an investor's slice of the corporate pie. Even when investors couldn't count on their stock appreciating, they could bank on their dividend income.

Yet the time-honored practice of paying dividends appears to have lost some of its luster over the past two decades. Once the apple in the corporate pie, the dividend has become more like the mincemeat of fillings: People have heard about it, but they rarely taste it.

Companies should reverse this trend and restore the practice of paying dividends as a matter of principle. Shareholders own the company; the earnings are theirs, so companies should give them back.

The good old days: Shared earnings

Until the mid-1990s, dividends were used by most American corporations of any size to return value to shareholders. From 1926 to the present, dividends represented, on average, 40 percent of the total return of the stocks in the S&P 500 Index.

Moreover, it used to be that a company's dividend policy said something about the company. Raising the dividend reflected optimism about a company's earnings prospects. Lowering it usually was a harbinger of tough times. Suspending or eliminating it was a bad omen.

For companies whose shareholders number into the thousands, dividends are the most direct way to interact with their owners.

Dividends also impose a measure of accountability on managers who may not directly own a big enough stake to cause them to act in the best interests of the company, rather than their own.

The dividend disappears

But today, fewer companies are sharing the earnings pie with shareholders. And when they do, the slices are considerably thinner than they once were. Payout ratios – the percentage of earnings returned to shareholders – are at all-time lows.

In 1980, at a time when companies typically paid out more than half their earnings in dividends, 94 percent of the companies making up the S&P 500 Index paid dividends. Today, 75 percent, or 373 companies, do.

It used to be that a blue-chip stock was a large stock with not only substantial revenues, earnings, and cash flow, but also a big dividend, and usually a big dividend yield. Since the 1920s, US stocks have returned, on average, 10.4 percent a year, with 40 percent of that generated by dividends. And that includes the last seven or eight years of record-low dividend payouts. But nowadays even a blue chip doesn't conjure the image of dividend payout.

In 1985, investors in blue-chip stocks could expect a nice dividend yield on top of potential capital appreciation, or increase in share price. The companies that make up the S&P 500 Index were yielding an average of around 3.5 percent, and the top 15 stocks were yielding 4.5 percent.

Today, the S&P 500 Index is yielding just 1.8 percent (as of June 30, 2007), and the companies making up the index are expected to return just 30 percent of their earnings in dividends in 2007 – a record low.

The average yield of the 30 stocks in the Dow Jones Industrial Average is just 2.1 percent, slightly higher than the broader S&P 500 Index, but well below historical payouts.

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