Dividends Seem Unimportant, but for How Long?

In the corporate drive to get--or stay--lean and mean, the cash dividend is increasingly the sacrificial lamb. Shareholders, so far, have accepted this without much complaining. But will the day come when dividends matter again?

AT&T; Corp., in choosing to split into three separate companies, is trumpeting the idea of “boosting shareholder value.” With the stock up $6.125 to $63.75 after the breakup announcement on Wednesday, the decision seemed to have the desired effect.

But there is another way AT&T; could have returned value to shareholders in recent years: by boosting its cash dividend payment. Instead, Ma Bell has maintained the same annual dividend rate of $1.32 a share since 1991, despite having ample earnings with which to fund a bigger payout.

Likewise, the seven Baby Bell phone companies, which in the 1980s could be counted upon to faithfully and substantially raise dividends each year, have followed Ma’s lead since 1992. Four of the Bells have increased dividends only marginally or not at all since then; the best dividend-booster of the seven is SBC Communications (Southwestern Bell), and its payout has risen just 13% since ‘92, while earnings are up 38%.

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That trend toward slimmer dividend increases, even as profits have zoomed, has been repeated across Corporate America in the ‘90s. While it’s true that the number of companies hiking dividends has risen each year since 1990, the percentage of per-share profits they’re returning to shareholders--the “dividend payout ratio”--has shrunken dramatically.

When 1995 profits and dividends are tallied at year’s end, Standard & Poor’s Corp. estimates that the payout ratio for the blue-chip S&P; 500-index companies will be a record low 37% this year, down from 44.1% in 1994.

Of course, the payout ratio always expands and contracts with profit cycles. It’s usually at its peak in recessions (when most companies maintain their dividends despite lower earnings) and drops as earnings improve in economic booms. The point is that, this time around, many companies are choosing to pay out less of their record earnings to shareholders than ever before. That also is reflected in the average dividend yield, now about 2.5% for blue-chip companies, a record low.

We all know the corporate reasoning going on here. The competitive environment worldwide is tougher than ever, so American companies feel the need to retain their earnings and reinvest them in the business. In the case of the phone companies, pending federal and state deregulation will open new markets to the Baby Bells and let other companies onto their turf.

Some of the Bells are quite blunt when asked about higher dividends. “People should not expect dramatic or consistent dividend increases from us,” a spokesman for BellSouth in Atlanta says.

Nor can income-seeking investors blindly trust electric utility stocks for rising dividends anymore, with deregulation looming in that field.

For utility and non-utility companies alike, stinginess with dividends usually is explained to be for investors’ benefit. “What corporations argue is that . . . they’re making better use of that money in shareholders’ interest,” notes Arnold Kaufman, editor of S&P;’s Outlook investment newsletter.

Yet it’s a good bet that AT&T; shareholders would rather have claimed some of the cash that AT&T; has blown on NCR Corp. over the past few years. AT&T;’s 1991 acquisition of NCR, for 203 million AT&T; shares, has been a boondoggle. If the acquisition had never happened AT&T;’s subsequent earnings per share could have been higher, thereby increasing the company’s wherewithal to pay higher dividends.

The point of paying out a reasonable share of profits in the form of dividends is that it lets investors decide how to allocate capital. True, the tax code doesn’t favor dividends: They’re taxed at higher rates than capital gains. And for that reason alone, corporate pledges to return capital to shareholders by buying back stock instead of boosting dividends appeal to many investors.

Indeed, it has become fashionable in this bull market to argue that dividends no longer matter. But that proclamation dangerously mocks history.

If nothing else, dividends provide a cushion for stock prices because they are something tangible, something more than corporate management’s soothing intonation to “just trust us.”

“Dividends are real money you can go to the store with,” notes Geraldine Weiss, whose Investment Quality trends newsletter in La Jolla focuses on companies that still believe in sharing the wealth. When this bull market finally ends, Weiss predicts, companies and investors who now eschew dividends “will find that they really did matter, much to their regret.”

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Miserly Payouts

The percentage of corporate earnings being returned to shareholders via dividends is expected to fall to a record-low 37% this year.