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Southern Company is a solid example of a utility that more or less plods along over the years. Eventually this leads to a higher share price, but this certainly doesn’t have to happen instantly or on anyone’s schedule. This article looks at the concept of collecting dividends while you wait for the business performance to be reflected. In the income world, there’s a general phrase that goes something like this: “I’m getting paid to wait.” The idea is that stock prices are finicky, especially in the short term, but dividend payments tend to be much more consistent. If you’re primarily focused on the cash stream an investment throws off, you’re apt to be much better prepared to withstand the natural unpredictability of other people’s bids. Whether the share price goes up or down, sideways or shoots to the moon, that dividend payment is there regardless. You get paid for being a part owner of the company. John Neff had a particularly applicable quote in this regard: “As I see it, a superior yield at least lets you snack on hors d’oeuvres while waiting for the main meal.” That’s the sort of sentiment that allows you view business and investment performance rationally. Instead of relying on bids of what other people may or may not be willing to pay, you can focus your attention on being a partner in a successful enterprise. Eventually the main meal (capital appreciation) comes along anyway , but in the interim, it can be useful to see cash coming your way. I’d like to illustrate this notion using Southern Company (NYSE: SO ), a southern electric utility, as an example. On September 9, 2014, shares of Southern Company closed at just under $44. On September 10, 2015, shares closer around $42.50. Now instantly this is a great way to determine whether you happen to have a short-term or long-term investing mindset. For the short-term speculator, this would be pretty bad news. You need things to happen quickly and on your schedule. Seeing a security decrease in price, especially if you want to sell, simply isn’t great news. Your plans for a quick profit have been thwarted. On the other hand, the long-term investor has a few things to cheer. First, let’s think about the income side. Last year you would have been in the middle of collecting a $0.525 quarterly dividend payment, or $2.10 on an annual basis. On a $10,000 investment, for example, this would equate to about $477 in dividend payments. This year you would be collecting a $0.5425 quarterly dividend payment, or $2.17 on an annual basis. Without you doing anything on your part, your income would grow to $493, or an increase of about 3.3%. If you choose to reinvest, you could add 11 or 12 shares, to further increase your income by about $25. In other words, 3.3% per share dividend growth could have turned into 8.6% total income growth . Speaking of reinvesting, you can now do so at a lower valuation and thus higher yield. More than that, you could commit new capital with a better value proposition. Your investment buck now goes a bit further. If an investment is eventually going to be worth much more — which, incidentally, is near certain given increasing earnings and dividends over the long term — I want the opportunity to buy as much as I can at the same or lower price in the interim. If I’m regularly buying gasoline or my favorite cereal, it harms my purchasing ability when prices rise. Higher gas prices take away from funds available to buy cereal and vice versa. That much is plain. The same holds for stocks. With no intention of selling in the short term, and indeed an inclination to buy more, lower prices are what one ought to be rooting for. Receiving and reinvesting a dividend along the way can help illuminate this mindset. You’re regularly buying more. And naturally it isn’t just limited to a one-year timeframe. Share prices do all sorts of things over longer periods of time. In September of 2011, shares of the Southern Company were trading around $41. Today, as noted, this number is closer to $42.50. Once more this looks like rather sour news — four years and barely any price appreciation whatsoever. Yet not all it lost. In fact, it good be good news if you’re looking to accumulate more and increase your overall cash flow. First, you would have also received dividends along the way — to the tune of $8 per share owned. As such, your average compound gain would have been over 5% per year. Certainly nothing to text home about, but clearly quite far from negative returns. Dividends don’t get their fair share in stock charts, but they can certainly be a central component of returns. Just as important is that you get to reinvest at similar prices in an improving business. The share price is about the same, but the underlying earnings power and cash flow generated has increased; thus creating a “springboard” type effect. Here’s a look at the September 9th closing price and subsequent dividends an investor would have received during the past four years: Share Price Dividends 2011 $41.32 $1.93 2012 $45.91 $2.00 2013 $41.23 $2.07 2014 $43.97 $2.14 2015 $42.46 If you looked at a stock chart, you might think that you more or less broke even. If you add in dividends, you’d know you’re well above “breaking even.” For you to see a negative return in nominal terms, you would need the share price to be under $35 — equating to a dividend yield over 6%. This is possible, but less and less likely as the time goes on and the payout continues to increase. Just as important is the idea of reinvesting. With a $10,000 beginning investment, you would start with approximately 242 shares turning out $457 in annual income. This year you would be on your way to collecting $525 in payments, or a 15% increase. This is without any effort on your part and by simply collecting the payments. If you chose to reinvest, those 242 shares could have become 290 shares, generating $630 in annual income or a 38% total income increase. The shares would be worth about $12,300 today. To simply “break even” you would once more need a share price under $35. Moreover, this doesn’t account for the larger income stream to be received. In short, something like the Southern Company is a good example of the concept of dividend hors d’oeuvres . The idea is that an ongoing, stable and increasing dividend allows you to keep focused on the business. You get to snack while the price bounces about. In fact, you get a bit more out of the process when the share price stagnates or even declines. If your time horizon is long enough, eventually it becomes very difficult for a profitable and growing business to not be worth more. As seen above it can go years with a similar share price, but sooner or later investment performance and business performance tend to even out. Further, once you add in dividends and reinvestment, it becomes especially difficult to not get richer over time . Yet before that time comes, a lot of things can happen. By focusing on the appetizer — in this case the dividend — you can stay focused on the long-term success of your partnerships. Disclosure: I am/we are long SO. (More…) 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. Scalper1 News
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