Price gains hard to come by? Bet on dividends

Most Indian investors believe that equity investing is all about finding spectacular stocks that multiply your money. When you can own such multi-baggers, why pay any attention to dull dividends?

But that may be changing. With stock prices flat over the past five years, dividends have begun to make a big difference to investment returns.

An analysis of total returns for CNX 500 companies in fact shows that investors in as many as 230 companies earned more from dividends than from price appreciation in five years (See table).

There are other reasons too, for investors to look for dividends while buying stocks for the long term.

More predictable

An analysis of all NSE-listed companies shows that dividend payouts have been more resilient to yo-yoing economic conditions than corporate profits.

About 60 per cent of the NSE-listed companies regularly pay out dividends. Over the last five years, these companies, at an aggregate level, managed to maintain dividend payouts when their profits crashed and raise them substantially when profits grew.

Profits of these companies fell by 7 per cent in 2008-09, but their combined dividend payout stayed put. As fortunes turned in 2009-10, and profits grew by 22 per cent, dividend payouts zoomed by 28 per cent.

In short, holding dividend paying companies ensures that even if profits and stock valuations gyrate madly, dividend cheques remain predictable.

Growing cash pile

Supporting the case for going after dividends, Indian companies are sitting on record piles of cash. The cash balances of the CNX 500 companies, at well over Rs 3,00,000 crore, are up 22 per cent in two years.

And re-investing that cash in the business is no longer as easy as it was five years ago.

In capital-intensive businesses, companies are finding expansion plans constrained by raw material availability or regulatory hurdles. High interest rates and the global slowdown have made acquisitions risky too.

No premium for cash

To top it off, the stock market is no longer willing to take note of idle cash on the balance sheet. Stock prices in recent times have barely reacted to companies making windfall gains from land or asset sales.

Reliance Industries, the company with the largest stockpile of cash in the private sector, has seen its stock price under-perform in the past year. The stock is down 18 per cent, losing twice as much value as the Sensex.

In the IT space, Infosys, having amassed cash amounting to 66 per cent of its total assets, is trading at a lower price-earnings multiple (14 times) than HCL Technologies (22 times). The latter expended its surpluses to fund the Axon acquisition in 2008.

In contrast, companies that have been prompt in distributing surplus cash have seen their valuations soar.

CRISIL and GlaxoSmithkline Consumer have doubled their dividend rates in three years while maintaining a payout ratio of 70 per cent-plus. (Payout ratio is that proportion of profits which companies distribute as dividends). Both trade at a premium to the market.

Show us the money

The market’s lukewarm attitude towards cash-rich companies stems from the fact that idle cash balances depress shareholder returns. Post-Satyam, governance issues too have caused investors to look askance at companies with large idle cash balances.

All this has many implications for Indian investors.

Companies that are profitable, but have never considered dividends, may begin to write out dividend cheques.

The low payout ratios of Indian companies offer room to increase dividend rates too. Average dividend payout ratios hover at 26 per cent for NSE-listed companies.

Both trends could change the fact that India is today one of the lowest dividend yielding markets in the world. (The Nifty companies’ dividend yield is 1.6 per cent).

In the meantime, there are already many companies that pay generous dividends and look set to increase dividend rates further.

It is to these companies that stock market investors must turn today, to secure their portfolio.

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