The Enduring Appeal of Dividends

There was a time when some of the most popular publicly traded companies, such as Microsoft MSFT, Intel INTC and Apple AAPL, did not pay dividends. Management contended that capital was better deployed for acquisitions, and in research and development rather than cutting a dividend check to the shareholders.

But each of those high tech behemoths found religion, and now pays a dividend that is much higher than the Standard & Poor's 500 average. The savviest investors, however, never drifted away from the altar founded on the enduring appeal of dividends.

In his book, Enough, John Bogle, founder of the Vanguard mutual fund family and creator of the first index fund, noted that dividend income has provided more than 40 percent of the historic total return for equities. Looking at how flat or negative the stock market has been for the past decade, that means that the dividend income was the only positive return from owning an equity for many years.

For much of the last decade, owning stocks that did not pay a dividend was a classic case of "dead money."

Dividend payments can also prevent what is much worse than "dead money": wasteful spending by management.

A study by Bain Management found that about 70 percent of corporate mergers fail. As but just one example, Microsoft had to write off last year the $6.3 billion it paid for aQuantive, an Internet advertising firm.

Every dollar that goes to shareholders in the form of a dividend is one less that cannot be wasted by the management of a firm.

Dividend payments also manifest respect for the rights of minority shareholders, such as individuals.

The management is demonstrating that it values loyal shareholders in the most meaningful way possible for an investor: a return on capital.

Company leadership can also show that it is bullish about the future by increasing or starting a dividend, as detailed in a recent article on this site. Paying and/or increasing a dividend is a show of strength for a company, especially a small cap. If the shareholder likes the way the company is being run, the dividend can be easily reinvested.

But, most importantly, a dividend gives that choice to the individual shareholder. The payment of a dividend also provides a measure of due diligence.

In an interview with the American Association of Individual Investors Journal Jesper Madsen, manager of Asian income mutual funds for Matthews International Capital Management, noted no Chinese firm that paid dividends had ever been found to be fraudulent. Madsen furthered that a dividend payment provides a layer of security for investors. Nothing can be manipulated for a dividend check that is in the mail.

Stocks that pay dividends can assume all roles for an investors.

In terms of the stability of a fixed income security, there are "Dividend Aristocrats." There are companies such as Coca-Cola KO, Wal-Mart WMT, and ConocoPhillips COP that have increased the dividend amount annually for at least the last 25 years. That is about as secure as an investment can be: increasing the level of comfort here for all is that Warren Buffett is a major shareholder of Wal-Mart, Coca-Cola, and ConocoPhillips, too.

The payment of a dividend should be one of the most important features of a stock for all investors.

It represents a significant part of the historic total return of an equity. The commitment of management to shareholders also comes in the envelope containing a dividend check, too. For the individual investor, the dividend component of a stock should never be discounted.