Apple Inc. (NASDAQ: AAPL) answered millions of prayers of its stockholders on Monday by establishing a dividend payment and a huge stock repurchase program.
With nearly $100 billion in cash sitting on its balance sheet, accumulated largely through massive global sales of its wildly popular iPhone, iPod and iPad product lines, shareholders and analysts were clamoring for dividends.
Beginning in the fourth quarter of this fiscal year (July), Apple will pay a $2.65 per share dividend. The company also plans to buy back $10 billion of its own shares over the next three years, commencing in October.
International Business Times spoke to two experts to discuss the issues surrounding Apple’s dividend and buyback announcements.
Dr. Anna N. Danielova is Assistant Professor of Finance at the DeGroote School of Business in Hamilton, Ontario.
Mike McGervey is president of McGervey Wealth Management in North Canton, Ohio.
IB TIMES: Were you taken aback by Apple’s decision to pay a dividend and make a huge buyback?
DANIELOVA: I am not surprised by the decision to enact the share buybacks -- Apple management provided reasons for the $10 billion buyback, with the primary objective of neutralizing the impact of dilution from future employee equity grants and employee stock purchase programs.
However, I am surprised by their dividend announcement. First, the initiation of the dividend itself by current management is in sharp contrast with views of the founder and previous CEO, Steve Jobs. Second, the substantial size of the dividend itself is a bold statement by the new chief executive, Tim Cook.
Typically, when a company introduces dividend, it has a tendency to start conservatively with a lower payout. This is especially true for firms in high-growth high-tech industries.
The typical investor base for this type of company consists of capital gains-oriented investors. For example, when Microsoft (Nasdaq: MSFT) introduced its dividend back in 2003, they started with a payout of just 8 cents per year.
McGERVEY: Apple’s decision to make a huge buyback was not a surprise. Their objective is to offset the impact of employee stock options and equity grants is forward looking – this is attractive to shareholders.
But their decision to pay a dividend came as a surprise, given Apple’s history and Tim Cook’s decision not to pay a dividend only a few weeks ago.
IB TIMES: Do you think the dividend was timed to coincide with the planned release of the upcoming iPad3 product?
MCGERVEY: Perhaps. Both of these measures [dividend and buyback] represent attractive news to lure new potential investors. Another innovative product coupled with Apple’s willingness to share some of their cash with shareholders is attractive.
DANIELOVA: I do not think so, but if this is in fact true, we need to give the management credit for using an investor-related announcement to generate additional interest for their consumer products.
IB TIMES: The $2.65 per share dividend translates to a yield of about 1.8 percent. Isn’t that rather low? Could Apple have afforded to pay out a higher dividend?
MCGERVEY: $2.65 per share is on the lower side for its commensurate yield, and, yes, Apple could have afforded a higher dividend. However, shareholders must also consider that Apple’s control of its cash provides them with additional flexibility to capitalize on its upside potential, market share, executive decision-making and untapped markets.
DANIELOVA: It is indeed on the lower side, but not too low. For example, out of 100 largest Nasdaq stocks, where Apple is listed, 55 firms do not pay dividends at all.
The average dividend yield of the 45 companies that do pay dividends is 2.1 percent. So, Apple's dividend yield is slightly lower than the average for the Nasdaq-100 index dividend paying stocks.
Could Apple pay more? Perhaps they can, given that their 2011 earnings amounted to $28 per share. However, I am not sure they should.
They already have a 35 percent payout ratio. In addition, Apple has to be sure they can maintain this dividend level for years to come.
Finally, starting with a much higher payout ratio could bring along significant changes in Apple's investor base. If, for argument sake, most of their investors are long-term investors in high tax brackets, they have not been paying any taxes on appreciation over the years as Apple's stock price climbed.
Now, the same investors would have to pay taxes on dividend income -- the larger the dividend, the higher the annual tax. If they deem that paying taxes on dividend income is less attractive than holding another stock that does not pay dividends, they might choose to dispose of their Apple holdings and find another stock to invest in.
The key question, of course is, is there an alternative to Apple at this point?
IB TIMES: Apple has almost $100 billion in cash on its books and said it expected to spend about $45 billion over the next three years. What do you think they will spend this treasure chest on? Big acquisitions?
MCGERVEY: Apple does not have a history of making big acquisitions. Their acquisitions tend to be small purchases that augment their existing business and are ultimately accretive in nature.
DANIELOVA: Peter Oppenheimer, Apple's chief finance officer, laid out four priorities for the company’s cash holdings.
First, to maintain flexibility to take advantage of investment opportunities that present themselves; second, to provide income for current shareholders; third, to increase Apple’s attractiveness to new investors; and fourth, to limit dilution arising from future employee grants and employee stock purchases.
Oppenheimer said that “combining dividends, share repurchases, and cash used to net-share-settle vesting [restricted stock units] RSUs, we anticipate utilizing approximately $45 billion of domestic cash in the first three years of our programs”.
Also, note that funds for the dividend and stock repurchase programs will come out of the company’s domestic cash holdings, rather than the billions held overseas, since repatriating that cash would incur extensive tax penalties. This leaves about $55 billion in the company’s war chest to take advantage of investment opportunities.
That could possibly include strategic acquisitions, but might also potentially include future R&D, and development of products in-house.
IBTIMES: Apple recently reached the $600 per share price level. How high can it go over the next 12 months?
MCGERVEY: It is possible for Apple to reach a target over $740 per share in the next 12 months when giving consideration to their earnings growth rate along with an added dividend yield. Barring no systemic risk, current expectations for future revenue and earnings growth will help support this price target.
IB TIMES: Will paying a dividend change how investors view Apple -- that is, as a maturing company rather than a high-growth stock?
MCGERVEY: Not at this time. Apple’s dividend is moderate and not yet permanent. Apple will maintain their stature as a high growth company with their market penetration and innovation. There is opportunity to significantly increase market share globally in China and Latin America, in addition to penetrating other untapped markets (i.e., obtaining iTunes content, improving streaming offerings, and a la carte subscription offerings).
DANIELOVA: Yes, investors may have to change their view of the firm.
Apple's 2011 earnings per share were around $28. If we assume that the Apple is going to maintain this level, they are paying out 35 or 36 percent of earnings as dividends. This is a non-trivial payout ratio. By comparison, Microsoft pays out around 25 percent of their earnings per share in dividends, while Dell (Nasdaq: DELL) pays nothing.
IB TIMES: Google is now the only $100-billion-plus tech company that doesn’t pay a dividend. Do you expect them to follow suit?
DANIELOVA: Not necessarily. Google might need to preserve their cash to finance future acquisitions. The technology sector is a rapidly changing field, and to stay competitive firms either need to learn to reinvent themselves and develop new products and services internally, or be able to find right company to acquire. Both strategies require money.
MCGERVEY: They may not have to follow suit. Their earnings growth has been lackluster compared to that of Apple, but reasonably respectable from an industry group perspective. Nearly all of the leaders in earnings growth within Google’s industry group have a much lower market cap and do not pay a dividend.