Best Wishes,
D4L

The statistics do show over a 20 year the stock price of a dividend growing stock is higher than dividend stocks which do not grow or non-dividend paying stocks. Dividend growth stocks are increasing their dividends over time because their profits are growing. Profits tend to grow because businesses tend to put back a lot of money into expansion. The use of funds for expansion rather than paying higher dividend does tend to keep the payout ratio lower.

I would also differentiate between growing and mature businesses. I want a mature business to have a high yield; these tend to be clustered in industries where the technological ceiling has been hit (i.e. tobacco). If they aren’t returning money to me, where is it going? Probably into the CEO’s inflated salary. Thus, I do agree with Financial Jungle about a stable base of growth and using mature businesses (and Rothman’s was the perfect example) as anchors in a dividend field portfolio- you know that the chances of that dividend declining are small.

But, for growing businesses, I shun looking at yield. You want a growing business to put back profits into expansion- that is how they will continue to be profitable which means the opportunity to raise dividends increases (this is also the reason I avoid dividend paying tech stocks- they sit on the other end of the scale- they require most of their profits to be put back into R & D to stay one step ahead of the technological curve). Thus, I tend to look at payout ratios in priority to other numbers- if the ratio is getting too high, it may indicate the business has stopped put profits into expansion and the rate of dividend increases potentially slowing.

I have a long investing window- I want to see my dividend payers expanding to give me raises annually.

Money Gardener does raise a good point. Where the market hits a crisis, yields get artificially pushed up and they may become good buying opportunities (as I stated in my post).

I also think Financial Jungle hit the nail on the head- earnings and cash flow are different concepts. Regardless of the stock I look at, I always look at cash flow from operating activities first.

Another point is high yield does provide a stable base for future growth. Sure, Rothmans may not raise their dividends in any particular year, but they do it over the long haul and sometimes they issue special dividends. The regular and special dividends can be reinvested to buy more shares and more dividends. With the 6% yield (possibly higher after-tax depending on dividend tax credits), all ROC has to do is to raise distribution by a mere 4% to reach double digits return.

A 2% yielder growing at 8% is the same as a 6% yielder growing at 4%. But, in tough time, growth is harder to materialize than dividends. People often pull up stock charts and forget about dividend reinvestment. Many studies have shown that dividends represent over half the total long-term return, so if dividends are ignored, of course low yielders will have an advantage on stock charts.

I’m not preaching 100% high-yield high payout portfolios. Sure, no one should be investing based on yield alone, but neither should they invest based on payout ratio and 5-year dividend growth alone.

Don’t forget, earnings and cashflow aren’t the same thing. A cash poor company can still look profitable on paper. Just because a company has a low payout ratio doesn’t mean the dividend is safe. Not to mention companies fudge their earnings all the time.

The credit crunch may put pressure on the banks’ stellar 5-year div growth. And you look at integrater Husky Energy, the best time to invest was 5-years ago – before the energy boom and before they started hiking dividends aggressive.

For me, is so hard to rank the importance of 5-yr dividend growth, payout ratio and yield.

My own formula is maximize

(Dividend Yield + Projected Dividend Growth)/Risk

Yes, it’s a little subjective, but each of these parameters are no more or less important than the others.

I do feel though, that you are making too simple and close a connection between a high pay out ratio and a low potential to raise dividends going forward. The reason a high yield might be attractive for value or dividend growth investors is because the company has raised dividends at swift rates in the past. Just because the company is having temporarly problems does not mean that this will not continue going forward, after the storm has passed. Home Depot is actually a pretty good example. Let’s say HD’s pay out ratio crept up to 50% due to the housing mess. This does not necessarily mean that they will not have the room to raise the dividend going forward. It just means that due to earnings power and/or market conditions investors have bid the shares down while the dividend continued to rise. HD could languish for 2008 and 2009 and then rocket back up in 2010 and beyond when Americans realize that real estate is cheap again. HD’s dividend growth could continued to rise. If something like this occured you would be glad you bought HD yielding say 4.5% with a pay out ratio of 50%, because by that time the pay out ratio might shrink to 35% and the share price double.