Wednesday, January 13, 2010

Buffett the dividend investor

Warren Buffett is the most successful investor of our time. The student of legendary value investor Ben Graham took on value investing to a whole new level by transforming the small textile mill Berkshire Hathaway (BRK.A) into a diversified conglomerate with interests in insurance, utilities, jewelry sales, newspaper publishing and many others.

Buffett is a closet dividend investor. One aspect of Buffett’s value strategy that many investors seem to miss is the fact that the Oracle of Omaha is a fan of companies which distribute a portion of their excess earnings back to Berkshire. This allows Buffett to re-invest the proceeds into new companies, which lets him further compound his invested capital.

Most of the companies which Berkshire has invested have been characterized by having wide moats, or durable competitive advantages. This is also the foundation behind some of the best dividend stocks out there. Only a company with a strong competitive advantage could afford to raise prices to consumers, which translates into higher earnings and ultimately into long-term dividend growth. Not having a large need of capital infusions is another important aspect of strong dividend growers.

Looking at the current portfolio holdings of Berkshire Hathaway, there companies. Of them seven are dividend aristocrats, one is an international dividend achiever and almost all of the rest pay a dividend except for six companies. Even some of Buffett’s core holdings such as GEICO and General RE, which he has acquired, were members of the elite dividend achievers index.

Berkshire Hathaway is expected to make about $1.3 billion in dividends from its publicly traded holdings. In addition to that Berkshire is expected to earn fat dividends from its investments in preferred stocks in General Electric (GE) and Goldman Sachs (GS) as well.



A major tenet of Buffett’s investment philosophy is buying a holding through thick and thin forever. It is especially interesting to note how much income his investment in Coca Cola (KO) and the Washington Post (WPO) generate. Berkshire’s average cost basis in Coca Cola is $6.49/share. With an annual dividend of $1.64/share Buffett is generating an annual yield on cost of 25.3%. This means that every 4 years he gets paid exactly what he paid for the stock 20 years ago. Buffett’s basis in Washington Post is $6.15/share. With a current dividend of $8.60, Berkshire’s yield on cost is 139.80%.

Full Disclosure: Long KO, JNJ, MTB, PG, WMT

This article was included in the The 241st Carnival of Personal Finance

Relevant Articles:

- Warren Buffett – The Ultimate Dividend Investor
- Coca Cola (KO) Dividend Stock Analysis
- Buffett Partnership Letters
- Myths about Warren Buffett

12 comments:

  1. This is great hearing how an extremely successful man is using his money and that you can use a similar strategy to create wealth for yourself.

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  2. Great Article. Buffett is drawn to companies that can generate steady cash flow. You're right that most people miss the dividend aspect behind his investments.

    Think Dividends

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  3. Great post. The obvious question is this...if it's dividends you're after, why invest in low dividend paying stocks like Walmart? There are so many companies out there that pay much better.

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  4. Is there a mistake there with M&T Bank? A 3$/share dividend and it's not champion?

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  5. Jason,

    The whole point of dividend growth investing is to purchase stocks with low to average current yields which grow dividends year in and year out. This produces good total returns in the future. For example let's look at a stock that is yielding 2% today but grows the dividend at 12% per year. Let's say that the stock trades at $100/share and pays a $2/dividend. Chances are that 6 years from now the stock would still be yielding 2%. The dividend is now $4, but the stock is trading at $200. So while new investors get a 2% yield, the original investor is generating a yield on cost of 4%. Over time dividend growth stocks generate better yields on cost than the highest yielding stocks of today. In addition to that Dividend growth stocks essentially provide inflation proof source of income to investors.

    Matt,

    MTB has maintained distributions flat since 2007. Thus it has dropped off the Dividend Aristocrats list.

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  6. $1.3B sounds like a lotta lettuce, but it's only a 0.8% return on the ginormous $166B BRK.A. Dividends may be one factor that Sir Buffet considers, but I don't think it's the primary metric.

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  7. Helen,

    That's the return on the Berkshire's stock portfolio, which is valued at approximately 50 - 60 billion.

    If you read about Buffett's investments in See's Candies you would understand that he likes to receive "distributions" from his businesses that he could later reinvest.

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  8. Hi

    That was a great post...

    By the way I'm looking for some good, free stock screeners..

    any suggestions ?


    best regards
    Subu

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  9. Subu,

    Unfortunately it is difficult to find good free stock screeners that would fit a dividend growth investor's charcteristics.

    I typically start by including all dividend achievers, champions and aristocrats in a list in yahoo finance and then process the data myself in excel.

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  10. Isn't it ironic, then, that Berkshire never pays a dividend!

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  11. Buffett likes receiving dividends or cash flows so that he could re-invest into new businesses. Buffett is minority in the investment world and the extra cash has helped him to acquire companies at decent ROEs. Given the size of BRK.A however, the company should have started distributing dividends much earlier. It has followed S&P 500 returns for the past few years.

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  12. Very informative post.My neighborhood guy is running this business.

    ReplyDelete

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