When Freeport-McMoRan Inc. announced on March 23 that it was eliminating its quarterly dividend because of the uncertainty brought on by the emerging Covid-19 pandemic, the company’s shares took a hit, closing within pennies of their lowest in more than four years. So when Chief Executive Officer Richard Adkerson said on Friday that the world’s largest publicly traded copper producer would be in a position “very early next year” to consider not only restoring the payout but “building it up to where it will be very meaningful for shareholders,” investors could have been expected to be elated.
Instead, they seemed disappointed, beating the shares down 0.35 per cent. It’s not as if shareholders missed the dividend. Freeport-McMoRan’s shares soared 211 per cent between the last trading day before suspending the payout and Friday, trouncing the 51 per cent gain in the S&P 500 Index. Even the exalted tech-heavy NYSE FANG+ Index, which surged 111 per cent, couldn’t keep pace with the company.
Shareholders appeared to send the message that they would prefer Freeport-McMoRan put the $290 million or so it was paying out as a dividend each year to better use during these unprecedented times. Sure, the amount is relatively small for a company forecast to generate about $17 billion of revenue in 2021. And many variables other than the dividend influence Freeport-McMoRan’s share price. But the point is that the pandemic has shown how quickly disruption can occur and that money paid in dividends may be better used to fund innovations and efficiencies. Given how quickly credit can dry up, even paying down debt is likely to be seen as generating more shareholder value than handing out money in dividends. There’s a reason companies with strong balance sheets — low debt — have outperformed the broad market this year. And Freeport-McMoRan is not alone. Janus Henderson estimated during the summer that the deep contraction in the global economy would cause dividends to decline between 15 per cent and 34 per cent this year.
DataTrek Research co-founder Nicholas Colas addressed the broad issue of dividends in a note to clients last week. He noted how companies have basically seen five years of innovative disruption compressed into nine months. For example, he pointed out how the rising popularity of banking and trading apps such as Robinhood Financial LLC have disrupted the financial sector. More people shopping and working from home have disrupted the real estate and consumer discretionary sectors. Less driving has disrupted the energy sector. The list goes on.
So instead of thinking about when dividends may be restored, companies would be better off thinking about how to deal with the disruption and perhaps become disruptors themselves. But to do that, executives need to break away from their old way of thinking about dividends and earnings. As Colas says, companies believe that investors see dividend policy as an important signal of future earnings. The reality, though, is that “the amount of time boards spend on dividends is substantially more than the attention investors give the topic,” according to Colas.
There’s some truth to that. If there was ever a time that investors preferred safety, it should be during a global pandemic that caused the worst economic downturn since the Great Depression, with benchmark interest rates at zero to boot. And yet the S&P Dividend Aristocrats Total Return Index, which tracks those members of the S&P 500 that have followed a policy of consistently increasing dividends every year for at least 25 years, gained just 1.76 per cent in 2020 through Friday. That’s far less than the 7.83 per cent increase in the S&P 500 and 35.7 per cent surge in the Nasdaq 100 Index.
It’s notable that dividends are nearly nonexistent for the Nasdaq 100, whose members are a Who’s Who of market leaders and where price-to-earnings ratios are much higher. Sure, Apple Inc. pays a dividend, but it’s minuscule relative to the company’s $33 billion of cash and cash equivalents and almost $80 billion in annual cash flow. Plus, no one would accuse Apple of not being a disruptor. “Equity valuations have become even more asymmetric when it comes to ‘disruptors’ and ‘disrupted,’” Colas wrote. “If you ignore disruption trends, you end up with — at best — a 10-12x earnings multiple. If markets see your company in disruption’s vanguard, then multiples can be +30x.”
As my Bloomberg Opinion colleague Nir Kaissar wrote in April, dividends as a percentage of earnings for S&P 500 companies have been in decline since the late 1800s, dropping from about 80 per cent to a recent 40 per cent. And those executives who may be hesitant to cut the dividend cord should embrace the views of the legendary Warren Buffett, who prefers to reinvest profits in the companies he controls to improve their efficiency, expand their reach, create new products and services and improve existing ones.
It’s no secret that value investing is out of vogue. Innovation is taking place faster than ever, and investors would prefer companies that can find better uses for their cash than pay it out in dividends. So the thousands of companies that drastically reduced or even eliminated their payouts during the pandemic should think long and hard about what they want to do with their cash once the economy recovers. Restoring dividends may be the wrong decision.
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