Why Coca Cola Co. Just Gave Dividend Investors an 8% Raise

By Markets Fool.com

Coca Cola's last week hiked its quarterly dividend to $0.33 per share from the $0.305 it paid out in 2014. That raise marked the 53rd consecutive year Coke has boosted its payout.

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Income investors can now grab a higher yield from Coke than from rival PepsiCo, which just raised its dividend by 15%.

Metric Coca Cola Pepsi
Yield 3.1% 2.6%
2015 raise 8% 15%
Payout ratio 75% 59%

Source: Yahoo! Finance

A growing dividend commitment
Coke's management seems committed to returning cash to shareholders through hefty, and growing, dividend payments. The Dividend Aristocrat's yearly payout has more than doubled since 2005, for a compound annual growth rate of 10%. And Coke has sent almost $25 billion of dividend checks out since 2010 -- $5.4 billion last year alone.

KO Dividend Chart

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KO Dividend data by YCharts

At 2015's new pace, the company should send almost $6 billion of dividend checks to investors. By comparison, Coke booked net income of $7.1 billion in 2014.

Spiking payout ratio
That brings up a worrying trend for income investors: Coca Cola's spiking payout ratio. We like to see that figure stick to around 50% of earnings, and anything much above 60% can be reason for concern. In Coke's case its payout has jumped to almost 80% of reported earnings.

KO Payout Ratio (TTM) Chart

KO Payout Ratio (TTM) data by YCharts

However, keep in mind that profits are being held back by foreign exchange rate moves, which hit Coca Cola hard because it is such a global enterprise. More than 80% of its sales volume last year, for example, came from markets outside the United States. That international focus exposes the company to currency swings that can cause a drop in reported profit even if demand and sales are holding steady. A similar trend is hurting consumer goods giant Procter & Gamble, whose dividend payout is also rocketing toward80% of earnings.

Coke's profits are being pinched in the same way. With currency costs included, Coke's reported operating income fell by 31% in the fourth quarter. But earnings actually improved by 7% after adjusting for those items.

Strong cash flow
Currency swings make cash flow a better metric for Coke investors to watch right now to gauge the strength of their dividend. Fortunately, cash generation is near a record high $10.6 billion per year, almost double the pace from 2007.

KO Cash from Operations (Annual) Chart

KO Cash from Operations (Annual) data by YCharts

One important reason that's held up in the face of flat sales growth is the fact that Coke's cost cuts are allowing it to wring more cash out of every revenue dollar.

The company has plenty of liquid assets on its books to cover this dividend as well. Cash sat at $18 billion as of the end of 2014, which was $1 billion higher than the previous year and about three times the annual payout commitment.

Rebuilding year
CEO Muhtar Kent two weeks ago warned that Coke expects 2015 to be a "transition year" as growth initiatives take time to start paying off in a challenging sales environment. Investors shouldn't expect much of an improvement over last year's results where volume growth was just 2% across the business.

But income investors can look forward to a stronger dividend payout this year that is easily covered by Coke's cash generation. The dividend might be taking up a growing portion of reported earnings, but it's a solid payout that should keep climbing into 2016 and beyond.

The article Why Coca Cola Co. Just Gave Dividend Investors an 8% Raise originally appeared on Fool.com.

Demitrios Kalogeropoulos has no position in any stocks mentioned. The Motley Fool recommends Coca-Cola, PepsiCo, and Procter & Gamble. The Motley Fool owns shares of PepsiCo and has the following options: long January 2016 $37 calls on Coca-Cola and short January 2016 $37 puts on Coca-Cola. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.