How Safe Is International Business Machines Corporations Dividend?

By Markets Fool.com

Current CEO Ginni Rometty is betting big on IBM's data-analytics Watson platform. Source: IBM.

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International Business Machines is in the midst of yet another painful transition. In IBM's recently reported first-quarter results, the company again posted a year-on-year revenue decrease, its 16th straight top-line decline.

IBM has undertaken drastic transformations before. In the early '90s, then-CEO Lou Gerstner shifted IBM away from its previous focus of selling high-cost hardware to an IT-focused solutions provider. He later went on to chronicle his efforts in Who Says Elephants Can't Dance? Current CEO Ginni Rometty is still looking for her Gerstner moment as she continues to transition the company away from hardware to cloud computing and big data.

It hasn't been easy for Rometty and Big Blue. IBM's market capitalization currently sits at $139 billion, 17% lower than the company value when Gerstner left in 2002. After 16 straight quarters of top-line declines, investors may question if IBM's dividend payout is secure. You shouldn't.

IBM's dividend is safe
IBM is more than able to pay its dividend through current operations. For fiscal 2015, IBM paid out roughly 37% of its free-cash-flow (measured as cash from operations minus capital expenditures) through dividends. While that is considerably higher than the payout ratio of 21.2% the company reported in 2011, IBM is in no considerable danger of being unable to pay its dividend. The chart below shows IBM's free-cash-flow payout ratio over the past five years:

Metric FY 2015 FY 2014 FY 2013 FY 2012 FY 2011
Operating cash flow $17,008 $16,868 $17,485 $19,586 $19,846
Net capex $3,781 $3,779 $3,768 $4,307 $4,059
Free cash flow $13,227 $13,089 $13,427 $15,813 $16,373
Dividends $4,897 $4,265 $4,058 $3,773 $3,473
FCF payout ratio 37% 32.6% 30.2% 23.9% 21.2%

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Source: IBM corporate filings. Net capex includes investments in software. Dollar figures in millions.

While it's true shares of IBM are down over the last five years, a period of considerable growth for the stock market overall, income investors should be content with Rometty's IBM during this period. During the past five years, IBM increased its per-share dividend payout 72.4%, or 14.6% annualized, from $2.90 in fiscal 2011 to fiscal 2015's total of $5.00. IBM's aggressive share buyback policy, which many have faulted, positively affects income investors. As a result of lower share counts, IBM was able to increase its per-share payouts at a much higher rate than its total dividend cash payout.

IBM has since increased its quarterly dividend again, its 21st annual increase, to now total a per-share annualized payout of $5.60.

I repeat: IBM's dividend is safe
In addition to paying out dividends from cash flow, companies can also pay from their existing cash pile or by going into the debt markets to finance payouts. In the long run, investors should look for companies able to generate cash from its operations to pay the ongoing commitment of a dividend, but a higher cash balance is a positive for dividend payout continuation.

At its per-share dividend amount of $5.60, IBM now has a dividend payout run rate of $5.4 billion at current share count levels. IBM reported nearly $15 billion in highly liquid cash and marketable securities, or approximately three years of dividend payouts. IBM has turned to the debt markets to pay for share buybacks but paid only 14% more interest expense in 2015 than the company did in 2011 as it took advantage of lower interest rates. If cash from operations suddenly and precipitously dropped, IBM is able to honor its dividend commitment.

It's been a tough transition for IBM, and it appears this will only continue for the intermediate timeframe. That said, one thing investors should not be worried about is whether the company can continue to pay its dividend. IBM may continue to report year-on-year revenue decreases, but it's still a cash-generating company with more than enough to return to investors.

The article How Safe Is International Business Machines Corporations Dividend? originally appeared on Fool.com.

Jamal Carnette has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. 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.