3 Dividend Tech Stocks to Avoid

By Markets Fool.com


Image source: HP Inc.

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Technology stocks are rarely known for their generous dividend payments. Yet some firms operating in the space offer income-seeking investors the prospect of a steady stream of regular income.

But just because a company offers a healthy dividend doesn't mean it's a good investment. Hard drive-makerSeagate (NASDAQ: STX), GPS specialistGarmin (NASDAQ: GRMN), and PC vendorHP (NYSE: HPQ) are three dividend-paying tech stocks investors may wish to avoid.

Seagate's business is deteriorating

On paper, Seagate is among the most attractive dividend-paying tech stocks on the market. Over the last ten years, the company has raised its dividend nine times, most recently in October, when it boosted its quarterly payout by 16.7%. At current levels, Seagate yields an impressive 7.84%. Management remains committed to its quarterly dividend. On the company's August earnings call, Seagate CFO David Morton said the company's projected cash flows should be enough to support its current dividend policy.

Last year, Seagate paid its shareholders $727 million in dividends. That wasn't a problem, as its business generated nearly $1.1 billion in free cash flow. At $0.63 per quarter per share, Seagate is on track to pay out another $752 million in dividends over the next 12 months. Management is confident the company can afford it, projecting free cash flow of around $1.5 billion over the next year.

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But Seagate's business isdeteriorating, and if the company cannot stabilize and return to growth, it could fall short of its targets and be forced to slash its dividend in the near future.

Last year was difficult for Seagate. On an annual basis, its adjusted revenue fell almost 19%. Its average quarterly gross margin declined about 12.5%, and its free cash flow plunged more than 42%.To improve its prospects, Seagate is committed to reducing its costs. It's also looking to cloud service providers to buy its products. Cloud demand was stronger than Seagate had anticipated last quarter.

Still, traditional PCs sold to consumers represented about 46% of all the hard drives Seagate sold last quarter.And sales of traditional PCs remain weak: In July, research firm IDC reported that PC shipments declined 4.5% in the second quarter. At the same time, solid state drives -- a more technologically advanced alternative -- continue to gain in popularity. Seagate sells some SSDs, but it's not a significant player in the market, nor are SSDs a significant portion of its business.

HP depends on the sale of traditional PCs

With a $0.50 quarterly dividend, HP stock currently yields around 3.47%. Although HP's history stretches back many decades, HP itself is relatively new, born out of last year's split of Hewlett-Packard. Still, in its limited history as a publicly traded company, HP's management has expressed a commitment to maintaining its dividend, promising to return about 50%-70% of the company's free cash flow to shareholders.

But like Seagate, HP's business faces problems. The company's two key segments -- PCs and printers -- are in decline. Last quarter, HP's Personal Systems business saw its revenue fall 10% on an annual basis, while shipments declined 9%. The decline of HP's printer business was even more severe, with revenue dropping 16%. To its credit, HP managed to generate slightly more operating profit from its PC business, as its margin rose 50 basis points -- but that gain was more than offset by the declining profitability of its printer business, which saw its operating profit tumble 19.5%.

In an effort to find growth, HP is turning to high-end, high-margin PCs and 3D printing. Both efforts could pay off, but it's far from certain. It's not clear when or if the PC market will stabilize; and 3D printing, despite its theoretically compelling use cases, hasn't generated much in the way of shareholder returns.

Garmin is shifting from automotive to wearables

Garmin's management is committed to returning about 100% of its free cash flow to shareholders through dividends and share repurchases. Last quarter, Garmin generated $135 million in free cash flow, of which $97 million was returned to shareholders in the form of dividends. At current levels, Garmin stock yields 3.71%.

Unlike Seagate and HP, Garmin's business is growing, albeit modestly. Net sales rose 5% on an annual basis last quarter, as Garmin's EPS jumped 18%. Garmin's business is in the middle of a transformation -- dedicated GPS devices, once a cornerstone of the company's operations, are slowly giving way to fitness trackers, which play an increasingly important role in Garmin's success. Sales of Garmin's automotive and personal GPS devices fell 18% last quarter, while sales of Garmin's fitness products rose 34%. Garmin's automotive segment now represents just 30% of the company's sales. Fitness trackers, meanwhile, bring in more than one-quarter of Garmin's revenue.

The market for automotive GPS units and personal navigators is clearly in decline, as mobile devices have rendered such products obsolete. Fitness trackers have been a bright spot for Garmin, but the competition in the space is intense. The second-generation Apple Watch will add GPS, according to reliable analyst KGI Securities. That could pose a challenge for Garmin, as it currently captures about 57% of the market for GPS-equipped wearables. If Garmin's fitness business begins to falter, shares could tumble, and the company could be forced to curtail that attractive dividend.

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Sam Mattera has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Apple. The Motley Fool has the following options: long January 2018 $90 calls on Apple and short January 2018 $95 calls on Apple. 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.