Seagate Technology PLC's Dividend Is the Real Deal

Computer storage specialist Seagate Technology (NASDAQ: STX) pays a hefty $0.63-per-share quarterly dividend, which works out to $2.52 per share on an annual basis. As of this writing, shares trade at $54.70, so any investor who bought the stock at that price will get 4.61% of their investment back in the form of a dividend each year.

Seagate's dividend yield is certainly best-in-class among its peers in the computer storage industry:

Although Seagate's dividend looks really attractive, investors should always bring a healthy dose of skepticism to the table before buying a stock with an unusually high yield. Sometimes such stocks have high yields today because investors are worried about the company's prospects and, ultimately, a dividend cut. Every now and then, however, the dividend is the real deal with no fine print.

To determine whether a company's dividend is the real deal, I ask myself two questions:

  • What percentage of the company's free cash flow does the dividend make up?
  • Is the company's financial performance expected to significantly worsen in the near term?

Let's answer those questions.

Seagate's dividend and free cash flow

It's usually a good idea to look at the size of a company's dividend relative to its free cash flow, which is the money that, when all is said and done, belongs to a company's stockholders. If the dividend represents a high percentage of the company's free cash flow, then there's a higher risk that if the business hits a rough patch and free cash flow goes down, the dividend could be cut.

On the other hand, if the company's free cash flow is significantly larger than what the company pays in dividends, then not only could the dividend survive during a slowdown in the business, but there could be room for that dividend to grow.

Over the last 12 months, Seagate generated $4.59 per share in free cash flow but its dividend is just $2.52 per share, or 54% of free cash flow. This tells me that Seagate's current free cash flow is more than enough to support the current dividend, and even if the company's free cash flow generation takes a significant hit, it could sustain the present dividend for quite some time.

This is important because many investors who choose stocks based on the dividends that they pay rely on the income that they receive every quarter. A stock with a truly compelling dividend is one that doesn't have shareholders worrying about an imminent dividend cut, and in this case, Seagate's dividend looks pretty safe to me.

Seagate's business prospects

A big, sustainable dividend is nice, but before buying any stock, even if you're mainly interested in the dividend, investors should have a reasonable amount of confidence that the business itself isn't set to go south anytime soon. To do that, let's look at how Seagate performed last quarter and how it's set to perform in the coming quarter.

Last quarter, Seagate reported 5% year-over-year revenue growth, with operating income growing nearly 66%. Operating income outpaced revenue growth because Seagate reduced its cost structure year over year, with product development costs declining 21.6% and marketing expenses dropping 10%. It also saw lower restructuring-related costs year over year.

On Seagate's most recent earnings call, CEO David Mosley said that for the coming quarter, the company expects to see "year-over-year revenue, exabyte, and profitability growth with strong continued enterprise demand and tight supply for our highest-capacity solutions."

Indeed, although Seagate expects its revenue in the June quarter to be roughly flat to what it saw in the March quarter, it expects 17% year-over-year revenue growth and projects full-year revenue growth of around 4%.

With the visibility that Seagate has right now, it's clear that the dividend is not only at nearly zero risk of being cut this year, but I wouldn't be surprised to see it bumped up later this year as well.

Seagate's dividend is the real deal.

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Ashraf Eassa has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.