Updated on October 29th, 2019 by Nate Parsh
The decision whether a company should pay a dividend depends on many factors. Thousands of publicly-traded companies pay dividends to shareholders, and some have maintained long histories of raising their dividends every year.
Companies don’t decide to begin paying a dividend in a vacuum. There are many issues to be considered before returning capital to shareholders with a dividend. Still, many companies pay dividends to shareholders; some have even managed to pay and increase dividends for multiple decades.
For example, the Dividend Aristocrats are a select group of 65 stocks in the S&P 500 that have raised their dividends for 25+ years in a row.
You can download an Excel spreadsheet of all 65 (with metrics that matter) by clicking the link below:
On the other hand, other companies don’t pay a dividend right now, and might not for a very long time (or ever). Companies that are still in the early growth phase of their development often choose to reinvest excess capital back into their business instead of returning it to shareholders. After all, every dollar paid out in dividends is one less dollar available to grow the business.
Netflix (NFLX) is a good example of this, as the company doesn’t currently pay a dividend and hasn’t since it went public in May of 2002. This doesn’t mean that investors should always avoid non-dividend paying stocks. In fact, investors looking more for capital gains than income may want to consider growth stocks like Netflix. Shares of Netflix are up more than 410% over the last five years, a huge return for investors who invested over that time.
Many tech stocks have initiated dividend payments over the past decade as they have matured and now generate strong profits. Investors could be wondering if Netflix will ever pay a dividend.
With more than 158 million members spread out over more than 190 countries, Netflix is a media giant. While Netflix does offer a wide variety of second-run television programming and movies, the company also produces its own original content.
The company began with humble beginnings, by mailing out DVDs to subscribers. In recent years, its focus has shifted to streaming services over the Internet. Subscribers have access to Netflix’s library of TV series, documentaries and feature films across nearly every genre imaginable. In addition, the company has spent heavily on creating its own content, which has been critical to Netflix’s success at growing its subscriber base by a high rate.
Source: Earnings Presentation
This has resulted in huge revenue growth over the years. From 2015-2018, Netflix managed to grow revenue by an average of 33% per year. The company expects revenue to grow by at least 27% for 2019. Growth has slowed slightly, but this is still an impressive result.
Earnings-per-share grew at an average rate of 120% from 2015-2018. Given this growth, investors might think that the company would consider paying a dividend to shareholders, but Netflix has not paid a dividend to date. Part of the explanation for this is that the company is still not highly profitable. Consensus estimates for 2019 are for earnings of $3.36 per share for Netflix, which represents 25% growth from last year. However, the company’s earnings yield is just 1.2%.
In other words, it would have to distribute all of its 2019 earnings-per-share to generate a 1.2% dividend yield, which of course it would not do because that would deprive the company of cash to invest in growth and debt repayment. Content costs are high, which is why Netflix has such a low earnings yield and does not pay a dividend.
Reasons For Paying A Dividend
Many companies pay dividends as they are an important part of their capital allocation programs. Some companies, such as Dividend Aristocrats like Coca-Cola (KO) and Johnson & Johnson (JNJ), have increased their dividends for several consecutive decades.
Even companies that have been historically reluctant to pay dividends have begun to do so in recent years. This is particularly true among technology companies, which used to spend heavily to grow their businesses but now have started to use dividends as a way to return capital to shareholders. Companies like Apple (AAPL) and Cisco Systems (CSCO) have initiated dividends in the last decade because their shareholder bases demanded a dividend.
It is very understandable as to why these investors would want companies to pay dividends. As stock prices fall in a market downturn, dividends provide a cushion against paper losses. They also allow investors who reinvest dividends to purchase more shares at lower prices and thus increase their overall dividend income. When markets rise again, dividends only add to shareholder returns.
Dividends are also a valuable source of income for retirees. Dividends can help retired investors replace the income they lost when they stopped working. Life’s expenses continue even when people are no longer receiving a paycheck from their employer. For this reason, dividends can be a very important component of a retirement planning strategy.
However, growth companies like Netflix differ from time-tested dividend stocks like Coca-Cola and Johnson & Johnson, in that they still need to spend vast sums of capital on content to grow. This is a necessary expense if Netflix plans to not just maintain, but grow its subscriber base in the future.
Netflix spent $13 billion on its own content last year, an increase of 33% from the previous year. The company has to compete with rivals like Amazon (AMZN), Hulu and, later this year, The Walt Disney Company (DIS), making it likely that spending rates will only rise from here. Because of this, Netflix may never pay a dividend to shareholders.
Will Netflix Ever Pay A Dividend?
While there are certainly good reasons for paying a dividend, there remain valid reasons for not doing so. Paying a dividend requires cash flow needed to cover payments. Companies that don’t offer consistent profitability, like Netflix, would struggle to find cash to return to shareholders on a quarterly basis.
Last year’s earnings-per-share of $2.68 was the highest annual earnings-per-share result that Netflix has seen. While the company technically could pay a dividend based on this, Netflix continues to use its cash flow on growth initiatives in order to increase its pool of subscribers.
Because of this, Netflix has failed to generate positive free cash flow growth. In fact, the company has been free cash flow negative for the last six years, with accelerating negative cash flow over this period of time. In 2013, Netflix has negative free cash flow of slightly more than $16 million. In 2018, Netflix had negative free cash flow of $3 billion. And negative free cash flow could reach as high as $3.5 billion in 2019.
Using large amounts of capital also means that Netflix has to access debt markets in order to keep spending. This has impacted the company’s balance sheet, offering yet another obstacle to a future dividend payment. Netflix ended the third quarter of 2019 with $12.4 billion of long-term debt against just $4.4 billion of cash and equivalents.
This increase in interest-bearing debt makes it that much more difficult for Netflix to offer shareholders a dividend. Based on all the above, a dividend may not be the right choice for Netflix given its spending and debt repayment remain much higher priorities for management.
How a company allocates capital is not set it stone. A capital allocation policy can be changed over time. As a growth business matures, it may decide that paying a dividend is a good use of capital. Once a company reaches consistent profitability, management may decide that a dividend could attract new shareholders as well as reward existing investors.
It is possible that Netflix could eventually make the same decision that Apple, Cisco and others did in terms of a dividend, but it is not likely.
For now, Netflix has many competitors, which means it still needs to use every dollar available to continue to create original content. And with a large amount of debt already on the balance sheet, investors shouldn’t expect to receive dividend payments from the company any time soon.
There are several reasons that Netflix could still be a good investment. The company is growing subscribers and revenue as its streaming service continues to gain popularity around the world. For these reasons, Netflix could continue to be a rewarding growth stock. But because its capital requirements remain significant, along with its large debt levels, it remains unlikely that Netflix will ever pay a dividend.