- Stock-based compensation at tech companies take away the allure from buybacks.
- With growth in question, will Meta Platforms, Inc. look at attracting dividend funds and investors?
- A committed dividend payment plan could force the Meta Platforms Board and management to be more fiscally responsible.
- It may also change the popular opinion about CEO Mark Zuckerberg.
Buyback or Dividends?
A recent Seeking Alpha article on Meta Platforms, Inc. (NASDAQ:META) caught my attention. The Asian Investor suggests that Meta should be buying back shares aggressively. While buybacks are good if used to retire shares for real, I am skeptical about buybacks from technology companies especially due to their high stock-based compensation (“SBC”) and resulting dilution.
The recent 1% excise tax adds a bit of a wrinkle to buybacks as well. I personally prefer dividends over buybacks, as it gives me something tangible to work with and analyze the prospects of future dividend increases. In addition, companies are generally reluctant to slash or not grow dividends once initiated, as it sends a bad message to the market, while buybacks don’t have that expectation.
A legitimate reason companies offer for not paying dividends is that they are reinvesting the profits back into the business for further growth. But with Meta’s growth prospects facing the biggest questions they ever had, would the stock benefit from initiating a dividend or would the market take that as an implicit confirmation that growth has peaked? I lean on the side that paying a dividend would attract funds and retail investors who invest only in dividend-paying stocks. It may also send a signal that the company really cares about its investors.
Can Meta Platforms Afford To Pay?
Most importantly, can the company afford it? And if so, what can investors expect from the company? There is no absolute certain way to know, but looking at the company’s current (under pressure) cash flow using the payout ratios of other technology companies could give an idea. But which companies to use as the baseline and why? I am picking the two listed below.
- Apple Inc. (AAPL) is generally regarded as the most respected technology company/stock, and it also pays a dividend. When Apple initiated dividend in 2012, many saw it as the end of the company’s growth phase. However, more than a decade later, CEO Tim Cook and company have proved them wrong by recording many years of profitable growth, in spite of not having a new blockbuster product post-iPhone. And the company is likely to announce its 10th consecutive dividend increase in April, with its current dividend increase streak at 9. In spite of that streak, Apple’s payout ratio (using forward earnings per share) is at an impressive 15%. Could Meta follow Apple’s path by remaining profitable while returning money to shareholders in the form of dividends?
- International Business Machines Corporation (IBM) is a veteran when it comes to dividend growth with a streak of 23 consecutive years of increasing dividends. Will Meta take the IBM route instead of Apple’s, where it stagnates for many years and ends up compensating investors by increasing its payout ratio?
Let’s Do The Numbers
Let’s find out what a Meta dividend could look like should the company follow either of these routes. I’ve stated in many of my articles that I prefer using Free Cash Flow (“FCF”) over Earnings Per share (“EPS”) for the following reasons:
- Earnings tend to be up and down depending on rare events and write-offs.
- Earnings are more prone to GAAP-related fluctuations.
- Cash flow is king.
For the record, IBM’s payout ratio using forward EPS is 73%. I recently analyzed IBM’s free cash flow based dividend coverage in this article. Using Trailing Twelve Months’ (“TTM”) FCF, IBM currently has a payout ratio of 71%.
Using the same metrics as in the IBM article, let’s first calculate Apple’s payout ratio using TTM’s FCF:
- Apple’s current total shares outstanding: 15.91 Billion
- Apple’s current annual dividend: 92 cents per share
- Annual FCF required to cover dividend: $14.63 Billion (15.91 Billion share times 92 cents per share)
- Apple’s reported TTM FCF: $111.44 Billion
- Payout ratio using TTM FCF: 13% ($14.63 Billion divided by $111.44).
Suffice to say Apple’s dividend coverage is stunning to say the least whether you use FCF or EPS. But the focus is on Meta. What will Meta’s dividend be should it pay out 13% of its annual FCF?
- Meta’s current total shares outstanding: 2.658 Billion
- Meta’s reported TTM FCF: $26.406 Billion
- Free cash flow that could be allocated to annual dividend using Apple’s payout ratio (13%): $3.43278 (that is, 13% of $26.406 Billion).
- That would mean a dividend per share of $1.29 (That is, $3.43 Billion divided by 2.658 shares outstanding)
- Yield based on current share price of ~$120: 1.075% (That is, $1.29 divided by $120), which is double Apple’s current yield.
I can visualize some readers shaking their heads that Facebook’s free cash flow is under pressure and that using the last 12 months’ FCF is too optimistic. Fair enough. I will address that below. But before that, let us move onto the second company used as reference, IBM’s 71% payout ratio using FCF. This is roughly 5 times more than the Apple numbers used above. So, Meta’s yield using IBM’s template will be above an impressive 5%, which is half a percentage point more than IBM’s. In short, using TTM FCF, Meta is actually generating more free cash flow per share than both Apple and IBM.
Returning to the question of Meta’s FCF, using the company’s 4 lowest quarters (in terms of FCF), we get $7.094 Billion. That’s quite a fall from the TTM $26.406 Billion in FCF used above. Using the same calculations as above, Meta’s yield in this case will be about 0.30%. If you think that’s too low, then consider that Apple’s current yield is 0.50%. If you think the $7.094 Billion FCF is too optimistic, then you should not be looking at Meta platforms as an investment at all, much less look at its dividend. Not being snarky with that latter statement but it is true. I expect Meta’s free cash flow to be under pressure for a while but once the Metaverse related spending goes down (or starts producing results), FCF should at least reach a level where Meta can comfortably initiate a dividend that yields at least 2% (mid-point between Apple and IBM metrics) at current price level.
Metaverse is not be all, end all
Okay, that was a lot of numbers. Before we conclude, let’s talk a minute about Meta Platforms, the business. Even if Metaverse ends up disappointing, advertising revenue should stabilize as the company rolls out new features like improving the monetization of Reels. This article provided an interesting perspective that Meta’s still strong user base and decreasing prices (due to competition), makes it enticing for advertisers to increase their exposure to Meta instead of the feared march to death.
“So, what does all this mean for advertisers? Well, now might be an opportune time to advertise on Meta, with its user base being strong and average ad prices decreasing. The company is rolling out new ad products to improve the monetization of Reels, and a new “Performance 5” framework, which is a set of five data-proven tactics that can help to improve advertising performance on Meta platforms amid tighter privacy controls. For instance, broad targeting consists of an automated targeting approach that reportedly produces better results for Facebook and Instagram ads than more refined, more niche audience approaches.
Meta, like its competitors, faces some difficult times amid economic uncertainty. But businesses that are taking the long view with their advertising efforts may turn out to be the winners so long as they don’t push the brakes on their online advertising efforts.“
Read that last line again. Businesses that take the long view may turn out to be the winners. That applies to investing as well.
Getting back to numbers, did you notice that IBM’s payout ratios based on FCF and EPS are almost the same. As is the case with Apple. This tells us that with discipline and a real commitment to shareholders, companies can reward their investors with growing dividends, even if their earnings and cash flow fall under pressure periodically. Does announcing a dividend make companies more responsible fiscally? I believe so, as it at least forces the Board and management to exhaust all potential options before rubbing their investors the wrong way.
With growth prospects questioned and buybacks not inspiring much investor confidence, it may not be a bad idea for Meta to initiate a dividend. Importantly, it will send the message to the market that CEO Mark Zuckerberg is not still an aspiring entrepreneur sitting in his Harvard dorm, but instead a mature businessman who cares about his investors for the long run.
What do you think? Should Meta Platforms pay a dividend? If so, do you believe the company can afford it? What metrics would you use other than FCF and EPS to arrive at this conclusion? Please leave your comments below.
Disclosure: I/we have a beneficial long position in the shares of META, AAPL, IBM either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.