AMM Dividend Letter Vol. 4 ~ Apple: A New Dividend Payer for Your Portfolio

This is from the AMM Dividend Letter released January 31, 2014. If you want to see the latest “Dividend Stock in Focus” as soon as it’s released then join our mailing list here.

Dividend oriented investors often focus too much on current yield (i.e. how much the company pays the investor today), which, by extension, leads to a portfolio of mature slower growth businesses like regulated utilities or telecommunications service companies. These companies may offer relatively high current yields, yet their growth prospects are low. We aren’t against investing in these industries; however we don’t think an investor seeking long-term wealth creation should necessarily overweight their portfolio in these kinds of businesses.

When we developed the AMM Dividend Strategy we decided to focus on overcoming the current yield dilemma (high payout, low growth) in dividend investing. To build a more growth oriented dividend portfolio we focus on three core types of dividend payers as the building blocks of our portfolios.

1) Dividend Stalwarts: Companies that have strong dependable market positions, that pay a reasonable dividend (~2-3%), and have shown an ability to grow their dividends over a long period of time at a pace far faster than inflation. While the current yield is modest, we expect the growth in the dividend payout to provide a more robust yield (on original cost) in the future.

2) Restructuring/Special Situations: Companies undergoing a restructuring, spin-off, or other special situation. Volume 1 of the AMM Dividend Letter highlighted such an investment, the upcoming spin-off of SLM Corp. (SLM) into two companies. If we see value in the restructuring and the parent company pays a reasonable dividend we will invest. Our initial time frame for these investments is one year but if, after the restructuring, one of the companies’ appears to offer good odds of becoming a dividend stalwart we may hold our investment for a longer time frame.

3) New Dividend Payers: Companies that have recently initiated a dividend policy. While these companies do not have the long history of paying and growing their dividend like the stalwarts, they do have a strong market position and the cash flow to become a stalwart in the future. And sometimes they’re just so cheap that you have to buy them like the subject of our latest letter, Apple Inc. (AAPL).

Dividend Stock in Focus

Apple, Inc. (AAPL): $500.60*

At the turn of the millennium, before the iPad and iPhone revolutions, Apple was in the early stages of a business turnaround. The key people that would help drive Apple’s future growth, like founder Steve Jobs and lead designer Jony Ive, were already in place. The candy colored iMac was out and people were talking about Apple again. The iMacs were a start but they weren’t the blockbuster Apple needed.

Then came 2001.

Original-Apple-iPod

The introduction of the iPod represented more than just another high tech, high priced gadget. In reality the iPod represented three products: the iPod (the device), iTunes (personal data manager), and the iTunes store (the digital store). The beginning of Apple’s closed ecosystem.

Apple became extremely successful with its closed ecosystem. Ironically Apple’s success might not have happened were not for the critical decision to open up iTunes to the PC market. While Steve jobs wanted to keep the iTunes software solely on apple devices, Senior Vice President’s Phil Schiller and Jon Rubinstein saw the value in opening up iTunes to PCs. From Design Crazyby Max Chafkin:

“We argued with Steve a bunch [about putting iTunes on Windows], and he said no. Finally, Phil Schiller and I said ‘we’re going to do it.’ And Steve said, ‘F*** you guys, do whatever you want. You’re responsible.’ And he stormed out of the room. In October 2003, iTunes was introduced for Windows. Apple would sell two million iPods that year. The following year, with the release of the iPod Mini, the figure would increase five fold. Once it was on the PC, that’s when it took off”.

The majority of computer users had PCs and they could finally buy an iPod. Their first iPods turned into their first iPhones. Their first iPhones turned into their first iPads. They saw how easy it was to upgrade the software and how well the software worked with the hardware. They soon realized how much easier it would be to be fully a part of the Apple ecosystem propelling Apple past Coca-Cola and being awarded Interbrands’ title as World’s Most Valuable Brand for “revolutionizing the way we work, play, and communicate”.

Dividend History:

At first blush Apple may appear an unusual choice for a strategy focused on dividend growth; however Apple is a great example of the “New Dividend Payer” concept discussed earlier. The company initiated a $2.65 quarterly dividend in 2012, in part due to pressure from shareholders who argued that the company should return a portion of their fast growing cash hoard to shareholders. Last year Apple increased the quarterly payout by 15% to 3.02 per share. This represents a current yield of approximately 2.4% at current price levels. The payout ratio stands at 30%. Given the firm’s leading position, rock solid balance sheet, and an ever-growing activist shareholder base, we expect the dividend hikes to continue.

Chart from S&P Capital IQ.
Chart from S&P Capital IQ.

Catalysts for Dividend Growth and Price Appreciation:

Aspiration Brand:

“But the bottom Line is that there are people who can afford iPhones and iPads, and people who can’t” – John Gruber of Daring Fireball

A lot of digital ink has been spilled lately about how Apple needs to introduce a cheaper iPhone or face market share loss to Android based smart phones. Competing for market share with cheaper phones is a surefire way to destroy margins and free cash flow.

Apple is a luxury brand. Apple builds its smart phones and other hardware at relatively the same cost as its competitors, however because of its brand recognition and the quality it infers, Apple can charge a higher price. Think Rolexes not Timexes.

Apple is hyper focused on elegant designs and operating systems that are known for simplicity, intuitiveness, and reliability. Focusing on quality products for their customers is what drives Apple. Not market share. A market will build around highly-desirable high-quality products. As a luxury brand, Apple can charge more for its products, maintain higher operating margins, and generate excess cash per sale.

China:

Over 80% of cell phones in China are still connecting to a 2G network. China is still in the early stages of growth for its 3G and 4G networks. It wasn’t until faster and more robust wireless networks like 3G came along in the U.S. that smartphone use took off. We have a similar situation developing in China.

Smart phones sales in China have reached an all-time high. About 9 of every 10 handsets sold in China is a smartphone and the Chinese consumer tends to buy a new phone every 15 months.

Chart courtesy of Counterpoint Technology Market Research.
Chart courtesy of Counterpoint Technology Market Research.

While it was expected to happen, it was crucial that Apple gain a larger exposure to China. China Mobile, the largest Chinese wireless network operator, started carrying the iPhone this year because they were losing subscribers to competitors who did. Apple now has access to China Mobile’s 760+ million customers.

China has the largest growing group of people that can afford iPhones and iPads.

iTunes:

In June 2013 Apple reached 575 million iTunes accounts. According to Horace Dediu of Asymco, that averages out to 500,000 new iTunes accounts per day. With year-over-year revenue growth of 38% and 25% for 2012 and 2013 respectively, iTunes is growing into another major source of revenue for Apple. With over $16 billion in sales in fiscal year 2013, iTunes accounts for 9.4% of total sales.

Per account, Apple generates more revenue per user than even Amazon.

Chart courtesy of Morgan Stanley Research.
Chart courtesy of Morgan Stanley Research.

And not surprising Apple produces more free cash flow per account than each company mentioned in the graph above.

There is a lot of leverage in iTunes. The more Apple devices in consumers hands the more iTunes accounts. This leads to more purchases of apps, music, movies, books, software, and a lot more revenue and cash flow for Apple. Content purchases, like music and movies, also keeps people tied to Apple’s ecosystem.

Looking to the future every iTunes account is linked to a credit card or debit card and it’s easy to see how Apple could lead the way in digital wallets.

Cash Flow:

For the trailing twelve months Apple (AAPL) has generated about $40 billion in normalized free cash flow. Without factoring in any growth or margin expansion/contraction in 12 years Apple could buyback all of its shares outstanding just using existing free cash flow. This is a very basic example and doesn’t account for items like repatriation taxes on the large amount of cash that is being generated overseas. Nevertheless, it shows that Apple is a cash flow machine. Apple’s cash flow yield, essentially what would be your cash return if investing today, is over 8%.

Return of Capital:

Amidst the push by activist investors like David Einhorn of Greenlight Capital and Carl Icahn, Apple has initiated a $100 billion plan to return more capital to shareholders. $60 billion has been earmarked for share buybacks. As of Apple’s most recent 10-K, $23 billion has been used leaving $37 billion left to buy more shares. At Apple’s current share price over 8% of their shares outstanding could be bought back under the plan.

Of the remaining $40 billion of capital to return to shareholders $10 billion was used to increase Apple’s quarterly dividend to $3.05, providing another $30 billion of capital to be returned to shareholders on top of the $37 billion in share buybacks.

Conclusion:

Apple exists at the crossroads of technology and industrial design. Two categories that are highly dependent on the changing tastes of its customer base. Due to this inherent risk in their business model, we use a higher discount rate (12.5%) than we would typically use for a company of this size and financial strength when valuing Apple. We also built out our cash flow model using a 25% operating margin (below Apple’s trailing twelve month operating margin of 28%), estimated growth over the next five years at 6% vs. the average analyst estimate of 16%, and excluded share buybacks. Even with our modest assumptions we arrive at a fair value of $605 per share for Apple.

* Price as of the close January 31, 2014

Chart courtesy of Stockcharts.com.
Chart courtesy of Stockcharts.com.
The opinions expressed in “The AMM Dividend Letter” are those of Gabriel Wisdom, Michael Moore and Glenn Busch and do not necessarily reflect the opinions of American Money Management, LLC (AMM), an SEC registered investment advisor who serves as a portfolio manager to private accounts as well as to mutual funds. Clients of AMM, Mr. Wisdom, Mr. Moore, Mr. Busch, employees of AMM, and mutual funds AMM manages may buy or sell investments mentioned without prior notice. This newsletter should not be considered investment advice and is for educational purposes only. The opinions expressed do not constitute a recommendation to buy or sell securities. Investing involves risks, and you should consult your own investment advisor, attorney, or accountant before investing in anything. Current stock quotes are obtained at http://finance.yahoo.com. Prices are as of the close of the market on the date for which the price is referenced.

AMM Dividend Letter ~ Vol. 3: Qualcomm’s Growing Dividend

This is from the AMM Dividend Letter released December 31, 2013. If you want to see the latest “Dividend Stock in Focus” as soon as it’s released then join our mailing list here.

Dividend Stock in Focus

Qualcomm (QCOM): $74.25*

Profile:

Qualcomm was founded in San Diego in 1985 by former UC San Diego Professor and MIT alumnus Irwin M. Jacobs along with 7 others.

The majority of Qualcomm’s revenue comes from the design of computer chips for cell phones and tablets. Open up any smartphone today and you are more than likely to see a Qualcomm based processing chip. In fact, Qualcomm is the sole chip supplier for Apple Inc.’s iPhones and iPads.

While Qualcomm’s lead position in mobile chipset design makes it the premier mobile chip company in the world, even more attractive in our view is the company’s network licensing business. Interestingly, this is a business built off of a technology first thought up of by one of Hollywood’s most attractive people.

Old Hollywood’s Role in Today’s Wireless Networks:

Hedy Lamarr was a contract star for MGM through the 1930s and 1940s and was considered one of the most beautiful people of her time. Hedy is probably most remembered for her then extremely controversial role in the 1933 movie “Ecstasy”, a movie with brief nude scenes of Ms. Lamarr and close up shots of Hedy’s face during a sex scene. While tame by today’s standards the movie caused a big controversy at the time.

Ms. Lamarr was much more than a pretty face, and should really be remembered for her contribution to modern communication. In 1942 she and composer George Antheil were granted a patent for frequency hopping. In the early 1940s torpedoes operated on one frequency and could very easily be jammed with overwhelming interference at the right frequency. George’s and Hedy’s technology based on the 88 keys of a piano would have the torpedoes hop between 88 frequencies avoiding the interference. Frequency hopping could prevent Allied torpedoes from being jammed. Well… it would have if the U.S. Navy didn’t sit on the technology until 1960.

Hedy and George’s technology would eventually become the basis for today’s wireless communication. Qualcomm’s CDMA technology, the backbone of today’s 3G wireless networks, is based on Hedy Lamarr’s original frequency hopping.

The companies that make the hardware for 3G and 4G wireless networks and the companies that own the wireless networks all use Qualcomm’s designs and all of them pay Qualcomm royalty fees (~ 3-5% on almost every smartphone sold globally), essentially making them a toll booth to the global 3G wireless network.

Dividend History:

Qualcomm may at first appear to be an odd choice for a portfolio focused on dividends. While the current dividend yield is only 1.9%, Qualcomm has aggressively grown its annual dividend payout over the last 10 years from $0.19 per share to $1.20 for a compound annual growth rate of more than 20%. We expect Qualcomm to continue its policy of high dividend growth well into the future.

Data from S&P Capital IQ.
Data from S&P Capital IQ.

Catalysts for Dividend Growth and Price Appreciation:

3G & 4G Wireless network Growth:

While the U.S. and other developed countries are moving onto 4th generation markets the rest of the world is still connecting through 2nd generation networks. 80% of connections in China, and 90% in India are still 2G**. The growth in 3G connected devices in these developing markets over the next few years will be huge. From GSMA Intelligence:

3G and 4G technologies will account for half of all global mobile connections in five years, according to Wireless Intelligence forecasts.

We calculate that 3G/4G connections combined will account for about 4.25 billion of the 8.5 billion connections forecast by 2017, or 50 percent (40 percent 3G + 10 percent 4G). This is up from a combined 1.7 billion of the 6.5 billion total this year (26 percent).

Chart courtesy of ©GSMA Intelligence 2013
Chart courtesy of © GSMA Intelligence 2013

In their recent analyst day Qualcomm said that they expect around 3.4 billion 3G/4G connections by 2017. Qualcomm stands to collect a lot of royalty payments as the rest of the world migrates from 2G to 3G.

Even as the more developed markets like the U.S. move onto the 4th generation wireless networks, the newest 4G smartphones will still need to be backwards compatible with 3G networks. The highest estimate for 4G connected devices by 2017 is 10%.

4G networks are still in the early stages of their development and there is a wide array of standards for it unlike the 3G network. It is a safe bet that Qualcomm will be a leader in 4G too. According to Barron’s, Qualcomm has a 3 year lead over its competitors when it comes to the 4G-LTE network.

The top two patent holders for 4G-LTE networks are Samsung with 9.36% of all patents and Qualcomm with 5.65%. Qualcomm also has the greater share of seminal 4G-LTE patents.

Table courtesy of iRunway: Patent & Landscape Analysis of 4G-LTE Technology
Table courtesy of iRunway: Patent & Landscape Analysis of 4G-LTE Technology

Of those seminal patents Qualcomm holds ~10% of the patents related to network coverage and key patents in the categories that are essential to better and smoother inter-network transition.

Return of Capital:

Since FY 2003 Qualcomm has returned over $26 billion to its shareholders in the form of increased dividends and share buybacks. In fiscal year 2013 alone, Qualcomm bought back over $4.6 billion worth of stock reducing shares outstanding by 4%***.

Chart from Qualcomm's analyst Day presentation
Chart from Qualcomm’s analyst Day presentation

Paul Jacobs, the current CEO of Qualcomm, recently announced that going forward the company will return 75% of its free cash flow and increase the dividend by more than its earnings growth. Qualcomm is expected to grow its earnings over 10% in 2014. With almost $8 per share in cash on it balance sheet, Qualcomm has the ability to conduct further share buybacks.

Conclusion:

Qualcomm is the toll booth to the 3G wireless data super highway right as the 3G network is about to explode with increased traffic. We would expect Qualcomm’s free cash flow to grow right along with it allowing for increased dividends and share buybacks. We estimate QCOM’s fair value at $95 per share, approximately 30% above the current share price.

* Price as of the close December 31, 2013
** GSMA Intelligence
*** Barron’s

Image courtesy of Stockcharts.com
Chart courtesy of Stockcharts.com
The opinions expressed in “The AMM Dividend Letter” are those of Gabriel Wisdom, Michael Moore and Glenn Busch and do not necessarily reflect the opinions of American Money Management, LLC (AMM), an SEC registered investment advisor who serves as a portfolio manager to private accounts as well as to mutual funds. Clients of AMM, Mr. Wisdom, Mr. Moore, Mr. Busch, employees of AMM, and mutual funds AMM manages may buy or sell investments mentioned without prior notice. This newsletter should not be considered investment advice and is for educational purposes only. The opinions expressed do not constitute a recommendation to buy or sell securities. Investing involves risks, and you should consult your own investment advisor, attorney, or accountant before investing in anything. Current stock quotes are obtained at http://finance.yahoo.com. Prices are as of the close of the market on the date for which the price is referenced.

AMM Dividend Letter ~ Vol. 2: An Enduring Income Stream & Wynn Resorts (WYNN)

This is from the AMM Dividend Letter released November 30, 2013. If you want to see the latest “Dividend Stock in Focus” as soon as it’s released then join our mailing list here.

Investors in commons stock are able to earn a cash return on their investment either through 1) selling all or a portion of their stock and realizing a gain, or 2) via dividends received from the company. It is important to distinguish cash return from unrealized “paper gains”, since investors can only spend cash.

A key goal of our Dividend Strategy is to maximize the growth in cash return via dividends. Companies that have a policy of consistent dividend growth reward their shareholders with a pay raise every time they increase their dividend. Ultimately, long-term investors in these kinds of businesses are able to build a growing stream of income for future years, while also benefiting from capital appreciation over time. Below we outline the 3 core building blocks for constructing this kind of portfolio:

  1. Seek to invest in quality businesses. We define quality as the ability to generate a high rate of return on capital invested, and possessing a high degree of financial strength.
  2. Since the price you pay for anything is the ultimate determinant of your return, we seek to invest at fair or, ideally, bargain prices.
  3. Finally, we seek to invest in companies with current dividend policies in place, and the ability to grow the dividend over time.

Dividend Stock in Focus

Wynn Resorts (WYNN): $165.87*

Profile:

Wynn Resorts (WYNN) owns and operates luxury casinos in the United States and China. The company was founded in 2002 after Steve Wynn sold Mirage Resorts, his previous hotel and casino company, to MGM Grand for $6.6 billion. Following the sale, he went on to purchase the Desert Inn Hotel, demolished it, and then built his namesake hotel and casino the Wynn Las Vegas which opened in 2005. In December 2008, the second Wynn hotel, Encore Las Vegas, opened next door to the Wynn Las Vegas.

Wynn Resorts also owns and operates two luxury hotel and casinos in Macau (a Special Administrative Region of China): the Wynn Macau and the Encore at Wynn Macau. Wynn Resorts is currently constructing another luxury hotel and casino in Macau, the Wynn Palace, along the Cotai Strip.

Dividend History:

In May 2010 WYNN started paying a regular quarterly dividend of $0.25 per share. WYNN has increased its dividend every year since and currently pays a quarterly dividend of $1.00 per share. WYNN will pay a total of $4.00 per share in FY 2013 (not shown in chart below), a total growth rate of 300% and a 4 year compound annual growth rate of 41% for the quarterly dividend.

Data from S&P Capital IQ
Data from S&P Capital IQ. Click to enlarge.

On November 5, 2013 WYNN announced another increase to its quarterly dividend for fiscal year 2014. The quarterly dividend will increase to $1.25 per share boosting the dividend yield to 3% based on its current share price around $165.

WYNN is also known for paying out a special dividend. Every year since 2006, except for 2008, WYNN has paid out a special one time dividend.

  • 2006 = $6.00/share
  • 2007 = $6.00/share
  • 2009 = $4.00/share
  • 2010 = $8.00/share
  • 2011 = $5.00/share
  • 2012 = $8.00/share

Again, On November 5, 2013 WYNN announced another special dividend of $3.00 per share to be paid on December 6, 2013 to shareholders of record as of November 20, 2013.

3 Catalysts for Dividend Growth and Price Appreciation:

Macau:

Macau was once a Portuguese colony that was returned to China in 1999. Macau and Hong Kong are the two Special Administrative Regions of China; however Macau is the only region where gambling is legal. Its location places it right next to one of the world’s largest concentrations of potential gaming customers and WYNN is one of the few hotel casino operators with access to this market.

Prior to 2002 gaming in Macau was permitted as a government-sanctioned monopoly with a single concessionaire. Then in 2002 the government of Macau granted 3 more concessions for the operation of casinos and Wynn Macau was one of those 3 concessionaires.

WYNN is currently the premier luxury brand in Macau. By focusing on the VIP market WYNN is able to attract customers who pay higher room rates and bet more per hand at the tables. WYNN consistently generates the highest revenue and EBITDA per table amongst its competitors**.

In 2016 WYNN will open its latest Macau casino on the Cotai Strip, the Wynn Palace. Once opened the Wynn Palace will effectively double WYNN’s gaming tables and add another 2,000 rooms. The Wynn Palace has accounted for a high degree of capital expenditures at WYNN, however upon completion of the Palace in 2016 we expect the excess Free Cash Flow to go to increasing both quarterly and special dividends.

Ultimately, high barriers to entry for new competitors plus the ability to charge premium prices allows WYNN to generate high excess returns on its Chinese properties.

Steve Wynn:

WYNN shareholders are investing right alongside Steve Wynn who owns 9% of the company. From 1973 to 2000 Steve Wynn generated annualized shareholder returns of 24.9% for his previous company Mirage Resorts**.

As the largest shareholder Steve Wynn is highly incentivized to repeat his past performance. In the last 5 years, with “Steve” at the helm, WYNN has grown its Return on Equity (ROE) to 62% and its Return on Capital (ROC) to 11%.

Data from S&P Capital IQ. Click to enlarge.
Data from S&P Capital IQ. Click to enlarge.

Japan:

It appears in 2014 legislation will be introduced to legalize gambling in Japan, another potentially large gaming market. WYNN is currently in talks with representatives in Japan. Nothing more has been said as the talks are preliminary at this point. Still, this fledgling opportunity further highlights WYNN’s brand strength and global reach, and could provide a boost to shares if a Japanese deal comes to fruition.

Conclusion:

Our fair value estimate for WYNN is $195 per share based on a discounted cash flow analysis. At current prices, we view WYNN as a high quality, dividend growth company trading at a discount price.

* Price as of the close November 29, 2013
** Per Morningstar

Chart courtesy of  Stockcharts.com.
Chart courtesy of Stockcharts.com.
The opinions expressed in “The AMM Dividend Letter” are those of Gabriel Wisdom, Michael Moore and Glenn Busch and do not necessarily reflect the opinions of American Money Management, LLC (AMM), an SEC registered investment advisor who serves as a portfolio manager to private accounts as well as to mutual funds. Clients of AMM, Mr. Wisdom, Mr. Moore, Mr. Busch, employees of AMM, and mutual funds AMM manages may buy or sell investments mentioned without prior notice. This newsletter should not be considered investment advice and is for educational purposes only. The opinions expressed do not constitute a recommendation to buy or sell securities. Investing involves risks, and you should consult your own investment advisor, attorney, or accountant before investing in anything. Current stock quotes are obtained at http://finance.yahoo.com. Prices are as of the close of the market on the date for which the price is referenced.

SLM Corp: Upcoming Spinoff To Unlock Value

This is from the AMM Dividend Letter released October 31, 2013. If you want to see the latest “Dividend Stock in Focus” as soon as it’s released then join our mailing list here.

SLM Corporation (SLM): $25.37**

Profile:

SLM Corp. (also known as Sallie Mae) operates two distinct businesses related to the student loan industry: 1) Consumer Lending: originates, acquires, finances and services private student loans, and 2) Government Guaranteed Loans: manages a portfolio of private loans guaranteed by the government through the Federal Family Education Loan Program (FFELP). While the FFELP program was terminated in 2010, SLM Corp. continues to manage a FFELP loan portfolio of more than $118 billion on its balance sheet. Additionally, the company services loans owned by the Department of Education, and other guarantors of Federal Family Education Loan Program (FFELP) loans.

Dividend History:

From 1988 through 2006 SLM Corp. grew their dividend at a compound annual rate of 22% with only one annual reduction of the payout during the 2001 recession. However they reduced the dividend in 2007 and then eliminated the dividend completely from 2008 through 2010 as a result of the financial crisis. In 2011 they reinitiated a dividend of 30 cents per share and increased this amount by 66% to 50 cents per share in 2012.

Catalyst for dividend growth and price appreciation:

Earlier this year SLM Corp. announced that it will be spinning off its high growth, high return on equity private education loan business while the parent company will retain and manage its large student loan portfolio. The private bank, the spin off, will be named Sallie Mae Bank. The parent company will change its name to Education Loan Management. Splitting the company in two via a spinoff is a classic value creating strategy. Conceptually, the parts should be worth more than the whole, since investors can now value the high growth business independently of the operating performance of the slower growth business. The spinoff is expected to occur sometime in calendar year 2014. We outline the attributes of each post spinoff business below:

Education Loan Management (predictable cash flows, consistent return of capital to shareholders):

This entity will manage the cash flow from a student loan book that will amortize in 20 years and will remain the largest education loan servicer in the country. After accounting for operational expenses and discounting back the expected and reliable cash flows for the next 20 years we arrive at a value of $25 per share for Sallie Mae’s student loan portfolio. Ultimately, we expect Education Loan Management to return more capital to shareholders via share buybacks and dividends after the spinoff is completed. The potential exists for the value of Education Loan Management to increase if they are able to acquire more blocks of federally guaranteed student loans.

Sallie Mae Bank (high growth, high return on equity):

Sallie Mae Bank will retain the most recognized brand in the education loan industry, along with a leading market share (~47%) in private loan originations. We estimate the private bank business (the spinoff) is worth between $5-7 per share based on a comparison to similar publicly traded companies.

Based on our valuation analysis, the combined value of the two entities following the spinoff could be as high as $32 per share. Our 1 year total return target for this holding at time of our purchase was 25-30%***.

** Price as of October 31, 2013
*** Represents average price paid for clients invested in our Dividend Strategy. Depending on when a client joined the strategy they may have received a different price.

Image courtesy of Stockcharts.com.
Image courtesy of StockCharts.com.

The Importance of Dividends

From the most recent AMM Dividend Letter. Join our mailing list here.

Current Income to Owners:

Investors in common stocks own a pro-rata share of the companies in their portfolio and thus should think like owners. Many of our clients are business owners themselves, and once all expenses have been paid, and necessary funds have been retained for future growth, they typically pay a bonus or dividend to themselves. Large publicly traded companies effectively work the same way, they just have many more owners. While businesses may need to reinvest a portion of these profits for future growth initiatives, the remaining profits are available to pay out to shareholders in the form of dividends. While we don’t think companies should sacrifice growth just to pay a dividend, we do favor companies that have the ability to do both.

A History of Total Return*:

From 1926 through the end of 2012 stocks in the S&P 500 have annualized returns of 9.7% per year with 4.1% coming from dividends and 5.6% coming from capital appreciation. This ratio has varied over the years. In the 1940’s when stocks returned 9% per year, dividends accounted for wholly 2/3 of this return. In the lost decade of the 2000s, stocks in the S&P 500 annualized at negative .9% per year; however without the positive return of 1.8% provided by dividends, stocks would have lost -2.7% per year in the last decade. In all decades since 1926 dividends have provided an important component to a stock investor’s total return.

Not only do we like the long-term prospects of dividend paying companies, but we think the current environment is uniquely positioned to benefit companies with rising dividend prospects. Research from Pew suggests that approximately 10,000 baby boomers are retiring every day. With interest rates on high quality investment grade bonds at generationally low levels, retirees and those investing for retirement are looking for ways to increase their income in retirement. Blue chip dividend paying stocks that offer both income and growth potential appear well suited for this challenge.

* Data points in this section provided by: Standard & Poor’s, Ibbotson & J.P. Morgan Asset Management