The end of the dividend bonanza
Investors have got used to being showered with cash. But things are about to change, says Matthew Lynn.
Dividends are being scrapped. Buybacks have been cancelled. Companies that paid out to their shareholders like clockwork have suddenly decided it is no longer possible and income funds are searching desperately for anything they can invest in. Amid an epidemic and with economies in lockdown around the world, most investors are assuming this is an emergency measure. Once the world gets back to normal, the tap will be turned back on and the dividends will start to flow. But will they?
According to Link Group’s dividend monitor, more than half of all the UK’s quoted companies have scrapped their dividends, cancelling £28bn of payments. The few that keep them are likely to face an avalanche of criticism if they have also furloughed staff, cut back on suppliers, or closed units. In truth, paying a dividend right now is about as socially acceptable as giving a stranger a hug in the supermarket.
If that were just a temporary response to a short-term emergency, then it may not matter very much. The trouble is, it might also mark the end of two decades in which companies paid out far more than usual to their shareholders. According to a new paper from the National Bureau of Economic Research in the US, we have been living though a period of unprecedented generosity towards shareholders – a dividend bonanza.
Taking data from the US stockmarket, it found that payouts to shareholders, in the form of both buybacks and dividends, were three times higher in the 2000s than they were in the years from 1971-2000. The ratios hit an all-time peak in 2018. It it is a similar story in the UK and across most of Europe. In 2019, dividend payouts by British companies hit an all-time high of £110bn, a 7% increase on a year earlier. Over the course of the last decade total payouts have more than doubled.
Why is that? After all, the economy has been generally sluggish. Outside of the technology sector, which often pays no dividends at all, growth has been disappointing. In fact, according to the US study, only a third of the increase in payouts to shareholders can be explained by rising sales and profits. The other two-thirds was accounted for by boards being more generous and paying out more of overall revenues to their ultimate owners.
There were two reasons firms were so generous. The first was that investment was relatively low. There were not that many opportunities for expansion and when there were they did not usually involve huge amounts of capital spending. So companies had plenty of spare cash to pay out. Next, there was huge pressure from the market to raise returns. The “shareholder value” mantra that started in the mid-1980s reached its peak in the 2000s. Chief executives decided that increasing returns to shareholders took precedence over everything else.
The end of an era
This is about to change. Few companies have admitted to it yet, but recovering from this crisis is going to take huge sums of investment. Supply chains are going to have to be reconfigured to take account of the disruption the epidemic has caused. Production may have to be made more local again and that will involve new factories and warehouses. Lots of units may have to close completely and new ones will have to be created. None of that will be cheap.
There will also be huge pressure on boards to pay out less to shareholders. In some countries it may soon be a condition of state aid and most companies are going to need that in some form or another to get through this crisis.
The net result? Dividends that have been cancelled won’t be restored quickly, or in full.
In truth, the last 20 years may have been an aberration. They were a boon for income investors, especially at a time when interest rates had been cut close to zero. But we may now be getting back to normal. Dividends will still be paid of course. But don’t expect equities to generate anything like as much cash as they have done for the last two decades. That era looks to be over.