The New Nasdaq-100 Dividend Payer: Is This the Perfect Dividend Growth Stock?

One of the world’s biggest tech stocks has finally started returning cash directly to shareholders. That’s right, after accumulating cash on the balance sheet for years, Alphabet (GOOG 2.23%) now pays a small quarterly dividend. So rejoice, income-focused investors: Another high-quality tech company has become an option for your portfolios.

But don’t think the owner of Google Search and YouTube is done growing up. Alphabet now looks like the perfect buy-and-hold stock for both dividends and growth.

Alphabet: The next big dividend payer

With its first-quarter earnings report this spring, Alphabet announced it will begin paying a dividend of $0.20 per share each quarter, or $0.80 per share annually.

Today, that doesn’t mean much relative to the stock price. With the stock at $150, Alphabet’s yield is about 0.5%. However, given how many shares of Alphabet are outstanding, that means a total annual payout of nearly $10 billion. Not a bad start to its first dividend payment.

Other tech giants such as Apple they increased their payouts significantly as their businesses matured. Apple has raised its dividend at an annualized rate of 8% since 2014 — though its stock has grown faster, especially over the past four years, so its yield is still quite low.

Lots of room for payout growth

Alphabet may start the dividend-paying era with a low yield, but it has plenty of room to follow in Apple’s footsteps and grow its dividend consistently over the next 10 to 20 years.

Free cash flow per share is the vital component of dividend payout. No cash flow, no dividends — It’s that simple. Alphabet’s free cash flow per share is $4.80, which is 6 times its current annual dividend per share. That means Alphabet could increase its dividend by a factor of six even if its free cash flow goes nowhere.

However, Alphabet’s business is unlikely to stop growing. The company holds dominant positions in search and consumer Internet platforms such as YouTube. Revenue is still growing at a double-digit percentage rate, even with annual sales of more than $300 billion, and has grown at an annualized rate of 18% over the past 10 years. Free cash flow per share has grown by an average of nearly 20% each year. Even if that growth eventually slows to below 10%, Alphabet should have growing cash flows that can fuel increased dividend payouts.

Finally, Alphabet is a repurchaser of its own shares, which reduces its total shares outstanding. This will allow the company to increase its dividend per share to a higher level, as it will spread its total payout among fewer and fewer shares. This is a good thing for long-term shareholders.

GOOG PE Ratio data by YCharts.

Should you buy Alphabet for dividend growth?

Alphabet has a fantastic track record of long-term financial performance. It is one of the largest and most profitable companies in the world and continues to grow sales at impressive rates every year. Its current dividend yield is 0.5%, but the stock is not expensive. The current price-to-earnings (P/E) ratio is 22, which is below S&P 500 index average of 29. And Alphabet is growing earnings at a much faster rate than the average company.

My guess is that Alphabet’s dividend per share will grow at a double-digit percentage rate over the next 10 years. At the very least, management will have plenty of firepower to do so with how fast free cash flow per share compounds. So while the initial yield is low, income investors would be smart to jump on Alphabet’s dividend growth train right now.