Microsoft just raised its dividend by double digits: what investors need to know

Dividends that can grow above the rate of inflation for years can be huge wealth generators over time.

While artificial intelligence (AI) stocks aren’t exactly known for their dividends, some of these tech giants are now starting to pay dividends and grow them by double-digit percentages.

In fact, on Monday, the oldest dividend payer of the big AI tech stocks, Microsoft (MSFT -0.78%)announced a dividend increase of more than 10%. Here are the key things to know about Redmond’s new higher payment for owners.

A boost coming for shareholders in December

Microsoft announced that it will increase its quarterly payout from $0.75 to $0.83, good for a 10.7% increase. The increase will take effect for the December dividend payment, which will reach stockholders from November 20, with an ex-dividend date of November 21.

However, the new dividend yield at today’s share price would only amount to about 0.8%.

In addition to the dividend hike, Microsoft also authorized a $60 billion share buyback program. When a company buys back its stock, it decreases the number of shares, increasing the shareholders’ remaining stake in the company. Note that while this amount seems large, $60 billion in buybacks would only take a small fraction (about 2%) of Microsoft’s stock to today’s market cap.

But regular increases like these seem extremely durable

While this shareholder return may seem weak to some, this year’s increases should be repeatable and sustainable. That’s because while dividend growth was strong at nearly 11%, Microsoft’s diluted earnings per share actually rose 22% in its last fiscal year.

Therefore, Microsoft’s dividend payout ratio relative to earnings will actually go up down. This means more room for payment increases in the future.

It also supports steady growth and Microsoft’s flawless balance sheet, with $75 billion in cash versus just $50 billion in short- and long-term debt. That cash hoard remains after the massive $69 billion acquisition of Activision Blizzard that closed last December.

The Activision acquisition should further boost earnings next year, as it really only affected half of Microsoft’s last fiscal year. But Microsoft’s core businesses — its AI-powered cloud computing and business productivity software segments — will drive most of its revenue growth.

Image source: Getty Images.

Potential risks to increasing payouts

While all of these factors are positive, Microsoft may not pay out all of that $60 billion in buybacks to investors this year. Cash flow may be a concern given that all the cloud giants are currently spending heavily on AI data centers. Of note, Microsoft’s free cash flow totaled $74 billion last year, well below net income of $88.9 billion.

Microsoft spent $13.9 billion in cash on capital expenditures in the fourth quarter — and if that continues, an annual pace of $56 billion would be a significant increase from $44.5 billion from last year. That number is likely to increase for fiscal year 2025 as the AI ​​race shows no signs of slowing down.

The company is also likely to generate more revenue from AI in the coming year. For example, it charges $30 per seat for the AI-powered Copilot version of Microsoft 365. On Microsoft’s recent conference call, CEO Satya Nadella noted that Office 365 Copilot users grew 60% quarter over quarter and that Copilot for GitHub has contributed 40% of that segment’s growth. Still, any success in AI would likely lead to more spending on AI data centers, making free cash flow smaller than earnings again this year.

Looking back at last year, Microsoft only spent $17.2 billion on share buybacks, which was even lower than the $22.2 billion it spent the year before. So a $60 billion buyback this year seems unlikely. While last year’s conservatism made way for the Activision acquisition, it may also have been intended to save money for heavy AI investment. Plus, Microsoft stock isn’t exactly screamingly cheap at 36.5 times earnings, limiting the effect of buybacks.

Both AI spending and the high valuation could keep management conservative well into 2025, meaning much of the $60 billion could remain unspent.

A good boost for long-time holders, but not so much for new buyers

The dividend increase likely isn’t enough to attract yield-focused investors to Microsoft, but it could benefit long-time holders of the stock.

Newer shareholders need to view Microsoft as a growth stock with a small dividend bonus and hope that AI will accelerate revenue and earnings despite the company’s enormous size.

But if you’re a dividend-focused investor and want a material payout over the next few years, it may be better to wait for a drop in the stock price for a better entry point.