Most profitable and mature companies in the markets pay dividends; however, there are certain high growth companies that would rather reinvest back into the company than pay out retained earnings to its shareholders. Among them, of course, is the well-known tech behemoth Google Inc. (GOOG), which has delivered a stellar return since debuting on the market in 2004.
Over the years, Google has decided that the best way to utilize its cash and retained earnings is through innovation, research and development, and acquisitions. While this formula has worked in the past, there were many analysts that believe that Google has reached the tipping point that all growth companies face sooner or later: the fact that unprecedented growth cannot last forever.
Read about Why Google Doesn’t Pay a Dividend.
Many agree that the time has come for Google to follow its predecessors, like Apple (AAPL ), Microsoft (MSFT ), and Cisco (CSCO ) and start paying a distribution to its shareholders. Below, we examine five reasons why GOOG can, and should, start paying a dividend.
1. Substantial Cash on the Books
Google has boasted a massive, and growing, pile of cash on the books over the years. Rather than keep those funds sitting in the bank, Google can and should allocate a certain percentage of them to a regular dividend payout, while still maintaining a base of capital that can be used to support R&D. The company obviously has the capital to afford a substantial dividend to its shareholders while still keeping its resources focused towards growth.
Consider Google’s cash and short-term investments in recent years:
2. Consistent Cash Flow
Google has a steady stream of cash that allows the company to have the flexibility to determine what to do with its money. The company’s internet advertising revenue accounts for over 90% of total revenue; furthermore, the internet advertising sector is not showing signs of slowing down in the near future. Because of this steady cash flow, Google would be able to pay a dividend to its shareholders and not worry about revenue instability (similar to utility operators).
Consider Google’s growing cash flow from operations over the years:
3. Too Many Costly Internal Product Failures
For every success like Google search, Gmail, or Google Finance, there have been many more failures of products and services like Google Buzz, Google Wave, and GOOG-411. The philosophy of a growth company is that it can fully maximize its earnings by reinvesting in the company; one of the ways to reinvest is to produce internal innovations. However, Google has had a slowdown of success recently in its internal innovations.
New product failure is a common and essential theme among tech companies, so by no means should Google end the practice completely. Google should and must continue innovating, researching, and developing, but the company should scale back the amount of money spent on such practices and instead divert a portion of earnings to pay a dividend.
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4. Increased Competition in the Mobile Software and Hardware Markets
Google initially entered the mobile market when it released its Android smartphone operating system in 2008. The Android system was initially developed by Android Inc., which Google financially backed and then bought in 2005. This was the first step for Google to become a direct competitor with Apple and the iOS.
Google did not stop at developing operating systems, eventually moving into hardware products. Google released its first smartphone, the Nexus One, in 2010 in a partnership with manufacturer HTC. Google followed the market trend and moved into other mobile operating systems and hardware when it released its Nexus 7 tablet July of 2012.
All in all, Google has become a big player in the mobile products markets, and while expanding in this market can be good, it is not without its drawbacks. Google has opened itself up to increased scrutiny and risks. Taking a step back from this market might be essential for the health of the company. That is why paying dividends to shareholders might be a reasonable route as it scales back on mobile growth.
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5. Failing Acquisitions
In 2011, Google agreed to acquire Motorola Mobility for $12.5 billion. One of the main reasons for the acquisition was for Google to strengthen its patent portfolio as it expands into the mobile products market.
However, 3Q 2012 earnings showed that Motorola has been a burden on Google’s bottom line. Granted, it was the first quarter that Motorola has been a part of Google’s financials, the point here is that Google has also mulled other acquisitions over the years, such as Groupon, which could have put the company on a troubling path. Ultimately, Google doesn’t need to venture out and risk making lackluster acquisitions; instead, the company can use its massive, and growing, cash pile to start paying a dividend.
The Bottom Line
What all of this information suggests is that the executives at Google need to decide if they are really going down a path of extended growth. By no means should Google scale back and be content with its position in the tech industry; it should always be striving to grow and innovate at a desirable pace. Google just needs to take into account the potential diminishing returns if it tries to continue expanding at an overly-aggressive rate.
The bottom line is that paying a dividend would be a great way to reward shareholders while contributing to the overall health and future of the company.