Two Buffett Stocks For Income Investors

  • IBM offers great margins and strong cash flow to support their stable dividend.
  • Coca-Cola increased their dividend for the 54th consecutive year with a $2 - $2.5 billion share repurchase plan.
  • Good dividend yields, low volatility, and strong cash flow continues to make IBM and Coca-Cola attractive income plays.

IBM

Like Wells Fargo & Co. (NYSE:WFC), International Business Machines (NYSE:IBM) is also one of Warren Buffett’s investments that have a strong operating efficiency. Buffett is a complicated numbers guy when it comes to investing because he understands the value of high-quality operations that turn a high profit. He believes in buying companies that are very well run, which can buy smaller worse run companies and improve them. When you think deeply about that investment thesis and apply it to IBM you can somewhat understand why Buffett won’t let the stock go.

Wells Fargo is possibly the best run global bank with the most impressive operating and return ratios. IBM, although losing revenue, is an example of a company that has strong operations producing solid cash flow. They have a strong operating margin of 19.2% and return on assets of 11.6%. Even more significantly, they have return on equity of 101%. So, while the company may seem like an old school dinosaur in the tech space, they still have value in their operations. Actually, if you look at IBM’s cash flow for the last 3 years you won’t see a significant difference. As a matter of fact, as revenue dropped by almost 12% from 2014 to 2015, IBM’s cash flow has increased.

Now there are still some questions about whether IBM will be able to turn around their receding revenue, and that is where the bulk of risk lies in IBM’s equity. However, for income investors seeking a dividend like Buffett, IBM has the cash flow and a history of consistently increasing dividend payouts as you can see from the chart below. The Payout ratio has increased as the company has maintained their dividend payments a priority.

Source: YCharts

For income investors, IBM is an interesting choice. They trade at a PE of 11, which may be below the industry average but is still not cheap. I don’t believe investors will get a steep discount on IBM unless it drops back down to the $120 range again. And at that price, the dividend yield would probably be too good to pass up. One thing is for sure – IBM’s dividend is strong.

Coca-Cola

The Coca Cola Co (NYSE:KO) stock is similar to IBM as they face deceleration in their top line, although not quite as much. They also provide a solid dividend yield, but not at a truly undervalued price. Coco-Cola has been around forever and will continue to be around for a long time to come. Every time investors get bearish on Coca-Cola, it’s a good time to pick up some shares on the dip.

The reason Coca-Cola stock is such a solid investment is because of their consistent dividends and the low volatility priced into the stock. That’s also the reason I consider it a good defensive stock. Nobody is going to get rich off of Coca-Cola stock, but when the markets are volatile and uncertainty rises, Coca-Cola stock is one of the top choices investors will look to put their money in.

For 2016, Coca-Cola increased their annual dividend by 6%, representing their 54th consecutive annual dividend hike. Not only do they consistently increase their dividend, but they executed $155 million worth of share repurchases in the first quarter of 2016, and aim to repurchase $2 - $2.5 billion worth in FY2016. This move can help lift their earnings and position them for higher future dividends, which is good news for income investors. As you can see from the chart below, Coca-Cola stock has hit a high payout ratio recently to maintain their dividend growth.

Source: YCharts

Conclusion

IBM and Coca-Cola are not the most glamorous stocks to hold in your portfolio, but if you are seeking companies with stable dividend payouts then this is a good place for income investors to look. IBM may face issues across their top line and Coca-Cola may run into some problems in expanding their margins. However, both companies offer a solid dividend yield, strong cash flow, and consistent increase in their dividends.

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Comments on this article and IBM stock

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harshal.patel.1
neutral
1) How is a P/E ratio of 11 not cheap?

2) Buffett said IBM is a risk to take; he's betting on Watson. I don't think he's buying it based on income. Check what he said just this past weekend.
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CelestialMR
neutral
A PE of 11 looks cheap when you look at the avg of 17, but when you factor in IBM's receding numbers across the top and bottom line it doesn't come across as necessarily "cheap" but more fair.

Even with Watson aside, IBM produces significant cash flow, and definitely a desirable amount for income investors.
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