I know that you’ve been reading about the huge tech sell-off. And I’ll bet that a lot of the coverage you’ve perused has been emblazoned with such alarmist headlines as “the death of the Nasdaq” and “the end” of the tech bull market.
Well, I’m going to let you in on a secret.
Investors haven’t stopped buying tech stocks.
They’re just buying different tech stocks than before.
In essence, what’s happening is that the big-money investment pros are shifting out of the high-flying “momentum” stocks that have led the Nasdaq Composite Index higher over the last two years. And they’re shifting into more value-oriented tech issues – especially the companies that offer solid growth augmented with a nice dividend.
Friends and colleagues who ask me about tech are surprised to hear me say that I’m still very high on the tech sector.
In fact, I’m still celebrating.
You see, I know that all these momentum stocks will eventually come back: They’re growing too fast and are too important to our economy not to rebound.
In the meantime, there’s a whole new slice of the tech-stock market we can use to bolster your net worth. And I’m going to tell you about one great candidate today – an investment I believe can gain as much as 75% over the next three years.
And get this: It trades at $9 a share… and its dividend payout is a whopping 11%.
A Strategic Shift
I’ve been watching and working with Silicon Valley companies for nearly 30 years and I’ve seen markets like this before. Indeed, it happens fairly often – just usually not to the extent we’ve seen of late.
The investment pros refer to this as a “sector rotation.” Usually, that refers to market shifts when money flows out of one sector (such as tech) and into another, unrelated sector (nontech).
But this rotation is a bit different. It’s taking place within the sector – meaning money is flowing out of one category of tech stocks (momentum) and into another (high-yielding value techs).
As I see it, as the first quarter wound down, Wall Street got worried that the U.S. economy was decelerating. That didn’t necessarily turn them into bears. But it did persuade many pros that some of the biggest winners of the last two years would lose some steam.
Indeed, in an April poll economists told The Wall Street Journal they were projecting GDP to advance at an annualized rate of only 1.5% in the first quarter. That’s about 40% below the 2.6% rate for the fourth quarter of 2013.
I, however, believe we will end the year with growth above 2%, and that tech will outperform the market in the second half of the year – just as it’s done during most of the five-year bull market.
In the meantime, though, billion-dollar fund managers are shifting cash into dividend-paying stocks – many of which are important tech-sector players.
And those stocks are surging.
One great example of what we’re seeing is Microsoft Corp. (NasdaqGS: MSFT). For the two years ended Dec. 31, it gained roughly 27%. The Nasdaq gained 48% during the same stretch, meaning the index did 75% better.
Thanks, in part, to its 2.8% dividend, “Mr. Softy” has powered its way to a 10% gain so far this year. The Nasdaq has dropped 1.6%, meaning the software heavyweight has generated a relative outperformance of nearly 12%.
Even if Microsoft does nothing for the rest of this year, you can tack on the 2.8% dividend yield and end up with a “total return” of nearly 13%.
It’s a similar story with Cisco Systems Inc. (NasdaqGS: CSCO). It gained nearly 14% over the past two years, meaning it also lagged the Nasdaq’s 48% burst.
So far this year, however, the networking giant is up about 5%, not counting its 3.3% dividend.
There’s a message here: With tech stocks, growth and dividends aren’t mutually exclusive.
In fact, they’re more closely related than most folks know…
The Story Behind the Story
During our talks over the last year, I’ve repeatedly underscored the importance of using growth to build your personal net worth. But dividends can augment those gains.
From late 2007 to the midpoint of last year, tech accounted for more than 54% of the increase in dividends, according to a report released by WisdomTree and Bloomberg.
And in last year’s third quarter – the most recent data available – the information-technology sector led the market with annual dividend growth of 46%.
Today’s recommendation – Arkansas-based Windstream Holdings Inc. (NasdaqGS: WIN) – offers the same combination: It’s a telecom-tech company that offers modest growth, and it’s supercharged by a mammoth dividend yield.
Dialing for Dollars
Windstream is what we like to refer to as a “special situation” play. That’s because its management team has engineered a major transformation over the last several years.
It’s both a Fortune 500 company and a member of the Standard & Poor’s 500 index. And Windstream says it is the “provider of choice” for four out of five Fortune 500 companies for data, voice, network, and cloud-based solutions – that is, applications and other content delivered from remote data centers.
But Windstream wasn’t always so successful. Back in 2006, the company was largely focused on providing rural residential Web, phone, and related services. The company was anything but a technical leader: Its rivals had much stronger networks, and it was badly behind the times.
With the rise of online music, gaming, and movies, millions of consumers clamored for fast Web connections. Yet, broadband services only accounted for 38% of the company’s revenue.
Founded in 1943, Windstream had customers in only 16 states. A map of their operations showed little in the way of any strategic thinking. They were in Texas and central New York state, with no links between the two.
That all changed in July 2006 when the sleepy firm was spun off from Alltel Holding Corp. CEO Jeff Gardner wasted little time plotting an aggressive growth strategy that generated enormous free cash flow.
Today, Windstream operates in 48 states and 86 top metropolitan markets. It has 115,000 miles of high-speed fiber-optic cable for Web and voice services. And broadband now accounts for nearly 75% of its sales.
In fact, Windstream now has some real muscle. It runs 26 data centers throughout the United States and counts more than 3.3 million consumers and 600,000 businesses as clients.
This is now a firm that offers a deep list of products and services. And that includes such technically sophisticated offerings as network routers, Web hosting, database management, and Internet security.
That build-out of its network and Windstream’s growing list of services has paid off in new sales. Since the spinoff, the company has roughly doubled in size, to about $6 billion last year.
But the big story here is cash flow.
Let me show you why.
Why FCF = Profits
Senior executives talk about cash flow as a key source of financial strength for the company and as part of its commitment to shareholders.
Last year, Windstream generated nearly $891 million in free cash flow (FCF) – equal to nearly 15% of sales. Of that total, the company paid out $595 million in cash dividends.
In other words, the company paid dividends that amounted to 67% of its adjusted free cash flow. (Many tech companies use “cash flow” as a measure of financial performance because it adds back in such “paper,” or noncash, items as depreciation.)
Here’s just how important that dividend commitment really is. Windstream reported 2013 income of about $241 million. In other words, for every dollar in earnings, it paid dividends of about $2.46.
Bear in mind, this company is no slouch when it comes to the overall financials. It has operating margins of 17.5% and a 24% return on stockholders’ equity (ROE).
Sales were flat in 2013, but profits roared ahead in the fourth quarter. After a series of accounting adjustments, WIN reported earnings per share of 9 cents, a year-over-year jump of 350%.
Trading at about $9 a share, Windstream has a market cap of $5.3 billion and an 11% dividend.
In short: This stock is priced for a big move up.
This is twice the company it was back in early 2007, when the stock traded as high as $15.44 a share.
So, if it just got back to its 2007 high, WIN could gain nearly 70%.
This is exactly the kind of stock we have in mind when we say that “special situations” can pay off handsomely.
With Windstream, you get one of the market’s higher dividend payers – at a time when Wall Street is shifting massive amounts of cash to high-yielding stocks.
For investors, this is clearly the right stock at the right time.
[Editor’s Note: If you’ve profited from some of the recommendations here at Strategic Tech Investor, we’d like to hear your story. We want to make sure that you’re benefitting from this free investment service – and we want to make sure it remains free. Your comments will help. Michael reads them all.]