With the implosion of the dividend payers in the Canadian oil patch, investors have turned even more attention to other big TSX stocks that promise an attractive payout. Just one example: BCE Inc. shares, which returned 5 per cent last year in an awful year for Canadian stocks, and have returned another 8 per cent so far in 2016.
The not-so-secret sauce behind the appeal: BCE has boosted the dividend, now yielding 4.7 per cent, a total of 12 times in seven years, for an aggregate 87-per-cent increase. BCE's "target policy range" is a payout of 65 per cent to 75 per cent of the company's free cash flow, which should strike the market as generous, but not burdensome.
What's not to like? Perhaps the company's definition of free cash flow, which excludes hundreds of millions of dollars in costs. When free cash flow is bigger, as in the BCE formulation, it makes the denominator of the payout ratio larger, and the payment look safer than it would be with a more conservative cash-flow number.
For this argument, we turn to the analysts at Accountability Research Corp., a firm that likes to take a keen look at companies' numbers. Kevin Chu and Mark Rosen take issue with BCE's cash-flow presentation, and suggest that most of BCE's recent dividend boosts never should have occurred.
First, let's look at BCE's latest earnings release, for its full-year 2015 results. In announcing a 5-per-cent increase in the dividend in April, BCE said it "is fully supported by higher expected free cash flow generation driven by continued execution of Bell's six strategic imperatives and growing financial contributions from all Bell business segments."
When BCE uses the terms "free cash flow" and "dividend payout ratio," they also use footnotes, however. That's because BCE has decided to exclude two major items from its presentation of free cash flow. One is the extra contributions it makes to shore up its defined-benefit pension plan. The other is what it calls "acquisition and other costs paid."
These are not small items. BCE's voluntary pension plan contributions were $350-million in 2014 and $250-million in 2015, and have totalled $3.35-billion since 2009. From 2011 to 2014, acquisition costs have ranged from $70-million to $130-million annually, and were $292-million in 2015.
By excluding those two items in 2015, BCE reported a $2.99-billion free cash flow number; if the company had included those costs, the number would have been about $2.45-billion.
The Accountability analysts argue that the frequency of these charges mean they're not terribly special or unique, and more closely resemble continuing expenses of the business. Therefore, they should be reflected in free cash flow.
"When employees have pension plans, they receive less in wages," the Accountability analysts write. "It would not make sense to exclude $3.35-billion in wages from free cash flow, so why exclude pension costs?"
BCE has made "special" or "voluntary" contributions in six of the past seven years, they note. "Don't let the wording fool you. It's highly debatable how special or voluntary something is when it occurs every year." And, the Accountability analysts say, "Since BCE has incurred acquisition and other costs in each of 2011 to 2015, how likely is it that similar acquisition or ongoing restructuring costs will recur in 2016?"
Make the adjustments to reflect these costs, Accountability says, and the payout ratio falls outside BCE's own policy range. BCE said its payout ratio was 69 per cent in 2014 and 72 per cent in 2015. "When we put the costs back into the free cash flow calculation … the company's actual payout was 84 per cent in 2014, 88 per cent in 2015, and we expect 82 per cent in 2016."
BCE spokesman Jean Charles Robillard argues, essentially, that the Accountability argument is backward: Once BCE pays a dividend within its target range of its definition of free cash flow, then "we make decisions on best use of the remaining 25 to 35 per cent of cash," he said in an e-mailed response.
"That has included investments that are not part of normal-course business operations, such as the voluntary special pension contributions … and recent strategic acquisitions that make sense for our business," he says. While the "high profile" of these decisions, he says, "could make them seem like a normal part of business … they're not – they are extraordinary strategic utilizations of excess free cash flow." And including them in a free cash flow measure "would lead to unusual short-term results and impact comparability with normal course business operations."
Including them, I will note, would also negatively affect the dividend payout ratio. Investors should keep an eye on BCE's continuing "extraordinary" uses of cash when assessing the prospects for more dividend boosts.
David Milstead