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Capital Ideas

For years, gaming companies didn't offer dividends, but times have changed.

Capital Ideas

Everybody knows about return on capital. It’s what we expect to achieve when we make an investment.

The most common return is making a profit on a trade, whether that be selling a stock or bond at a higher price than purchased, or capturing a profit on the short side when prices drop.

Part of that return can be dividends, or interest paid on bonds or other debt, but that also is seen as part of the total return, of which appreciation is the greater part, especially for stocks.

But there is a trend toward a different kind of return: return of investment, more commonly called a return of capital.

Increasingly, companies say they are returning capital to shareholders through dividends or share repurchases, or both.

IGT, in its March quarter earnings announcement, boasted that it returned $94 million to shareholders in that three months by buying back $75 million in stock and paying $19 million in dividends.

When the company was fending off a challenge by a Jason Ader-led group for election to its board of directors, IGT several times made the case that it had returned $546 million to shareholders in recent years through dividends and stock purchases.

Las Vegas Sands made headlines recently announcing that it would buy back $2 billion in shares. And CEO Sheldon Adelson now famously cheered “Hooray for dividends!” on a third-quarter conference call right before LVS announced a special $2.75-per-share, year-end dividend to go with its 25 cent quarterly payout.

LVS has since raised its regular dividend to 30 cents a share per quarter, and would not surprise anyone by paying a special dividend this year.

Wynn Resorts has become a regular big dividend payer, doubling its own regular dividend from $1 to $2 a quarter.

There are other examples of companies believing that one way to benefit shareholders is to help the stock price by buying in shares. Indeed, IGT has borrowed at times to do so, Bally both borrowed and refinanced debt costs down and dramatically reduced shares a couple years ago. There is speculation that LVS might borrow to repurchase, too.

So, why the trend?

The reason often given for repurchasing stock is that the price is too low and a company can do better buying its own stock cheaply rather than investing it somewhere else at a lower return.

Today, there is also the matter of whether companies want to invest in growth, especially in a low-interest rate environment. LVS doesn’t fit that category as it is openly on the hunt for growth opportunities.

In the case of LVS, it is simply generating huge amounts of cash and can afford to buy back shares, whether it borrows to do so or not.

The attraction to a share repurchase is that it theoretically increases the value of an investor’s holdings without immediate tax consequence. For example, LVS can buy back 4 percent of its shares for $2 billion at recent prices. All else being equal, that should make the stock 4 percent more valuable, or better than $2 a share.

One caveat on share repurchases is that some companies with generous stock option programs don’t buy enough shares to really reduce the number outstanding. In those cases, management is using shareholder money primarily to enrich itself.

Thus, it pays to look at the track record. IGT, for example, has genuinely returned capital to shareholders through repurchases. It has around 265 million shares outstanding today compared to 310 million in 2008.

Dividends are increasingly popular in part thanks to very low interest rates. A dividend-paying stock looks very good when the yield is higher than U.S. government bonds, and the stock price can increase.

The knock on dividends is that they are taxed twice, once on the corporate level and a second time on the shareholder. But with today’s favorable long-term capital gains rates and paltry returns on bonds, dividends can give a powerful kick to total returns.

Let’s again use WYNN and LVS as examples.

In 2012, WYNN stock rose 10.65 percent, not bad. But add in the $9.50 paid out in dividends and total return was 20.14 percent. Obviously, the dividends have made for a great return.

LVS has done even better, with stock appreciation last year of 17.41 percent and total return of 27 percent.

And the stories for both stocks have gotten even better. As of this writing, their stocks have further appreciated and each paid another quarterly dividend, making for a total return of 50 percent for WYNN and 57.5 percent for LVS, with each having yet another dividend due soon.

And if LVS follows through on its share repurchase, it will be calculating its earnings on a small base of shares, which should give returns another kick.

So, in today’s environment, and for the right companies, return of capital is a big part of return on investment.

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