When it comes to dividends, many investors will look for shares which offer above-average yields.
While this is completely fine if you’re in need of an immediate source of income (especially in this low interest rate environment), it may not be the best way to invest in dividend shares.
If you have time on your side, then I believe you should be looking at shares that pay dividends and have the potential to grow strongly over the next decade and beyond.
To demonstrate why, I’m going to compare a couple of shares.
Comparing dividend shares.
Let’s start with Commonwealth Bank of Australia (ASX: CBA). I think Australia’s largest bank is a great option right now for investors that are looking for immediate income.
I estimate that its shares offer a forward fully franked yield of approximately 5.2%. However, if you’re not in need of income right now, it may not be the share to buy.
This is because if we were to jump ahead by 10 years, I don’t believe the yield on offer will be vastly superior to what it is today.
Next year I suspect the bank will cut its dividend down to approximately $3.70 per share. If it were to then grow this dividend by an average of 5% per annum for the following 10 years, in 2031 Commonwealth Bank would be paying a $6.03 per share dividend.
This equates to a yield on cost (the yield on the price you paid for the shares) of ~9%. While this is a generous yield, I think we can do better.
How can we do better?
One share that I think could be a future dividend star is ecommerce company Kogan.com Ltd (ASX: KGN).
Next year I expect Kogan to pay a 30 cents per share dividend. This equates to a fully franked 2.3%. While this isn’t anywhere near as good as Commonwealth Bank’s yield, I believe it could overtake it in time.
Given Kogan’s extremely positive outlook thanks to its increasingly popular website, acquisition plans, and the seismic shift to online shopping, I believe it is well-placed to grow both its earnings and dividends at a strong rate over the next decade.
My bull case is for Kogan to grow its earnings and dividends by an average of 20% per annum between 2021 and 2031.
If this proves accurate, then Kogan’s dividend would have grown to 185.7 cents by the end of FY 2031. At that point, if you bought shares today, you would have a yield on cost of approximately 14.1%.
But why stop there? If we then assume that it can continue growing its dividend by 7.5% per annum for the following 10 years, by FY 2041 its dividend would have grown to approximately 383 cents per share. This represents a yield on cost of 29%.
This means that $172,000 invested in Kogan’s shares today, could be generating dividends of $50,000 in 2041.
I believe this demonstrates why some of the best dividend shares could actually be the ones with the lowest yields.
All three look exceptionally well positioned to deliver long term growth and could increase their dividends materially over the next two decades if all goes to plan.