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Income from the Technology Alchemists

November 27, 2019

Technology companies are the alchemists of the stock market.

This is where companies turn worthless silicon into incredible new gizmos and expensive devices.

Other companies create software and conjure up applications out of thin air.

Silicon Transformed

It’s no wonder then that investors love to latch onto hot tech firms as soon as they can to capture that alchemy. And it shows in the performance of the technology sector.

The S&P 500 Information Technology Sector Index has generated a total return of 399.35% over the past 10 years compared to the S&P 500 Index’s return of 248.41%.

S&P Information Technology (White) vs. S&P 500 (Red) Total Return—Source: Bloomberg Finance, L.P.

But there are many challenges to investing in technology.

One of them is the vast uncertainty of ideas going from start to viable. And then, even with viability, the companies behind them still have to perform as profitable companies.

Along the way, they share little of their wealth in dividend distributions to shareholders, as many tend to burn cash rather than pile it up.

This shows up in the average dividend of the S&P Technology Index, which is 1.30% compared to the S&P 500 Index at 1.85%.

As an income investor, I am always in search of technology companies that are bringing new products to eager markets and that are profitable enough to pay decent dividends.

These companies do exist, and their shareholders are profiting from them with both growth and income.

Here are a few of my favorites…

Hercules Capital (HTGC)

Hercules Capital is based in the Palo Alto, California, which is the tech cradle of the US.

The company is set up as a business development company (BDC) and operates much like a merchant bank. It searches out technology companies from varied sectors and provides financing for development.

In turn, it also takes equity stakes, which provides additional payouts when the companies come to the public market or are sold to other, larger companies.

It has hundreds of companies in its portfolio and has had a series of major names in its history of investments. And the returns to shareholders have been impressive.

Over the past five years alone, the shares have generated a return of 46.48%.

HTGC Total Return—Source: Bloomberg Finance, L.P.

This return also comes with a nice dividend currently yielding 9.05%.

The company has been increasing revenues by 5.56% over the past year and has an impressive net interest margin (the difference in funding costs to investment earnings) at 9.40%. This drives a good return on equity of 10.07%.

Yet the stock is still a bargain at only 1.36 times its book of assets. HTGC is a great buy in a taxable account.

Microsoft (MSFT)

I know that Microsoft isn’t an undiscovered stock.

But it is the poster child of a transforming company in the technology space. It has gone from a company that relied on unit sales of software packages to services and products that are sold by subscription or on contract for recurring revenue.

And it performs for shareholders. Over the past five years, it has generated a return of 254.16%.

MSFT Total Return—Source: Bloomberg Finance, L.P.

It has done so with a big build out of its cloud computing business (Azure) and subscriptions for its software and other products (Office 365).

And this provides cash for its dividend yield of 1.34%, which it has been increasing by 9.88% over the trailing 12 months.

Revenues are up by 14.00%, and its operating margin is fat at 34.10%, which in turn drives the return on shareholder equity to 42.40%.

The stock isn’t cheap, but the company keeps building up its underlying assets and sales, so a price to book at 10.93 times and a price to sales at 9.00 times aren’t that bad when both the book and the sales are continuing to climb.

MSFT is a buy in a tax-free account.

Digital Realty Trust (DLR)

Digital Realty Trust is a real estate investment trust (REIT) that owns and runs data centers around the US and the globe.

Data centers are vital to cloud computing and data processing for most of the technology world.

And the stock has delivered, with a return over the past five years of 110.32%.

DLR Total Return—Source: Bloomberg Finance, L.P.

The company pays an ample tax-advantaged dividend yielding 3.58%, which is up in distribution over the trailing year by 7.32%.

It continues to perform, with revenues gaining by 23.90% and an operating profit—as measured by funds from operations (FFO)—running at 16.40%.

FFO measures just the actual operations of the properties, not ancillary activities, and is a benchmark for measuring REIT returns.

And yet, the REIT is a value at only 3.12 times its impressive book of assets.

DLR is a buy in a taxable account.

FMC Corporation (FMC)

FMC Corporation is a very old company with a history of innovation.

It has invented and sold countless products and services in varied industries and has delivered to shareholders. The past five years have provided a return of 119.06%.

FMC Total Return—Source: Bloomberg Finance, L.P.

Now, you’ll note that the profits have been gaining recently. This is due to the company transforming itself and its focus from varied technologies over time.

After some sales and acquisitions, it is now fully focused on the technology of improving agricultural production.

It’s a global leader in pesticide and herbicide products and services, with pin-point technology in the type of products and their applications.

In a globe in vital need of more food and other agriculture products, FMC is the go-to ag-tech company.

Revenue has soared over the past year, and its operating margins are at a fat 17.30%, which helps to deliver a return on equity of 18.00%.

Moreover, its dividend yields 1.62%, having been massively increased in distribution after remaking its core assets over the past year.

The stock is also a reasonable value at only 4.84 times the company’s hard to duplicate book of assets and 2.90 times its rapidly rising sales.

FMC is a buy in a tax-free account.

Where to find even more income

Generating cash from technology companies is just one of the of 65 income streams I’ve featured in my recent book: Income for Life.

If you’re looking for better returns in the market or just want to make some extra cash, I highly encourage you to check out Income for Life.

It includes nearly 400 pages of income-producing investment strategies for all economic conditions as well as additional income-generating “side hustles” that anyone can use successfully.

All My Best,

Neil George
Editor, Income Investor’s Digest & Profitable Investing
Author, Income for Life