Dividend? Buyback? Here's How to Get Both.

Companies have three choices when it comes to cash they generate: a dividend, a buyback, or hoard it. Pfizer (NYS: PFE) chose to up the ante on two; let's hope there's still some left over for the third.

Yesterday, the big pharma announced that it was raising its dividend by 10% from $0.20 per share to $0.22 per share. I highlighted the ability to raise the dividend as one thing that investors should be much more concerned with than how slow the ramp down for Lipitor sales is. The increase is a signal that there's still plenty of cash flow in the post-Lipitor era. It may be a relatively small increase, but at this time of year, it's the thought that counts.

And, of course, increasing the dividend increases the dividend yield, which increases the floor that the stock can fall to. At some point, the dividend yield makes the stock attractive, regardless of the growth potential -- or lack thereof.

With the new dividend, Pfizer is yielding a solid 4.2%, higher than Bristol-Myers Squibb (NYS: BMY) , which also faces a major patent cliff with the loss of Plavix. Merck (NYS: MRK) -- which recently raised its dividend -- GlaxoSmithKline (NYS: GSK) , and Eli Lilly (NYS: LLY) all have higher dividends, but Pfizer's growth potential and ability to maintain the dividend looks a little better than the others.

And there's still money left over for a share buyback program. The board authorized the repurchase of an additional $10 billion worth of shares on top of the current program. The company expects half of that will be used next year.

The buyback actually helps Pfizer's ability to increase the dividend because with fewer shares outstanding, the company's total dividend payment is smaller. Essentially, Pfizer is earning the dividend yield on the cash it uses to buy back the shares, which is certainly better than it can get by leaving the money in the bank.

The only question is whether Pfizer has left enough in the coffers to license and buy drugs. It's not going to be able to support the growth of a $68 billion revenue base without external additions to its pipeline. The company has said it's shooting to hit a dividend payout of 40%, which seems reasonable.

Assuming it can hit its financial goals, of course.

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At the time thisarticle was published Fool contributor Brian Orelli holds no position in any company mentioned. Click here to see his holdings and a short bio. Motley Fool newsletter services have recommended buying shares of GlaxoSmithKline and Pfizer. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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