Investment returns are derived from multiple sources, and the primary contributors to those returns can shift as a company progresses through different stages of developmentIn general, investment returns are divided into three main components: the growth of corporate profits, an increase in the company’s valuation, and dividends and share buybacks.

Historically, especially during the past three decades of rapid economic growth in China, the primary sources of investment returns have been profit growth and valuation appreciationDuring this period, corporate profits grew rapidly due to the expansion of industry scale and the continuous rise in market shareIn this growth phase, as companies' profits increased at high rates, their valuations typically saw substantial increases as well. 

In this context, dividends and buybacks contributed relatively little to investment returns

There are several reasons for thisFirst, when a company's profits are growing at a rapid pace—say, 30% or more annually—dividends, which may only account for a few percentage points of the stock price, appear relatively insignificantThis makes them less of a focus for investors who are primarily interested in capital appreciationSecond, when a company’s valuation is already high, even if it pays 100% of its profits as dividends, the resulting dividend yield remains relatively lowThird, during high growth phases, companies typically prefer to reinvest their earnings into expanding their operations rather than distributing them as dividends or engaging in buybacks, as reinvestment can generate higher returns on equity (ROE).

However, as we look ahead, we are beginning to see a shiftIn the past year, market conditions have demonstrated that dividends and share buybacks are becoming increasingly important contributors to investment returns

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This change can be attributed to a few key factors.

Firstly, many industries and companies are gradually entering the mature phase of their life cyclesAs companies and industries grow, it is natural for growth to slow downThis is a fundamental economic law, and it results in companies seeing their growth rates slow over timeAs this happens, the central tendency of corporate growth shifts downwardSecondly, with the decline in growth rates, the potential for further significant increases in valuation diminishes, particularly under traditional valuation models like the discounted cash flow (DCF) approachThis means that the contribution from profit growth and valuation appreciation to overall returns is naturally decreasing, although there will still be some emerging industries and niche sectors where rapid growth continuesOn the whole, though, the number of high-growth companies is dwindling.

As companies enter their mature phases, the contribution of dividends and buybacks to investment returns gradually rises

There are several reasons for thisFirst, after years of development, mature companies often accumulate significant amounts of cash, which gives them the capacity to distribute dividends and repurchase sharesSecond, as company valuations decrease, the same dividend payout rate can result in a significantly higher dividend yieldMoreover, in response to regulatory encouragement, many companies are increasing their dividend payout ratiosThird, as companies mature, their earnings and valuations become less elastic, inadvertently increasing the relative contribution of dividends and buybacks to overall returns.

Looking forward, investors need to balance their focus between growth and valueOn the one hand, it is still crucial to identify companies that are capable of rapidly expanding and strengthening their positions in the marketOn the other hand, as value stocks gain more prominence, investors are increasingly looking for companies that can offer stable returns through dividends, even if these companies are in relatively mature industries

These value stocks typically operate in competitive industries with stable market conditions, providing investors with a steady cash flow to fund annual dividend payoutsFor some, these companies present an attractive, stable investment opportunity.

Not all companies currently qualify as “value stocks,” but some might transition into this category in the near futureThrough better management of capital expenditures and improving operational cash flow, these companies may begin to resemble the types of stable, income-generating assets that investors typically seek in value investingIn fact, the positive performance of high-dividend and dividend-oriented stocks in the past two years can be linked to this ongoing shift in the market.

To help illustrate this with an example, let’s consider a mature company with stable operations that generates no growth, assuming a discount rate of 10%. According to the simple DCF model, the company would have a price-to-earnings (PE) ratio of 1/(r-g) = 10x

If the company pays out 50% of its earnings as dividends, investors can expect an annual dividend return of 5%. In many mature industries, especially those dominated by competitive leaders, this type of scenario is very plausibleFor investors, a stable 5% return each year offers a distinct advantage over traditional savings accounts, where interest rates are often much lower.

Now, let’s modify the growth assumptionSuppose the company achieves a modest 2% annual growth rate, which is reasonable given inflation expectations and other market conditionsIf we maintain all other factors constant, the annual return for the investor would increase to 5% + 2% = 7%. This change illustrates how even a small amount of growth—just a couple of percentage points per year—can significantly enhance the return on investmentOver time, the compounding effect of even modest growth can result in substantial improvements in total return.

This example highlights an important point for investors: value stocks with a slight growth component often outperform those that have no growth at all

Even marginal growth, such as 2% or 3% annually, can compound over time, yielding significant long-term returnsFor investors, this could mean the difference between a steady income stream and a missed opportunity for capital appreciation.

The rise of value investing is closely tied to the market’s transition from a period of high growth to one of stabilization and maturationWith many sectors entering more stable phases, investors are increasingly attracted to companies that can provide reliable dividends without the volatility and unpredictability of growth stocksAs these companies mature, their ability to generate cash flow and return value to shareholders in the form of dividends and share buybacks becomes a more attractive proposition.

In conclusion, while growth remains a critical factor for investors, the increasing importance of value investing cannot be ignored