International Business Machines Corp. (NYSE: IBM) is set to report earnings this Thursday, and we have Big Blue as one of our top DJIA expected dividend hikes for the month of April. We are almost certain that a higher dividend payout is coming, but to what extent is still up for debate. We want to see a much higher dividend for IBM shareholders.

IBM previously announced that its next annual meeting of stockholders will be held April 30, 2013. In 2012 the company waited one week after its earnings to report that it was raising its dividend. We will not be surprised if the same holds true this year, but we are not as concerned about the actual week as we are the magnitude (or lack of) coming in the hike. Last year’s payout hike was by 13% (from $0.75 to $0.85 per share per quarter), but we think that IBM needs a much better dividend hike this time around. In fact, we will be severely disappointed if IBM does not get more aggressive on its dividend hike.

When IBM raised the payout by $0.10 per quarter to $0.85, shares were at $196.63 and they closed at $200.14 (both prices are dividend adjusted) the following day. The yield at the time it was declared went up to 1.73%, and now shares are closer to $210.00. The IT giant would have to offer a 5% payout raise just to get its payout the same as before, as the price appreciation now only generates a 1.62% dividend yield.

The company would represent that the buyouts are currently the preferred method of a return of capital to shareholders. IBM would also say that the buyouts automatically leverage any dividend hikes. The long and short is that IBM under-yields its DJIA technology peers and the company has no significant revenue growth. Maybe IBM is holding back in hopes of making a game-changing acquisition.

Some of IBM’s earnings growth comes from more streamlined operating by its managers, but the share buybacks are a large part of that earnings per share growth. We would argue also that changing salespeople payouts is another thing that allows earnings to grow while sales do not, but that is an internal issue that we will let salespeople and their managers take up.

IBM needs to understand that a 1.62% dividend yield is very unimpressive, even for technology leaders. Cisco Systems Inc. (NASDAQ: CSCO) has only paid a dividend for about two years and its dividend yield is now more than 3%. Hewlett-Packard Co. (NYSE: HPQ) is in serious trouble finding growth and is also trying to protect its markets, and even it raised its dividend by 10% lately to payout a yield of 2.77%.

So how does IBM get to pay only about 60% of what Hewlett-Packard pays and only about half of what Cisco Systems pays out? The answer is that it should not be allowed to going forward. Warren Buffett is a large holder of IBM now (with over 68 million shares), and it is very well known that he loves to invest in companies paying dividends.

Ginny Rometty is now chairman and CEO of IBM, and she and the company already have telegraphed that IBM will yet again increase share buybacks. We cannot stress this enough, but our take is that Big Blue needs to target better earnings payout ratios versus today. Thomson Reuters has an estimate of earnings at $16.77 per share in 2013, and IBM has targeted $20.00 in earnings per share by the year 2015. That current $3.40 in annualized dividend payments, if left alone, would generate an income payout ratio of only about 20%. A $0.10 payout increase to $0.95 would only generate a payout ratio of less than 23%.

We are not going to predict that IBM will raise its dividend by this much, but we still think that the company should. IBM needs to target 30% of its normalized earnings for dividends, unless it is targeting a large acquisition soon. This would be a huge dividend increase because it would go all the way up to $5.00 per share per year. The yield of a $5.00 annualized payout rate is still only just under 2.4%, and that would still keep IBM as the lowest technology dividend of all DJIA stocks. In short, IBM has a lot of catching up to do now.

A screen on Finviz shows that IBM is not just among the lowest on the list of DJIA stocks by dividend yield. It is ranked as 25 of 30, down at the bottom of the barrel when it comes to DJIA dividend yields

Will IBM raise its payout to $1.25 per quarter (or $5.00 per year)? Most likely not. Our guess is that IBM will go up to $1.00 per quarter when it raises its payout in the next week or two, but anything short of that is not something for which we will be praising the company.

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