Screening Retailers for High Dividends With More Upside Ahead (HD, FL, WMT, SPLS, TGT, SWY, GPS, LOW, JWN, RTH, XRT)

Investors need to consider one thing about investing in retail.  This is quite likely to be the next bastion of dividend growth for investors seeking income to buffer market volatility in the shares.  This matters, particularly for the retail segment and even more so for the specialty and “cool” apparel retailers because these are effectively considered entirely new retail operations two or three times a year.  Those companies have to perform season after season.

Our current screen yielded nine retailers in different retail segments.  Apparel, discount stores, groceries, home improvement:  they are all there.  We list the companies in order of the size of the dividend yield in descending order: The Home Depot, Inc. (NYSE: HD); Foot Locker, Inc. (NYSE: FL); Wal-Mart Stores Inc. (NYSE: WMT); Staples, Inc.  (NASDAQ: SPLS); Target Corp. (NYSE: TGT); Safeway Inc. (NYSE: SWY); Gap Inc. (NYSE: GPS); Lowe’s Companies Inc. (NYSE: LOW); Nordstrom Inc. (NYSE: JWN).     Lastly, there is the Retail HOLDRs (NYSE: RTH) and the SPDR S&P Retail (NYSE: XRT) for investors consider.

The nine companies pay dividends ranging from 2.1% to 2.9%.  Beyond attractive dividends,  these companies boast additional positive characteristics including: EPS growth this year exceeding 12%; forward PE’s lower than 13; price to free cash flow (P/FCF) per share lower than 28.50; returns on Equity (ROE) greater than 10%.  All boast good liquidity with an average daily trading volume exceeding 2 million shares. As you can see, something for value investors, income investors, and others.

Except where otherwise noted, the source for all performance and financial data is Finviz.com. There is one other thing for income and retail-sector investors to remember.  Some of these have much more implied upside to what Wall Street is targeting.  We evaluated the implied upside to Thomson Reuters analyst targets so that we could weed out those companies trading above their implied value.

The Home Depot, Inc. (NYSE: HD) pays a 2.9% dividend with an earnings-to-dividend payout ratio 45.7%. Home Depot’s  shares closed at $34.53 Friday. Its 52-week price range is $25.82 to $38.82.  Home Depot has an implied upside of about 19% to its consensus Thomson Reuters analyst price target of $41.04. The most recent upgrades in both Lowe’s and Home Depot got it names as one of the “Top 10 Analyst Calls of the Week” this last weekend as well.

Foot Locker, Inc. (NYSE: FL) pays nearly 2.9% in dividends with a payout ratio of 46.6%.
The company’s forward PE is a modest 12.8, but is among the highest among this group of retailers.  At 10.2%, its return on equity (ROE) is among the lowest on this list.  Foot Locker’s  shares closed at $22.82 Friday.  Its 52-week price range is $11.30 to 25.50. Foot Locker, Inc. has an implied 22% to its consensus Thomson Reuters analyst price target of $27.82.

Wal-Mart Stores Inc. (NYSE: WMT) pays almost 2.8% in dividends with a payout ratio of 29.2%.   Wal-Mart’s  shares closed at $52.82 Friday. Its 52-week price range is $46.59 to 57.12.

Wal-Mart Stores Inc. has an implied upside of about 15.5% to its consensus Thomson Reuters analyst price target of $61.00.  For whatever it is worth, that $61.00 price has only been hit once in the last 5-year period.  Wal-Mart is also in that buyout plan which we have argued could even be large enough to eventually almost take itself private if maintained year in and year out.

Staples, Inc.  (NASDAQ: SPLS) pays a 2.6% dividend with an earnings-to-dividend payout ratio 29.7%.  The share price of Staples closed at $15.35 Friday. Its 52-week price range is $14.75 to 23.63. Staples has an implied upside of about 28% to its consensus Thomson Reuters analyst price target of $19.71.

Target Corp. (NYSE: TGT) pays almost 2.6% in dividends with an earnings-to-dividend payout ratio of 24%.  Target’s  shares closed at $46.53 Friday. Its 52-week price range is $46.15  to  60.40. Target Corp. has an implied upside of about 28% to its consensus Thomson Reuters analyst price target of $46.99.

Safeway Inc. (NYSE: SWY) pays dividends exceeding 2.5%.  Its dividend payout ratio is 34.4%. The company’s earnings growth this year is an eye-catching 158%, exceeded only by Foot Locker among this group of retailers.  Analysts expect earnings growth to normalize at 13.5% next year.  Shares trade for a remarkable 7.8 price to free cash flow.  Safeway’s return on equity (ROE) is about 10.5 among the lowest on this list.  Safeway’s shares closed at $22.74 Friday. Its 52-week price range is $ 18.42 to 25.43.

Safeway  finds itself in an investor conundrum because its $22.74 share price is effectively at its consensus Thomson Reuters analyst price target of $22.81 even if its shares have traded over $25.00 in the last year.  The Kroger Co. (NYSE: KR), its chief equity rival for investors, offers a lower yield and at $24.00 it is also close to its price target objective of $24.60.  This almost caused the group to be screened out.

Lowe’s Companies Inc. (NYSE: LOW) pays almost 2.5% in dividends with a dividend payout ratio of 30.7%.  The company’s return on equity (ROE), 10.8%,  is among the lowest of these retailers. The shares of Lowe’s closed at $22.83 Friday. Its 52-week price range is $19.09 to 27.34.  Lowe’s Companies Inc. has an implied upside of about 21% to its consensus Thomson Reuters analyst price target of $27.62.

Nordstrom Inc. (NYSE: JWN) pays a dividend of 2.1% with an earnings-to-payout ratio of 28.5%.  The company’s posts a 33.5% return on equity (ROE), highest among these nine retailers.  Nordstrom’s  shares closed at $43.76 Friday. Its 52-week price range is $28.02 to 49.18.  Nordstrom Inc. has an implied upside of about 17.5% to its consensus Thomson Reuters analyst price target of $51.40.

Gap Inc. (NYSE: GPS) was singled out for the end for an obvious reason.  It is the one retailer in trouble of our screen.  Gap pays dividends exceeding 2.5% with a dividend payout ratio of 21.8%, lowest among this list of retailers.  Its earnings growth this year is a blistering 258% no doubt reflecting a post-recession bounce. Earnings growth next year is expected to calm to respectable and more sustainable 13.4%.  Gap’s  shares closed at $17.83 Friday. Its 52-week price range is $18.42 to 25.43.

Gap Inc. currently has an implied upside of only about 11% to its consensus Thomson Reuters analyst price target of $19.86.  The problem in evaluating Gap is that its recent warning was so bad that sentiment went  to hell in a hand basket and no one now expects to see that year high of $23.73 any time soon.  We were looking for Gap to increase its dividend much more, but the recent developments have likely put this on hold.

Retail HOLDRs (NYSE: RTH) has many of these companies as the top components throughout the ETF.  It also is one of the oldest, if not the oldest, ETFs covering the retail space.  Investors just have to know that since the minimum is 100 shares and only 100 share blocks for HOLDRS that there are some higher barriers with shares above $106.00.  The other alternative is the SPDR S&P Retail (NYSE: XRT) that trades much more actively and is half the price of the HOLDRs version of ETFs.  It too has many of these components inside.

If retail dividends keep rising, then the dividends here will rise as well. The difference is that the SPDR version pays dividends out quarterly like the stocks but it has a variable dividend.  The HOLDRs version of the ETF pays out dividends as they are received by the trust and that makes for more frequent payouts which hopefully add up to something close to the same.

Bill Ackman of Pershing Square is set to raise something to the tune of $3 billion in new public funds, and that is going to give him more than a new arsenal to go out and get very active in the retail segment.

More dividends and higher dividends are coming in the retail sector.  Are risks in Europe and slowing in Asia something to consider as a caveat?  Absolutely.  So far the stock market has yet to discount a huge slowdown in the retail economy.

Jon C. Ogg and Jim Berdou