Recent Buy

As I recently discussed, there are two equities that have been on my radar screen lately. I feel both offer a reasonable amount of value at today’s prices while they’re also likely to see solid growth over the long haul. The more I looked at both of them, the more I really liked what I saw. While I only picked one for now, it’s highly likely that I’ll add the other one to my portfolio soon.

As part of my Recent Buy series, I try to let my readers know of any equities I purchase soon after the transaction is completed. This is just one way I try to document my progress toward early retirement and financial independence.

I purchased 25 shares of Target Corporation (TGT) on 11/15/13 for $66.50 per share.

Target Corporation is a retailer that was incorporated in 1902. It currently operates in two segments: U.S. Retail and Canadian.

I really like TGT here. They’ve done some really amazing things over the last couple of years. They’ve started a fairly massive build-out of new stores in Canada, opening 68 new stores in the country so far this year which puts them on pace to complete their objective of opening 124 new stores in Canada by year-end. While the company is currently experiencing some dilution in EPS due to the expansion into Canada, the growth should be a tailwind over the long term. While expanding across the border, they’re also expanding into large U.S. cities via its CityTarget stores – which attempt to recreate the suburban shopping experience in a smaller, and more targeted urban format. They currently operate seven CityTarget stores. In all, 2013 is going to be the largest ever single year of store openings, which is quite a feat for a company that was founded in 1902 and currently operates almost 1,800 stores in the U.S. Growth doesn’t appear to be slowing.

Meanwhile, TGT also continues to invest in its PFresh grocery business, which while reducing margins also gives customers access to a bigger variety of goods and more of a one-stop shopping experience. The company is also aggressively courting shoppers of all income levels, even though TGT attempts to differentiate itself from rivals like Wal-Mart Stores, Inc. (WMT) with its slightly upscale shopping experience. They have expanded their Price Match Guarantee to include select online retailers.

Target also completed the sale of its entire consumer credit card portfolio to Toronto-Dominion Bank (TD) on March 13 of this year for $5.7 billion. This allows Target to focus on its retailing operations since TD will now underwrite, fund and own future Target Credit Card and Target Visa receivables in the United States. The risk and regulatory compliance falls on the shoulders of TD, while Target will still continue to earn a substantial portion of the profits generated from the credit card portfolio. The two companies have a seven-year program agreement. While Target expects the transaction to be neutral to EPS over time, there may be dilution in the short term. They will use the proceeds from the sale to pay down debt and fund share repurchases – a rather prudent use of cash, if you ask me. I think this sale makes sense as it allows a bank to control the financial aspect of the business, while allowing Target to focus on selling products to consumers. In addition, Target will still see the benefits of returning shoppers as the 5% REDcard rewards still apply and still generate recurring business.

Target has shown an ability to grow. From fiscal years 2004-2013 the company grew revenue at a compound annual growth rate of 4.78%, while EPS has a CAGR of 8.76%. S&P Capital IQ predicts a 12% EPS growth rate over the next three years. This might be a bit aggressive as they have expansion plans internationally and domestically which will dilute EPS in the short term. However, I think over the long haul this upscale retailer should do very well as all of the moves the company is making now are not meant for success over the next year or two but for decades. The company itself is targeting more than $100 billion in sales and $8.00 or more in EPS by 2017.

Target shares are currently priced at a TTM P/E ratio of 16.1 on EPS of $4.15. That gives shares a yield of 2.57% off a quarterly dividend of $0.43. That yield is not especially appealing by itself, but it’s backed by a long history of outstanding growth. The 10-year dividend growth rate of TGT shares is 18.6%, with a most recent dividend increase of 19.4% back in June of this year. The dividend is also well covered with a payout ratio of just 41.4%. They are not just returning capital to shareholders via an aggressive dividend growth policy, but also through share buybacks – repurchasing 21.9 million shares at an average price of $67.41 year-to-date. They’ve been heavily active in share buybacks for years, reducing total outstanding shares from almost 755 million in 2009 to just over 633 million today. The balance sheet appears attractive with a debt/equity ratio of 0.8.

I think Target is making all the right moves right now. There might be some short-term pain for long-term gain as many of the aggressive expansion efforts domestically and abroad aren’t cheap, but I think shareholders should be amply rewarded looking out over the next 5-10 years. Paying down debt and repurchasing shares with the proceeds from the sale of the credit card portfolio, while also reducing riskier credit card receivables exposure shows management is prudent and I give these moves a thumbs-up. Furthermore, I like the fact that the company is focusing on its retailing efforts seeing as how competition is extremely fierce. Retailers typically operate with low margins and are under constant duress from competition, so it’s extremely important to leverage scale and differentiate oneself from others. I think Target does a great job at this with an upscale atmosphere, new urban experiences, free Wi-Fi in all of its stores, a healthy reward system via the REDcard and their Price Match Guarantee.

Of course, even great companies aren’t worth owning at any price. I valued shares with a typical Dividend Discount Model analysis using a 10% discount rate and a long-term 8% growth rate (well below their historical average). This gave me a fair value of $92.88. I think a decent margin of safety exists here at today’s prices.

This purchase adds $43.00 to my annual dividend income based on the current quarterly payout of $0.43.

This is now the 43rd position in my portfolio, as this was a new investment for me.

I’m going to include current analyst valuation opinions below, as I use these to concentrate my reasonable valuation estimate.

*Morningstar rates TGT as a 3/5 star value, with a fair value estimate of $64.00.
*S&P Capital IQ rates TGT as a 4/5 star Buy, with a fair value calculation of $73.20.

I’ll update my Freedom Fund in early December to reflect my recent addition.

Full Disclosure: Long TGT, WMT, TD

How about you? A fan of TGT at today’s prices?

Thanks for reading.

Photo Credit: Stuart Miles/FreeDigitalPhotos.net

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45 Comments

  1. Yup, snagged some week before last as well. It’s a pure div growth play for me since the starting yield is a bit lower than I usually like, but when I think about this position in 10 years, I like what I see.

  2. I like the buy here and feel its undervalued. Its a good complement to a WMT position. Wish I could buy some more but its over 6% of my portfolio so I don’t really want to add more now. Of course the portfolio is obviously still growing so it might now be that bad to get a little over-allocated for a bit.

  3. Tyler,

    I’m with you. The starting yield isn’t anything to write home about, but the growth has been impressive. Furthermore, it doesn’t look like the growth is slowing down. They’ve been expanding aggressively and they’re aiming to continue doing so.

    Let’s hope it works out for us. 🙂

    Cheers!

  4. Pursuit,

    I agree that TGT is a nice compliment to WMT. That’s one of the primary reasons I went with TGT over WMT at this time. TGT offers me a little diversification into a retailer that’s somewhat different. I like what they offer. Retailers historically have a hard time holding on to any type of moat due to changing tastes and competition, but TGT has been around a while and they continue to thrive.

    Best wishes.

  5. Bryan,

    I looked at CSCO. I’m a bit concerned over the lowered guidance and falling revenue. I don’t mind a bad miss, and usually look forward to such as a buying opportunity assuming the fundamentals are still solid. But I’m wondering about the fundamentals with CSCO here, and with tech being tech it’s hard to maintain any significant visibility. In the end, I didn’t feel totally comfortable with it and so I passed.

    Best regards!

  6. I bought some TGT last week as well and I hope to add to my position in the coming weeks. I’ve been wanting to own that business for a long time. I’m hoping to grab a few shares of WFC.

  7. TGT is a great buy, and one I personally would prefer over WMT at this point. I think they have better potential for growth over WMT as they are not quite as saturated and do appeal to a wider market, including those higher margin “upscale” items.

  8. I agree with you gus that it is the growth what makes the dividend investing so interesting and appealing. But many people fail to see it. So many times I have seen arguments that it doesn’t make sense investing for 3% yield only. But 10 years from now that 3% can easily (well, with some stocks) turn into 20% and that’s a totally different story.

  9. I’m shocked DM! I was sure you’d tell us you picked up some Cisco after they missed the quarter last week. The stock was south of $21 for a while, which if I remember was your buy point. We have to keep our buy lists up to date….the opportunity will come. I am having a tough time coming up with enough undervalued investments for my next investment newsletter. We can only take what Mr. Market gives us…..but fortunately, the well bought investments keep throwing off nice cash dividends. Happy hunting!

  10. I’d rather invest in their vendors such as kmb, krft, cl, clx, jnj, pg to name a few. Retailers come and go. Will be interesting to watch amzn over the next few years as it increases the retail competition.

  11. This is exactly to type of an investment that true Dividend Growth investors should be looking at. Yield should not be the deciding factor if you are in your growing years (for the porfolio)….Dividend Growth Rates from a quality comapny with growing earnings, revenues, and reasonable payout ratio should be the beginning of any DGI investor….Nice job.

    Regards,
    Joe

  12. I also became a TGT owner as well. Great purchase and it’s a great compliment to my WMT. Though I need to purchase even more to get it to WMT size in my portfolio.

  13. My watchlist have 153 positions.
    Target is on position 26 🙂
    I think I will also buy this comany in the next 6-12 months!

    Best reagrds!
    D-S

  14. DM,

    Nice buy! I think Target is a good company and the closest competition to WMT which you already have as well. It usually works out well to have the 2 bigges And best in a sector. Some examples like Pepsico with snacks and drinks paired with Coke. Or something like scooping some or all of the oil companies BP, COP, XOM, and CVX.

    I’m starting to put together a watchlist of companies I’d like to have when I have the income. Looking at adding maybe TGT, WMT, RLI (interested in that special dividend every year and a split announced), or BP right now.

  15. Congrats on becoming a fellow shareholder. As you know, I’ve been dollar-cost-averaging into TGT and now am up to a full position. They have a great dividend history and I like their future prospects.

  16. Martin,

    Yep, the growth is extremely important. If you’re looking at starting yield and growth of the yield as a proxy for total return, then obviously the growth side of the equation is going to be much more important over the long haul. I certainly have some high yield/low growth plays in my portfolio, but that’s to provide some current income to funnel back into the higher growth plays. It’s all about finding the right mix.

    Best regards.

  17. DGI,

    Glad to see we’re on the same page here. Indeed, great minds do think alike. 🙂

    We got in right before the ex-dividend date, which I’m sure you were already aware of. Collecting that next dividend is going to be a great start to what I hope is a long and healthy relationship.

    Best wishes!

  18. Spoonman,

    I think there’s a good possibility that we’ll get even better prices to add to our position here as management is forecasting weak EPS over the short term. I wouldn’t mind buying another 25 shares if shares dip fairly significantly from here. We’ll see what we get!

    Take care.

  19. w2r,

    I like both TGT and WMT, although for different reasons. I think WMT is a great dominating force, and they have unrivaled scale. Their presence is becoming increasingly global, and they often have the lowest prices around. They certainly cater to a great cross-section of consumers from all over.

    TGT serves a great niche, and they operate well within that space. They’re not necessarily looking for the lowest price around, but rather for a better shopping experience with slightly upscale goods.

    I like both, and that’s why I own both. I wouldn’t mind doubling down on TGT at the right price which would make it roughly as large a position as WMT is for me right now.

    Best wishes!

  20. Roger H,

    Thanks! Retailers aren’t for everyone, but I think the future looks bright here. Even if they can attain growth rates half of what they’ve been able to in the past still looks fairly appealing. I think there is a decent margin of safety here.

    Take care.

  21. Anonymous,

    Retailers do indeed have a history of coming and going, but TGT has been around for more than a century and growth has actually been accelerating. There will always be a need for retailers to get products to consumers. Those who execute the best will be amply rewarded.

    Best regards!

  22. SWAN,

    Absolutely. There is no need to pick just one company in a sector, especially when it’s clear that there is more than one strong competitor. KO and PEP go well together, as do TGT and WMT. Most of these companies also differentiate themselves somehow (PEP with snacks, TGT with an “upscale” discount experience).

    I think your list looks good. BP still has a lot of value here.

    Best regards!

  23. Joe,

    I most enjoy the “sweet spot” dividend growth stocks, where you get a 3%+ yield with a 7-10% growth rate. Unfortunately, those are usually the most popular and so it follows they’re usually a tad bit more expensive than other options. Namely, we’re talking about KO, JNJ, PM, PEP and the like.

    However, TGT offers a fairly attractive yield here with a phenomenal growth rate. I’ll take that any day of the week. 🙂

    Best wishes!

  24. AAI,

    It’ll be quite a long time before I catch up to you, but I’m just glad to be on board. 🙂

    I think TGT offers a lot to like here, and I agree with you that the future prospects appear bright. There may be some short-term noise with the expansion plans, but that gives those with a long-term perspective an opportunity.

    Best regards.

  25. I chose TGT over WMT to start off my portfolio with, though I think they are fundamentally both good buys. Financials aside, I feel in many ways that Target delivers a better product than Walmart. Ever been to a Target that wasn’t spotless (in both cleanliness and stock)? Ever had problems getting someone to intelligently answer a question for you at Target? Ever had problems finding food perishable food that wasn’t already old? Well I for one, have not, and I can’t say the same for Walmart at all.

    Don’t get me wrong, I shop at both stores regularly, and I plan to pick up WMT in my wife’s Roth before the end of the year, as I consider it to be a really good investment. I do feel like Target has the image of a better managed operation at the store level, and that should mean good things for TGT’s future.

  26. Mark,

    I hear you on the shopping experience at TGT. That’s exactly why I bought shares in the company. I generally like shopping at WMT, but I can appreciate people who prefer TGT. I think there’s definitely room for more than one retailer in the portfolio. 🙂

    I think you’re right about the future for TGT. I believe it looks fairly bright. The numbers are really compelling, and the expansion will translate into even better numbers over the next 5-10 years.

    Best wishes!

  27. DM, I currently don’t have WMT or TGT in my beginner portfolio. I plan to add both shortly. I currently like TGT at its current price, compared to WMT. Am I overlooking something? Thanks

  28. Target stock went down 3-4% after company announced it’s quarterly reports. I see this is as only short term fluctuation. Would you consider adding more TGT to your portfolio on this dip?

  29. Anonymous,

    I don’t think you’re overlooking anything. I think both are comparably valued and offer unique opportunities. I purchased TGT here to further diversify my portfolio (I already own WMT) and because it was just a tad cheaper. I think either one makes sense, but TGT is the better buy by a slightly larger margin now after the drop today. Obviously, you would only purchase TGT because you believe in the long-term story.

    Cheers!

  30. Anonymous,

    I seen that. It looks like my timing was poor here. However, I take solace in knowing that I’m at least getting the December dividend payout because I purchased just before the ex-dividend date. I still wish I would have waited, though. 🙂

    Best wishes.

  31. Anonymous,

    I would add more, and I’m currently thinking of adding more. However, my capital is a bit constrained right now after multiple stock purchases over the last couple of months, in addition to buying a car and updating my wardrobe. It’s tempting, however. 🙂

    I also view these as short-term blips, however as I pointed out in the article there will be short-term pain for long-term gain with this stock. So, more pain may come. We’ll see.

    Take care.

  32. Anonymous,

    Nice move. I like that! More pain may be on the way, but over the long haul I really like this name. I wish you the best, and I’m glad to have you as a fellow shareholder.

    Best wishes!

  33. Yeah TGT is still a good move even with the dip. I got in at 63 and change so I’m good but still may add more. (Funny part is I bought Target over Walmart only because I had my kids take a vote since I was on the fence….sometimes when you are unsure you ask for advice. ha). I like how Macy’s has done well Q3. I feel with the holidays TGT will do better then WMT,and while it’s not Macy’s it’s not really Walmart either. Plus as dividend investors we don’t want it to pop so fast, a pullback is good. Slow and steady is fine with me.
    What are your thoughts on POT. I almost pulled the trigger today. I actually put a limit order on and then cancelled figuring I’ll just watch it.
    -Jersey Jerry

  34. yes, yes and yes!
    yes – hold WMT indefinitely
    yes – initiate a position in TGT, great compliment to WMT, and hold indefinitely
    yes – Dan Ferris agrees, up to $67/share, and wrote about it 2 weeks ago, best regards!

    ~

  35. Jersey Jerry,

    I’ve not really looked at POT too much. I generally shy away from commodity producers outside of oil, simply because there isn’t really any pricing power there.

    You bought TGT at pretty advantageous prices there. I’m tempted to buy more here, but my capital is a bit constrained right now after recent stock purchases, the purchase of an automobile and updating my wardrobe a bit. However, even with tight capital it’s tempting.

    Best regards!

  36. Katz,

    Glad to hear we’re on the same page. 🙂

    I agree that TGT makes a nice compliment to WMT. I don’t necessarily think retailing is a zero-sum game. There will be more people alive tomorrow than there was yesterday, and they’ll be buying more stuff. TGT and WMT offer unique shopping experiences with a slightly different target audience. I like both.

    Take care!

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