Dividend stocks are everywhere, but many just downright stink. In some cases, the business model is in serious jeopardy, or the dividend itself isn’t sustainable. In others, the dividend is so low, it’s not even worth the paper your dividend check is printed on. A solid dividend strikes the right balance of growth, value, and sustainability.
This week, I went shopping for great a growing dividend and found it in Safeway Inc. (NYSE:SWY)‘s aisles.
No cleanup needed
Grocery stores are far from being an exciting business model — but sometimes the more boring and necessary a business, the more consistent the cash flow and dividend growth will be! Thus is the case with Safeway, which reported stunningly positive fourth-quarter results yesterday that sent the stock through the roof.
For the quarter, Safeway noted a 13% increase in net income as same-store sales (excluding fuel) rose 0.8% and its razor-thin operating margin jumped 39 basis points. The way I see it, there are four major reasons that Safeway is now excelling.
Safeway’s outperformance explained
First, Safeway’s loyalty rewards programs and fuel stations are emphasizing the fact that it understands its customer better and that it’s finally “getting with the times.” Safeway’s management noted that usage of mobile apps as well as digital couponing has been up considerably more than anticipated. At the moment, about 45% of its sales are derived from customers who are part of its loyalty rewards program, called “Just for U,” with the company targeting a level of 65%. By conceding to small coupons up front, Safeway is able to keep consumers in its stores longer, causing them, oddly enough, to purchase more.
Also, like The Kroger Co. (NYSE:KR), Safeway made it a point to install fueling stations next to its stores as way of rewarding loyal customers and making the shopping experience more convenient. Both Kroger and Safeway have seen demonstrable positives since installing fuel stations within the past few years.
Second, Safeway’s gift-card subsidiary, Blackhawk Network Holdings, has been an absolute monster in the prepaid market. With NetSpend Holdings Inc (NASDAQ:NTSP) having been purchased earlier this week for a hefty premium, it’s very likely that the value of Blackhawk, which has as good a retail presence, if not the best, among gift cards, is going to head higher. Safeway is planning to spin off Blackhawk sometime in the first half of this year.
Third, food costs and foul-ups are finally working in its favor. Historically high food costs brought about by a record drought in 2012 have given way to more moderate food costs while missteps by some of Safeway’s peers have allowed it to attract new customers. SUPERVALU INC. (NYSE:SVU), for instance, recently agreed to sell multiple chains to a consortium led by Cerberus Group for $3.3 billion. The deal, which was spurred by SUPERVALU’s unsustainably high debt levels, could necessitate the closure of underperforming stores and give Safeway a chance to pick up share in those markets.
Even Wal-Mart Stores, Inc. (NYSE:WMT), which historically undercuts everyone else on price in order to draw consumers, is struggling. Wal-Mart, which generates more than half of its revenue from grocery sales, cautioned just yesterday that delayed tax refunds and higher payroll taxes are eating into its customer base and offered investors a tepid forecast. Safeway hasn’t had nearly these same issues, with its loyalty rewards drawing more traffic into its stores.
Finally, Safeway is carrying a better variety of natural and organic foods that puts it in better competition with industry margin leader Whole Foods Market, Inc. (NASDAQ:WFM). Whole Foods has made its living on offering locally grown organic and natural foods and isn’t shy about pricing its products at a premium to Safeway, Kroger, and other supermarket chains. What Whole Foods found, and what Safeway now realizes, is that consumers will regularly pay a premium for foods that are perceived to be healthier for them — even if the economy turns south. With Safeway now offering a plentiful selection of organic and natural products, its sales should be expected to continue to rise.
Don’t forget these factors!
Beyond these key components that keep Safeway growing, the company offers two other tangible benefits that shareholders should enjoy. First, Safeway is an aggressive repurchaser of its own shares. Based on its fourth-quarter report filed yesterday, Safeway repurchased a whopping 84.3 million in the trailing-12-month period, or 26% of its outstanding shares. This helps boost the value of each remaining share by dramatically boosting profit per share and making Safeway appear notably cheaper than this time last year.
The other factor, and why we’re really discussing Safeway today, is its incredible dividend. Safeway only began paying a dividend in 2005, but has raised its dividend in each year since then by a cumulative 250%.
Source: Nasdaq.com.
As you can see, Safeway is no stranger to double-digit dividend increases. In fact, all dividend boosts, save for its very first dividend hike in 2006, have been between 20% and 21%. Yet in spite of this rapid growth, Safeway’s payout ratio is only 34% of its projected 2013 forecasted earnings according to Wall Street’s estimates. This leaves ample room for further dividend increases without digging too deeply into its budget for business and product expansion. If Safeway were to again boost its payout by 20% in the upcoming year, shareholders could expect to receive $0.21 per quarter and the yield would jump to 3.7%.
Foolish roundup
Let this be a lesson that just because a business doesn’t appear exciting doesn’t mean it’s not incredibly profitable. Safeway’s technological advancements, its shift toward carrying more natural and organic foods, and its aggressive shareholder-building action such as its share repurchases and rapidly growing dividend payout make it an incredibly attractive long-term investment for income seekers. With its 3% yield, you’ll be hard-pressed to find a more stable income producer.
The article 1 Great Dividend You Can Buy Right Now originally appeared on Fool.com and is written by Sean Williams.
Fool contributor Sean Williams has no material interest in any companies mentioned in this article. You can follow him on Motley Fool CAPS under the screen name TMFUltraLong, track every pick he makes under the screen name TrackUltraLong, and check him out on Twitter, where he goes by the handle @TMFUltraLong.The Motley Fool owns shares of SUPERVALU and Whole Foods Market. Motley Fool newsletter services have recommended buying shares of Whole Foods Market.
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