Over the past five years Target has spent an average of about $1.7 billion on share repurchases. Predicting the exact amount of future share repurchases isn’t feasible, but you know that the propensity is there. Previously Target was able to reduce the share count by nearly 4% annually. The above assumptions use a 2% annual reduction, as the payout ratio (and thus room for “organic” share repurchases) is now less than it had been.
By the way, these assumptions could very well be understated just as much as they could be overstated. Using 2% revenue growth, a 4.5% profit margin and 2% yearly share count reduction leads to 5.8% annual earnings-per-share growth. Analysts are expecting something closer to 9% over the intermediate-term.
Target’s average historical earnings multiple has been around 17 during the past decade. Using this P/E ratio results in share price appreciation of over 7% annually. Finally, you can add in the dividend component (now sitting above 3%). The presumed dividend growth rate isn’t spectacular, but it is still solid and in line with the company’s anticipated “glide path” for the security.
Putting these factors together, you come to a total expected return of about 9.4% per annum. As a point of reference, that’s the sort of thing that would turn a $10,000 starting investment into $25,000 or thereabouts after a decade.
By the way, this type of calculation also demonstrates the importance of the price you pay. Not too long ago shares of Target were trading around $82. Using the same assumptions as above with this price would result in the expectation of 7.5% annual returns – still solid, but well below what you might anticipate with the share price closer to $68.
Final Thoughts
That’s how I’d begin to think about an investment in Target. Operationally you might anticipate similar results to what the company previously displayed. Moreover, the effectiveness of share repurchases and the dividend growth rate could very well be less than what they once were. Yet these factors do not prevent Target from being a solid investment.
Indeed, the future results could very well be more impressive than the past…
This comes about as a result of the current price and valuation being offered. Instead of starting with an earnings multiple of around 18 and a dividend yield under 1%, you have a multiple closer to 15 and a dividend yield above 3%. This makes a big difference when you’re thinking about the suitability of an investment. It makes what I like to describe as the “investment bar” that much lower.
Target doesn’t have to grow exceptionally fast in order to justify reasonable or better returns.
The company ranks highly using The 8 Rules of Dividend Investing thanks to its:
– Above average 3.3% dividend yield
– Reasonable 50% payout ratio
– Below average price-to-earnings ratio of 15.4
– Solid total return prospects
Target Corporation (NYSE:TGT) is not the only retailer in the Sure Dividend database – which includes 180+ stocks with 25+ years of dividend payments without a reduction. There are a total of 16 stocks in the Services sector in the Sure Dividend database. Click here to download a free spreadsheet of these stocks, including 8 Rules Rank.
Disclosure: This article was originally published on Sure Dividend by Eli Inkrot.
