After recent Q2 earnings reports, the market was impressed with the talk from Home Depot (NYSE:HD) management and disappointed with Lowe's (NYSE:LOW). According to most analysts including Mad Money host Jim Cramer, HD is winning the home improvement market. Click here to see the video where Cramer breaks down the two companies.
It's very difficult to argue with Cramer or any other Wall Street experts. Sure investors can spends hours researching the stores, but ultimately both are great companies. Consumers tend to shop at the closest store and HD is restructuring so the better results at HD might just be a bounce back from lackluster results previously.
As a small investor can you really tell a difference between the two? A better way to invest than reading tons of financial reports and visiting numerous stores would be to take a step back and let management tell you the cheapest company with the cash they return to shareholders. Investors continue to focus solely on the roughly 3% dividend yield both companies offer completely missing the buybacks which are a more efficient return of capital to shareholders.
In the most recent earnings report, LOW reported a whopping 5.9% net payout yield (NPY) or nearly 25% annualized while HD had a still impressive but much smaller 2.5% NPY. Maybe the management of LOW is just delirious, but they sure spent money (compared to valuation) at a much higher rate than HD. Considering a market cap over $25 billion, it's unlikely LOW would unwisely return more capital than feasible.
On top of the massive Q2 yield, LOW recently announced a massive $5 billion stock buyback plan hinting that yields will remain high in the next few years. While an investor shouldn't focus solely on announced plans, LOW has a track record of buying stock having recently bought $1.4 billion worth in Q2.
While HD is doing all the talking, LOW is returning a much higher percentage of cash to shareholders. Would you rather follow the cash or the talking?
Remember with stocks it's not always about following the best company, but rather the best valuation. Focusing on the NPY allows an investor to take the emotion out of investing and let the market and management teams signal when a company offers a better valuation.
Below are the quarterly charts of the NPY for each LOW and HD. Notice how LOW continues to increase the yields while HD remains relatively flat suggesting a superior valuation at LOW. Ultimately both companies provide superior yields than the market though an investor focusing solely on dividends would miss this signal.
Lowe's Quarterly Net Payout Yield
click on images to enlarge
Home Depot Quarterly Net Payout Yield
* Data sourced from smartmoney.com.
While my net payout yield model is long both HD and LOW, I'd buy LOW first going forward.
Disclaimer: All data is provided for informational purposes. Please consult your investment advisor before making any investment decisions.