Target As A Bond Substitute

| About: Target Corporation (TGT)

Summary

Target currently yields 3.5%.

The 30 year treasury yields 2.5%; 10 year yields around 1.75%; S&P 500 yields 2.08%.

How to achieve an above average yield in today’s yield starved environment.

The stretch for yield. That is all I keep hearing about in today's yield starved world. Central bankers across the globe continue to purchase risk free assets which effectively lowers rates on all income producing vehicles. This has pushed people wanting some return on their cash into riskier assets. With 10 year treasury yields around 1.75% and the S&P 500 close to its historical low yield what is an investor to do? One could get into junk bonds, but in today's leveraged world I'm not sure if that is a great idea. One could buy further longer dated treasuries, after-all the 30 year is yielding 2.5%, but what happens if the FED finally does decide to raise interest rates and the price of long term bonds gets punished. My solution is to buy a company that has been around for more than 100 years and has paid a dividend for more than 45 years. Target (NYSE:TGT) currently pays a $0.60 quarterly dividend which is good for a 3.5% yield on the current price of $68. While this is not a sexy growth stock, Target has plenty of cash flow to cover its dividend and as a bonus has also been returning plenty of capital to shareholders through the use of buybacks.

In addition to the nice yield and shareholder friendly buyback tactics, Target also sports a good valuation at its current price. With TTM EPS of $5.36 it sports a 12.7 P/E ratio. This is almost half of the S&P 500 valuation of 25x. So It has a dividend yield that is 67% greater than the S&P 500 while simultaneously trading at half of the market's valuation, how is this possible? There are many people who believe that the days of people going outside their homes and shopping at stores is over. Many people will tell you that Amazon (NASDAQ:AMZN) has already won the war. Either that or Wal-Mart (NYSE:WMT) will undercut Target's pricing. Well, please take a look at the below chart of Target's Revenues and other key indicators below. While Target is certainly not a growth name, it is certainly not dying either. They have compounded annual growth rates in revenues of 2% and net income of 5% over the last 7 years. As a bonus they have cut shares down by a whopping 24% from 774 million to 587 million (most recent 8-k dated 7/30/16).

7 yr.

Target

2009-01

2010-01

2011-01

2012-01

2013-01

2014-01

2015-01

2016-01

CAGR

Revenues

64,948

65,357

67,390

69,865

73,301

71,279

72,618

73,785

2%

Operating Inc.

4,402

4,673

5,252

5,322

5,740

4,779

4,535

4,910

1%

Net Income

2,214

2,488

2,920

2,929

2,999

1,971

(1,636)

3,363

5%

Shares

774

754

729

683

663

641

640

632

-3%

EPS

2.86

3.30

4.00

4.28

4.52

3.07

-2.56

5.31

8%

Free Cash Flow

883

4,152

3,142

1,066

2,048

3,067

2,653

4,406

22%

Dividends

0.60

0.66

0.84

1.10

1.32

1.58

1.90

2.16

17%

Click to enlarge

· Chart put together using data from Morningstar.com

Target is not without their hiccups though. They had the credit card hack in 2013; bathroom issues this year and of course, the Canadian debacle of 2015 which cost the company billions when they failed miserably with their entrance and subsequent exit from the Canadian market. Also, there is a downside to paying out such generous dividends and buying back so many shares for Target. They have a fairly sizable debt load of $12 billion. Set against their billion or so in cash, this brings their enterprise value to $50 billion vs. their market cap of $39 billion. But with their sizable free cash flow that has averaged $3.3 billion over the last 3 years, they can continue to easily cover their yearly dividends of $1.4 billion (587 million shares * $2.40 / share payout). They can also use the remaining cash flow to buyback more shares, open more of their new concept Target Express urban stores and pay down debt as it comes due.

So if you find yourself wondering how you can get a better yield than the ~0% most savings accounts are paying or even the ~1% many online savings banks pay, I believe Target is the place for you. Unless Americans decide they no longer want to shop I think this stock is undervalued and will provide with a nice dividend yield long into the future.

Disclosure: I am/we are long TGT.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.