Macy's: A Safe Bet In The Current Environment

| About: Macy's Inc. (M)

Summary

Macy’s stock and other large cap companies have been performing well overall this year.

A lower beta indicates that Macy’s is less susceptible to the present market environment.

Debt-to-equity ratio is at par with the industry, which means that Macy's shouldn’t be affected by interest-rate hike more than its peers.

Satisfactory dividend yield and undervalued status indicate that the company is a good investment to consider.

The stock market has been performing differently this year as compared to what it did in 2013. It is not just the overall return that has fallen, but volatility has also risen. Due to the growing tension in regions like Russia and the Middle East, investments have flown to the US and the US dollar has strengthened. There is also uncertainty prevailing due to the monetary policy of the Feds. Within this environment, large cap stocks have generally been performing better than small cap ones, since they are considered less risky due to their smaller beta. This can be seen through the S&P 500 index, which has gained a decent 6%, year to date.

Macy's (NYSE:M) has been a strong player in the present macro environment. It has delivered a year-to-date share price return of 8% to investors. In this article, I will explain why the company is a good stock to consider buying. I will start by looking at the company's latest quarterly performance.

Recent Quarterly Performance

During the period, Macy's delivered a revenue figure of $6.3 billion, 330 bps higher than the year-ago quarter. Comparable-store sales grew by 4%, indicating that the company's new training program, Magic Selling, and its Omni-channel marketing were proving effective. The quarter contributed well towards Macy's three-year revenue growth which was 3.5%, on average, at a time when industry sales have fallen by 3%.

Clearly, the company's top line is healthy at present. Considering the latest e-commerce boom and the holiday season nearing, the company should be able to sustain the revenue trend. The hiring of 86,000 seasonal staff should also help further in the holiday season, which accounts for a large portion of the annual revenue of the company.

Macy's delivered earnings of 80 cents per share, 11% higher than the year-ago quarter. Although higher sales played their part, share-repurchase activity also provided a pillow to the bottom line.

An increasing revenue stream points towards the company's ability to keep its share value up. However, there are additional criteria that Macy's meets, qualifying it to become a top performer. Let's have a look at them.

Beta Level

With a beta of 0.95, Macy's stock is less risky and highly uncorrelated with the S&P 500. It is also far less risky than peers such as Sears (NASDAQ:SHLD) and Dillards (NYSE:DDS), which operate at a beta of 3.09 and 1.43 respectively. The company's stock can be thought of as 5% less volatile than the broader market. This means that Macy's stock tends to underperform when the market is going up, but then it is also likely to hold up better when the market is falling. That being said, Macy's is relatively more liable to survive in the current market volatility.

Debt-to-Equity Ratio

The Fed has kept short-term interest rates near zero since 2008, and has bought more than $3 trillion of bonds to keep the borrowing costs down and boost the investment market. The Fed plans to finish its latest round of bond buying this month, and policy makers are hence calling for interest-rate increase.

If interest rates increase, the interest expense of companies that have a high debt-to-equity ratio can skyrocket, bringing down the total profitability. Given that the firms in the retail industry are already struggling to grow their top line, it would be harder to maintain a satisfactory level of profit. Under this scenario, Macy's current debt-to-equity ratio of 1.24 is a safe metric as it is at par with the industry. Any high amount of gearing would've meant that the company will be harmed relatively more by interest-rate increase in the future.

Undervalued or Overvalued

No metrics are useful if a stock is overvalued. After all, investors seek capital gains and therefore that is the most important factor to consider when choosing a security. Macy's trades at a PE ratio of 14.3. However, the industry's PE is currently at 101, which is very high. Looking at this, Macy's is certainly undervalued by a wide margin. Moreover, 16 brokers hold a mean price target of $64 for the company, which provides an upside potential of 10% at the current market price.

Dividend Yield

If stock price fails to deliver returns, the next bet is on dividends. A high, not too high, dividend yield is desirable in the current environment. Macy's has been managing its cash flow well. The company has been returning much of its free cash to shareholders through dividends and share-repurchase programs, while retaining strong balance sheet and credit ratios that are required for an investment-grade rating.

The current dividend payment of 31.25 cents takes the payout ratio to 25% and provides a yield of 2.1%. Besides, the company has $2 billion remaining at its disposal under the share-repurchase program. The yield level is acceptable, and the repurchase program suggests that the company is optimistic about future cash-flow generation.

Bottom Line

Macy's generates less than 10% of its revenue from the international market. Therefore, the company is not highly at risk to a strong US dollar and a weak global economy. The current environment may not be the best for the retail industry; yet, Macy's has been able to maintain its earnings momentum. A lower beta, satisfactory debt level, fair pricing and dividend yield all point towards a stock which should continue satisfying investors' desire for returns. Therefore, if investors are looking for a safe stock in the retail industry, Macy's offers good prospects. The company holds a buy rating.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.

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