This last year was a tough one for off-price retailer TJX Companies
When I originally recommended TJX for our Blue Chip report last year, I found the company's valuation attractive. I also saw that the performance of the newer concepts wasn't nearly as good as the rest of the business -- and that if the company continued to expand the newer concepts without improving their profitability, the investment thesis wouldn't be as attractive. As the year wore on, it looked like my fear might come to pass, but after CEO Edmond English was ousted last September, the company swiftly announced plans to curtail its capital expenditures and get the new concepts profitable before expansion proceeded.
That was the party line, but there weren't hard numbers to back it up -- until the company filed its 10-K last week. In the 10-K, the company's total capital expenditures are forecast to be $395 million for fiscal 2007, with $115 million of that amount going towards new store openings. Compared to fiscal 2006, the total capital expenditures are 20% lower, and new-store-opening capital expenditures are down 33%. Given that the company is cutting back on capital expenditures, is determined to improve the profitability of its remaining concepts, and is getting the bulk of its cash flow from its Marshalls and TJ Maxx stores, I'm guessing that free cash flow will be quite a bit higher in fiscal 2007 than it was in 2006.
But that's only one year's worth of robust free cash flow growth. TJX still needs to get A.J. Wright, HomeGoods, and Bob's Stores performing well in order to sustain growth above the 3%-5% that I estimate it can drive through TJ Maxx and Marshalls.
This brings me to TJX's valuation. Looking at the company's free cash flow from the last year and using a discount rate of 9.5%, the company is currently priced for 4% growth. But that assumes no repurchases. And not taking share repurchases into account for a company that has repurchased, on average, about 3% of its shares for the past five years is not exactly fair. When I do take 2%-3% repurchases into account, the shares are undervalued by more than 20%. In addition, the company raised its dividend by 17% today, to $0.28 annually, and the dividend consumes less than half of the company's free cash flow. So while the dividend yield is only 1.1%, it's a secure dividend that still has plenty of room to grow.
Considering that management has shown that it won't waste capital on unprofitable expansion, I think the valuation is still pretty intriguing here. Investors who are giving TJX a look should also spend some time considering Ross Stores
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Nathan Parmelee has no financial interest in any of the other companies mentioned. The Motley Fool has an ironclad disclosure policy.
