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3 Reasons Target Is a Better Dividend Stock Than Costco

By Demitri Kalogeropoulos - Apr 9, 2018 at 6:27PM

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Why income investors might prefer Target over its faster-growing retailing peer.

Target's (TGT 1.26%) recent operating trends fail to impress when stacked against Costco's (COST -1.54%). That performance gap isn't unique, though. Costco's growth puts it in a category all by itself, and so Target is just one of many retailers that trail the warehouse giant in key metrics like customer traffic and operating margin.

Still, Target has Costco beat in the dividend arena, which might make it a more attractive stock for income investors.

A woman whispering into another woman's ear as she's carrying two shopping bags.

Image source: Getty Images.

The payout is bigger

Target's $2.48 per share of annual dividends equates to a yield of almost 3.5%. That compares well to the broader market's 2% and it absolutely blows away Costco's 1% yield.

Sure, Target has posted weaker profits recently as the company scaled up investments in its e-commerce strategy while cutting prices to keep customer traffic rising. Yet the spending hasn't come close to jeopardizing its dividend. Target's payout was less than half of earnings over the past year and should amount to roughly the same proportion of the $5.30 per share that management is expecting to generate in 2018.

It's predictable

In practice, Costco's actual payout has been much larger than its yield implies. That's because management has a habit of rewarding investors with massive, one-time dividends. It sent an extra $7 per share to stock owners last year and another $5 per share in 2015. Since 2012, the retailer has delivered over $8 billion in these special dividends.

TGT Payout Ratio (TTM) Chart

TGT payout ratio (TTM). Data by YCharts.

The problem is that shareholders can't count on surprise dividends when they're seeking consistent income. This year, the payout should be $2 per share, or just a 1% yield. The next special dividend might be years away, too, if management chooses to ramp up investments in e-commerce or speed its expansion into international markets.

It's no surprise that income investors prefer the predictability of a significant dividend commitment. Target's capital allocation plan explains that management aims to "maintain a competitive quarterly dividend," and that they "seek to grow it annually." Costco doesn't make a similar promise in its filings, instead noting more generally that its earnings tend to produce excess cash flow that executives can dedicate toward dividends and share repurchases.

It's got more history 

Costco began paying a regular dividend in 2004, which gives income investors just a 14-year track record to review when they're trying to judge the long-term potential of this payout. Target, on the other hand, has paid a dividend each quarter since the retailer went public in 1967. It has also raised that payout in every one of those years, which translates into a streak of 51 years of increases.

That record is good enough to make Target one of just a few retailers who can claim membership in the elite club of Dividend Aristocrats. It spans multiple industry downturns and a failed expansion into the Canadian market. Thus, the streak provides ample evidence that Target has both the desire and the ability to keep its dividend rising through a wide range of business conditions.

Meet your income needs

Dividend strength is just one factor to consider when you're comparing investment ideas. A retailer's broader operating trends should play a bigger role and, as I mentioned earlier, that's an area in which Costco has its rival beat by a wide margin.

But if you're simply seeking a market-thumping dividend yield with a good shot at expanding steadily over the next few years, Target looks like the better bet here.

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Stocks Mentioned

Target Corporation Stock Quote
Target Corporation
TGT
$155.36 (1.26%) $1.93
Costco Wholesale Corporation Stock Quote
Costco Wholesale Corporation
COST
$416.43 (-1.54%) $-6.50

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