The retail industry overall is a bit of a mess. At the top of the heap, there is Amazon.com. At the bottom of the heap, there are bankruptcies and thousands of stores closing. Between those extremes, there are enticing values to be found.
Macy's (M 0.04%), Tapestry (TPR 1.96%), and L Brands (BBWI 0.96%) are worth considering as investments for the dividends alone. To be clear, all three are facing challenges. But these companies generate healthy levels of free cash flow and distribute most of that to shareholders in dividends. These three stocks have gotten so cheap that the dividend yields range from 5% to nearly 10%.
Plus, the obstacles these retailers face in the short term appear fixable. Here's why I would consider buying shares today.
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1. Macy's: Value is hidden in the details
On the surface, the situation doesn't look good for Macy's. Fast-fashion outlets and online luxury stores have made it more convenient for consumers to get what they want. As a result, fewer shoppers visit department stores these days. The declining traffic trend in recent years has led to a dramatic fall in Macy's share price. So why buy the stock?
When we look at the numbers, the iconic department store is not doing that badly. Comparable-store sales have been positive this year, averaging 0.5% through the first half of 2019. Management is guiding for flat to slightly positive comp sales for the full year.
What's more, the stock offers a high dividend yield of 9.57%, and it looks sustainable. Macy's generates plenty of free cash flow and pays most of it back to shareholders via dividends. Free cash flow has been declining over the last few years, so investors will want to see that the current level of $516 million generated over the last 12 months holds up. Maintaining positive comp sales and stable margins will be important to watch.
But the company is also sitting on a gold mine of real estate, with estimates of its value ranging from $7 billion to as high as $21 billion. Macy's has been making some asset sales to supplement its investments in growth initiatives such as e-commerce and improving the in-store experience. Management is also investing in the mobile app, which is seeing growth and better conversion.
All told, with an attractive dividend yield and an ultra-low forward price-to-earnings ratio of 6.02, this is one department store stock that is a worthy buy consideration.
2. Tapestry: The new CEO is bringing a fresh perspective
The jury is still out on whether Tapestry's move a few years ago to form a "modern luxury house" of leading designer brands was the right strategy. The crown jewel of Tapestry is Coach, which does $4.3 billion in annual revenue and generates a very healthy operating margin of 27.1%. Tapestry's other two brands -- Kate Spade and Stuart Weitzman -- make up about one-third of total revenue combined and are less profitable than Coach.
Coach used to be a steady grower, but revenue gains started to flatten out around 2014. The acquisitions of Kate Spade and Stuart Weitzman were intended to build a broader product lineup and therefore attract a wider range of customers to grow sales. However, over the last three years, the stock is down 27%. The acquisitions pushed revenue up 34%, but the company's profitability deteriorated.
Despite the growth pains, there are a few reasons I believe the stock is a buy. First, Tapestry just appointed its chairman of the board, Jide Zeitlin, as the new CEO. Zeitlin has been a member of the board for 13 years, and before that, he worked at Goldman Sachs in senior management roles for 20 years. The stock is up 23% since the news of his appointment, as investors are hopeful that his observations of the business and his experience on Wall Street will bring some fresh perspectives on how to improve the company's performance.
Additionally, the stock pays a high dividend yield of 5.31%. The payout looks safe, as Tapestry distributed three-quarters of its free cash flow as dividends in fiscal 2019. Also, the stock trades at a cheap valuation of 9 times forward earnings estimates. If Zeitlin gets the company back on track, the stock could be a winner. In the meantime, investors can watch those dividend payments pad their cash balance.
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3. L Brands: Victoria's Secret needs a refresh
L Brands operates Victoria's Secret (56% of revenue year to date) and Bath & Body Works (35% of revenue year to date). While business at Bath & Body Works is healthy, performance at Victoria's Secret has been dismal. The stock has fallen 77% over the last three years as Victoria's Secret lost market share to competitors. Victoria's comp sales performance dropped 6% last quarter, but turning the brand around is management's top priority.
The company has made "significant changes" to the fall assortment. While there is uncertainty with tariffs and how customers will respond to management's halting of broad-based discounting, management is optimistic that customers are going to respond well to the new merchandise. Customer trends have been favorable since August, and the company's guidance assumes that Victoria's Secret will show improvement through the end of the year.
For the full year, L Brands is calling for comps to increase in the low-single-digit range. The stock trades for 6.7 times next year's earnings estimates and offers a dividend yield of 7.13%. L Brands has paid a dividend for 179 straight quarters, but the company cut the dividend last year in order to pay down debt. Nonetheless, the company only paid out 62% of its trailing-12-month free cash flow in dividends, which provides plenty of wiggle room.
While the stock may have limited upside in the short term due to the weakness at Victoria's Secret, it might be worth it to start a small position for the dividend alone. If Victoria's Secret gets back to positive comp performance within the next year, the stock will undoubtedly soar from current levels.
