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This Top Dividend Stock Is Better Than It Looks

By Daniel Sparks - Jun 10, 2020 at 6:35AM

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Don't take this stock's dividend yield at face value. There's more to the story.

While it's nice to see stocks rising again following a brutal market crash in February and March, one downside to growing optimism on the Street for securities is that there are fewer bargains to be found. With shares of many companies trading near -- or even above -- pre-COVID-19 levels, some investors may be giving dividend stocks a second look. After all, dividend-paying stocks often trade at more conservative valuation than growth stocks and they provide a nice perk for shareholders: an income stream.

One dividend stock worth taking a close look at today is Costco Wholesale (COST 0.94%). With a dividend yield of just 0.9%, Costco may not look attractive on the surface. But investors who evaluate this dividend payer by its dividend yield today are dramatically underestimating Costco's potential as an income investment.

A dollar sign next to an arrow

Image source: Getty Images.

Don't forget Costco's special dividend

How exactly are dividend investors who take Costco's dividend yield at face value missing the mark? Simple: From time to time, Costco pays out a massive special dividend -- and this occasional payout isn't factored into Costco's dividend yield calculation at all.

The wholesale club's dividend yield is based on a $0.70 quarterly payout, which translates to $2.80 annually. Dividing this by Costco's stock price today puts out a 0.9% dividend yield. But this calculation doesn't give any weight to the huge special dividend Costco has paid to investors three times since 2012.

In 2012, Costco paid a $7 special dividend to investors. This was followed by a $5 special dividend in 2015 and another $7 cash payment per share in 2017. 

"Our strong balance sheet and favorable access to the credit markets allow us to provide shareholders with this dividend, while preserving financial and operational flexibility to continue to grow our business globally," said Costco CFO Richard Galanti in a 2017 press release about its $7 special dividend at the time. 

Since 2017, Costco's annual net income has increased by more than a billion dollars and its cash reserves have risen to $11.8 billion. It wouldn't be surprising, therefore, to see Costco announce another special dividend soon.

Firing on all cylinders

Of course, there's more reason than Costco's dividend for investors to consider buying the stock. The wholesale juggernaut is seeing impressive momentum on both its top and bottom line. In its fiscal third quarter, revenue rose 7.3% year over year and earnings per share rose 15% year over year when adjusted to exclude incremental wage and sanitation costs related to COVID-19.

Momentum is particularly strong in e-commerce. E-commerce sales during the period jumped 32% year over year. 

This sales momentum is consistent with results before COVID-19 as well. Revenue for fiscal year 2019 (a 12-month period that ended on Sep. 1, 2019) increased 7% year over year and earnings per share jumped 17% over this same time frame. E-commerce sales in fiscal 2019 increased 23% year over year.

Sure, with a price-to-earnings ratio of 37, Costco shares aren't cheap. But for investors looking for a reliable dividend-paying stock that could soon pay out a special dividend on top of its regular payments, Costco stock is a great option.

Daniel Sparks has no position in any of the stocks mentioned. The Motley Fool recommends Costco Wholesale. The Motley Fool has a disclosure policy.

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Costco Wholesale Corporation Stock Quote
Costco Wholesale Corporation
$537.21 (0.94%) $5.01

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