Because everyone has different investment objectives and levels of risk tolerance, there is no one-size-fits-all approach to investing. For investors seeking a blend of growing passive income and capital appreciation, dividend-growth investing may be a viable strategy. That is because consistently upping a dividend requires increasing profits, which also leads to share price growth over time.
Having parlayed a $5,000 investment in 2013 into $20,000 with dividends reinvested, rural lifestyle retailer Tractor Supply (TSCO 3.26%) has a track record of outperformance. By comparison, the same investment amount in the S&P 500 index would now be worth $16,000 with dividends reinvested. Let's elaborate on why the stock remains an excellent buy for dividend-growth investors.
1. The wildly successful membership program is driving growth
For 85 years, Tractor Supply has sold an extensive line of products to customers at low prices. Along with friendly and knowledgeable customer service, this has helped the company prosper. With nearly 2,400 stores under the Tractor Supply and Petsense banners (the latter of which is a pet supply retailer) in 49 U.S. states, the company is a major specialty retailer.
| Metric | Q2 2022 | Q2 2023 |
|---|---|---|
| No. of total store locations | 2,181 | 2,373 |
| Comparable sales growth rate (YOY) | 5.5% | 2.5% |
| Net margin | 10.2% | 10.1% |
Data source: Tractor Supply. YOY = year over year.
Tractor Supply's net sales rose by 7.2% over the year-ago period to $4.2 billion for the second quarter ended July 1. This healthy top-line growth was mostly due to two factors. First, the company's Neighbor's Club membership program surged to a record 31 million members -- up by 5 million from the prior year. These members visit the company's stores more often than nonmembers, which is how comparable-store sales grew at a 2.5% year-over-year rate in the quarter. Tractor Supply's new store openings and the acquisition of Orscheln Farm and Home stores led to a higher store count, which also pushed net sales higher during the quarter.
The retailer, based in Brentwood, Tennessee, generated $3.83 in diluted earnings per share (EPS) for the second quarter, which was up 8.5% over the year-ago period. Faster growth in selling, general, and administrative expenses than net sales resulted in a roughly 10-basis-point narrowing of Tractor Supply's net margin in the quarter. But this diminished profitability was more than countered by a decline in the number of diluted shares outstanding. That is how diluted EPS grew more than net sales during the quarter.
Tractor Supply's growth outlook should remain strong in the years ahead. The company upped its long-term target store count in the U.S. by 200 to 3,000 stores. Based on its plans to increase its annual new store openings to 90 beginning in 2025, this takes the domestic growth runway to the start of the next decade. That is why analysts anticipate that Tractor Supply's diluted EPS will compound by 7.7% annually for the next five years.
Image source: Getty Images.
2. Substantial dividend growth can continue
Compared to the S&P 500 index's 1.6% dividend yield, Tractor Supply's 1.9% yield isn't too shabby. And considering that the payout has soared nearly eight-fold in the past 10 years, the company's dividend growth profile is even more alluring.
Data source: YCharts
Best of all, Tractor Supply's dividend payout ratio is set to clock in at about 40% for 2023. This is a very sustainable payout ratio because it allows the company to keep enough capital to expand, reduce debt, and make share repurchases while also hiking the dividend.
3. An appealing valuation
As broader markets have rallied in 2023, shares of Tractor Supply have dipped about 1% so far this year. Profit growth and the pullback have pushed the stock's forward price-to-earnings (P/E) ratio down to 19.3. Stacked up against the specialty retail industry average forward P/E ratio of 15.2, this isn't an unreasonable valuation. Tractor Supply's reputation as a dividend-growth stock arguably justifies this premium valuation. That explains why analysts have an average 12-month share price target of $247 for the stock, which would be a 11% gain from the recent $222 share price.
