Over the last few years, Michael Kors has taken most of the limelight at the high end of the retail spectrum. That's left Coach (NYSE:COH) waiting on the sidelines, watching its stock fall and its sales decline. In its last fiscal year, reported at the beginning of August, Coach reported an overall drop in total sales, riding a 15% drop in comparable sales in its North American stores.
Falling sales don't mean the business is down for the count, though, and it certainly doesn't mean Coach can't still provide a solid dividend. Until the beginning of this year, Coach had been steadily increasing its dividend. This year, it held firm at $0.3375 per share per quarter -- $1.35 annually. Coach's current payout amounts to a 3.68% yield -- a favorable comparison to Kors' 0% payout.
Consistency and growth are excellent, but to be a top dividend stock investors need to know that things are going to continue being strong in the future. Here are three points that should help dividend investors decided if Coach is right for them.
First, let's take a look at whether Coach's current dividend commitment is sustainable. The company generated $766 million in free cash flow over its last fiscal year. That was a drop from the previous year, when Coach managed to pump out $1.71 billion. That doesn't look good in terms of dividend sustainability.
Coach spent almost half of its total free cash last year paying out $376 million in dividends. That's not the end of the world, as even with a slower year, it had room to spend more on a dividend if it wanted. Coach's squeeze comes from the confluence of an increasing dividend and decreasing free cash flow.
The split mind of Coach
The company could bump that cash flow up if it could turn sales around. Comparable-store sales have been falling as the brand tries to right its ship. The biggest weakness is Coach's traditional strong suit -- women's handbags. Sales in North America are falling, even as Coach estimates that the handbag market is growing.
Coach has had a difficult time walking the thin line that exists between sales and margins. On one hand, the company needs to promote in order to drive more sales in the store. For the coming fiscal year, it's planning to hold off on some promotional activity, resulting in some lost sales. On the other hand, it's going to have a higher gross margin.
That balancing act isn't just a financial move, either. The more often Coach has to run promotions, the more often customers come to expect merchandise to be discounted. That then leads customers to discount the brand, and makes it harder for Coach to hit the $400 price range it's hoping for.
Competition beats Coach to the punch
The cash flow issue and the sales problem would be an easier pill to swallow if Coach were operating in a different environment. Economic downturns hurt all kinds of companies, but Coach also exists in a deadly competitive pool. Trends switch, fashions change, and Coach has the potential to be left behind. That's not to say the company is going under, but a bad turn can lead to years of brand rebuilding.
Coach is fighting Kors and Kate Spade, among others, and it's in a tight spot. Kors is growing its market share, with comparable sales up 26.2% in the last fiscal year. The brand is just eating Coach's lunch, dinner, and afternoon snack, leaving investors looking at a brown bag full of crumbs.
That's not especially useful for dividend investors, as Kors isn't paying one and doesn't have plans to do so anytime soon. Instead, it's more of a cautionary tale for Coach investors. While the brand is valuable, with plenty of long-term potential, the near-term outlook for the company's dividend doesn't look exceptional. There are certainly worse businesses out there, but Coach simply isn't a top dividend stock.
Andrew Marder has no position in any stocks mentioned. The Motley Fool recommends Coach and Michael Kors Holdings. The Motley Fool owns shares of Coach and Michael Kors Holdings. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.