In the world of retail, Costco Wholesale (NASDAQ:COST) is truly in a league of its own. The company's warehouse clubs are wildly popular, with 44.6 million households paying an annual fee to shop at the cavernous stores. While other retailers advertise, sometimes heavily, Costco eschews traditional advertising completely, relying on customer satisfaction to gain and retain members. Costco's business model is a high-volume, low-margin affair, but the stickiness of a Costco membership has allowed the company to produce stunningly consistent results over the past decade.
One area where Costco falls short, though, is as a dividend stock. Costco pays a total of $1.60 per share in dividends annually, good for a dividend yield of just about 1%. The dividend has grown at a healthy clip over the past decade, compounding at a roughly 12% annual rate, but such a low yield makes Costco a lackluster stock for dividend investors. The good news is that there are a couple other retailers, specifically Wal-Mart Stores (NYSE:WMT) and Best Buy (NYSE:BBY), that are far better dividend stocks than Costco.
With nearly $500 billion in annual sales, Wal-Mart is a global retail behemoth, more than four times the size of Costco by sales. The company's strategy has always been to offer the lowest prices possible, undercutting essentially all traditional retailers. An efficient supply chain, low employee wages, and a gargantuan scale give Wal-Mart an important edge when it comes to costs.
At the moment, Wal-Mart is going through a rough patch. The growth of e-commerce has finally caused the company to get serious about its own e-commerce business, and Wal-Mart is making major investments over the next few years in order to drive online sales. Wal-Mart is also investing in its employees by raising wages, improving training, and boosting benefits, all in an effort to reduce turnover, improve productivity, and make its stores more pleasant for customers. These actions will cause earnings to decline both this year and next year, according to the company, before returning to growth.
This disappointing earnings guidance has caused Wal-Mart shares to tumble over the past year, pushing up the stock's yield to record levels. The current dividend yield, about 3%, isn't quite as high compared to a few months ago, when Wal-Mart stock bottomed out, but it's still triple that of Costco, and well above historical levels. Dividend growth will likely be slow going forward, but Wal-Mart's high yield and significant competitive advantages make it a great dividend stock to own.
A few years ago, consumer electronics retailer Best Buy was far from a solid dividend stock. The company was in trouble back in 2012, and the stock plummeted to lows not seen in over a decade. Since then, under CEO Hubert Joly, the company has turned itself around, cutting more than $1 billion in costs, investing in e-commerce, and improving customer service. While Best Buy still faces plenty of competitive pressures, the company is stronger than it's been in years.
Best Buy recently announced a 22% dividend increase, pushing its quarterly payment up to $0.28 per share, good for a forward dividend yield of about 3.3%. Investors of record on March 17 will also be receiving a one-time $0.45 special dividend, similar to the one Best Buy paid in 2015. While these special dividends may not happen every year, they're possible due to Best Buy's vastly improved balance sheet. At the end of fiscal 2016, the company had nearly $3.3 billion of cash and investments, and just $1.7 billion in debt.
Best Buy doesn't have the competitive advantages enjoyed by both Costco and Wal-Mart, but the company's performance has been generally solid, despite industrywide declines in consumer electronics sales, according to NPD. Going forward, a focus on customer service should allow Best Buy to continue to win market share, as it has been doing in recent quarters, and a 3.3% dividend yield will reward investors for sticking with the company.
The bottom line
There's no argument that Costco is a wonderful company, but as a dividend stock, it just doesn't compare to retailers with higher yields. Part of the problem is Costco's valuation. The stock trades at nearly 29 times last year's earnings, a lofty multiple that drives down the dividend yield. Wal-Mart trades for about 14.5 times earnings, while shares of Best Buy go for just 13.4 times earnings.
Costco is an expensive stock, and regardless of how well the company is run, that high price makes it risky. While both Wal-Mart and Best Buy are facing challenges, far higher dividend yields and far lower valuations make both stocks more suitable for dividend investors than Costco.
Timothy Green owns shares of Best Buy. The Motley Fool owns shares of and recommends Costco Wholesale. 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.