John Heinzl is the dividend investor for Globe Investor's Strategy Lab. Follow his contributions here. You can see his model portfolio here.
Mention grocer Metro Inc. to a dividend investor, and you're likely to get a big yawn. With plenty of pipelines, telecoms and power producers offering yields in excess of 4 per cent, it's hard to get excited about a supermarket stock paying a puny 1.7 per cent.
But Metro's stellar stock market performance illustrates why it can be a mistake to give a company a pass based on its diminutive yield alone.
Shares of Canada's third-biggest supermarket operator have soared about 200 per cent over the past decade, far outpacing rivals Loblaw Cos. Ltd. (up 31 per cent) and Empire Co. Ltd. (up 15 per cent), both of which have had their share of operational struggles.
For dividend investors, Metro has built an equally impressive track record. Fuelled by steadily rising earnings, the company – whose policy is to pay out 20 per cent to 30 per cent of net income – has raised its dividend for 23 consecutive years. That includes a 16.1-per-cent increase – to 65 cents a share on an annual basis – that Metro announced in January when it released fiscal first-quarter results for the period ended Dec. 17.
"From an execution perspective, Metro is best-in-class in Canada," CIBC World Markets analyst Mark Petrie said in a note to clients. "The company's strong cash generation puts it in position to return cash to shareholders or participate in Canadian market consolidation."
Most people love a fat dividend because it puts a big chunk of cash in their pocket, but, ultimately, what matters most is a stock's total return from both dividends and capital gains. Metro has excelled in that regard: According to longrundata.com, for the 10 years ended Feb. 5, the shares produced a total annualized return of 13.5 per cent, crushing the total annual return of about 4.5 per cent for the S&P/TSX composite index.
With more than 600 supermarkets (including Metro, Food Basics and Super C) and about 250 pharmacies (including Brunet, Clini Plus and Drug Basics) in Ontario and Quebec, Montreal-based Metro benefits from some of the best real estate in the industry, Mr. Petrie said. The company also owns 32.2 million shares – or about 7.5 per cent – of convenience store operator Alimentation Couche-Tard Inc.
"Overall, we believe Metro's strong discount banners [particularly Food Basics], entrenched urban locations [particularly Toronto] and disciplined operations leave it well-positioned to navigate in nearly any environment," said Mr. Petrie, who has a "neutral" rating on the shares and a 12- to 18-month price target of $43. (Metro closed Tuesday at $39.26).
Metro's operational expertise was evident in the first quarter. Even as the company faced intense competition and battled food price deflation of about 1 per cent in its stores – compared with inflation of 2.8 per cent a year earlier – its same-store sales still grew 0.7 per cent and net earnings rose 3.8 per cent to 58 cents a share.
With Wal-Mart expanding its food offerings, Costco opening stores and the entire industry getting more aggressive with flyers and deals, food retailing will only get more competitive. But Metro has several advantages, Desjardins Capital Markets analyst Keith Howlett said in a note.
For one thing, Metro operates exclusively in Ontario and Quebec, which has insulated it from economic weakness in Western Canada and the Atlantic provinces. The company also evolves to meet changing consumer demands, by expanding its discount square footage to appeal to increasingly frugal shoppers, for example, or by creating more inviting displays and merchandise assortments at its conventional stores. And the company has a strong balance sheet.
"We continue to be confident in Metro's ability to prosper within a highly competitive and evolving market as it has during the last 25 years," said Mr. Howlett, who rates the shares a "buy" with a 12-month price target of $46.
Bay Street is generally positive on the shares. Of the 14 analysts who follow the company, seven rate it a "buy," with six "holds" and one "sell," according to Bloomberg News. The average price target is $46.23. It's worth noting that Metro's shares have dropped about 19 per cent from their 52-week high of more than $48 last summer, indicating that a lot of pessimism has already been baked into the stock price. The shares now trade at about 14 times estimated 2018 earnings – not dirt cheap, but reasonable for a company of Metro's calibre.
There are no guarantees that Metro's stock performance in the next 10 years will be as strong as it was over past decade, of course. However, the company has built a long track record of dividend growth that it will be very reluctant to break. Keep that in mind when you're looking at Metro's modest current yield and remember to do your own due diligence before investing in any security.