Wal-Mart Stores, Inc. (WMT): Buy Discount Retail at a Discount

In reviewing the forward prospects for Target, possibly Wal-Mart Stores, Inc. (NYSE:WMT)’s most dangerous competitor, we see a business that is producing performance numbers closer to Costco but priced in the market with valuations more in line with the slower growing Wal-Mart Stores, Inc. (NYSE:WMT). With a forward P/E ratio of 12.09 and 5-year earnings growth projections of 12.2, we can see that it is growing almost as fast as Costco but carries a P/E ratio less than that of Wal-Mart.

Target’s current dividend yield is 2.1%, which is more than double that of Costco and 80% of the yield of Wal-Mart Stores, Inc. (NYSE:WMT). As the dividend payout ratio for Target is currently only 30%, there should be a large margin of safety here, as well as the potential for increases. Given the 20.64% average annual dividend increases over the last five years, management has already proven their willingness to reward shareholders in a very fair manner. Net margins at Target over the last five years have averaged 4%, almost 10% higher than Wal-Mart and more than double those of Costco.

Final Thoughts

While Costco commands almost unheard of levels of customer loyalty within this segment of the market, it really seems to be priced for near perfect performance going forward. Management here has built a great business, but the current price point does not allow investors today to open a new position at a truly compelling price. Should the shares see a significant drop due to investor sentiment not driven by any event causing permanent impairment to the business, consideration should be given at that time.  Today, it is a great business at a very high price.

Wal-Mart is the industry giant and should be expected to deliver relatively safe total returns of 9%-12% per year into the foreseeable future. Investors who buy and hold this stock will be fairly rewarded for years to come. This stock is certainly a buy, but maybe not the best one.

Target seems to be in a position where it possess the best characteristics of both Wal-Mart and Costco while avoiding the few negatives contained in their valuations. The opportunity to buy the rapid growth of Costco at the low valuations of Wal-Mart is truly the opportunity to get a discount on discount retailing.

The article Buy Discount Retail at a Discount originally appeared on Fool.com and is written by Ken McGaha.

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