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Shopping for Dividend Growth (Part 1): Coach

The election is behind us, Thanksgiving’s around the bend – and with it, the holiday shopping season is set to begin.

Given sluggish GDP growth of 2%, however, you’re probably convinced we’re in for a year of stockings stuffed full of coal. Think again. The latest data actually reveals holiday sales should be anything but a disappointment.

Consider:

  • Consumer spending’s on the rise, up 0.8% in September, according to the Commerce Department’s latest tally. That’s the highest gain since February.
  • Consumer confidence keeps trending higher, too. In October it hit its highest level since the recession began.
  • The retail sector’s already benefiting from increased spending and confidence. In an International Council of Shopping Centers survey, retailers reported that October sales were up 5% from the same month last year.
  • To top it all off, The National Retail Foundation projects that holiday spending will hit levels not seen since 2007.

Long story short, consumers are bouncing back from the dead in a big way. And, as a result, retailers are set for one of their best winter windfalls in a long time.

So in the spirit of the quickly approaching season, I thought I’d offer D&I Daily readers an early gift – a rundown on a trio of dividend-paying opportunities likely to benefit from the unexpectedly strong holiday spending.

First up is Coach (NYSE: COH), a leading North American maker of handbags and leather accessories…

High End and High Yield?

If there’s a woman in your family, you’re probably familiar with Coach’s trademark handbags. Even my seven-year-old daughter knows about Coach. (I blame her mother, of course.) You’re probably also aware of the company’s price points.

Remaining fashionable and high priced is a tough feat to pull off over extended periods of time. But Coach has done so remarkably well. Case in point: Over the last decade, gross margins average 74.4% and return-on-equity (ROE) averaged 46.1%. Keep in mind, Warren Buffett considers an ROE above 15% attractive. So Coach’s ROE is off the charts good.

What’s most impressive, though, is the fact that even the Great Recession couldn’t undue Coach’s high-end positioning and loyalty. Sales actually grew by double digits straight on through the downturn. Likewise, profits grew by double digits every year, too, except for one (2009).

So it’s no exaggeration when Morningstar says, Coach “ranks as one of the best cash-generating consumer companies an investor can find.”

The good news? Management doesn’t squander its riches. Instead, it shares the wealth with shareholders via share repurchases and, increasingly, via dividends. Since instituting the dividend in 2009, management’s quadrupled it to the current rate of $0.30 per quarter.

At current prices that works out to an expected yield of 2.2%, which is a tad higher than the average stock in the S&P 500 Index. That’s nothing to get excited about, for sure. But I wouldn’t be so quick to turn it down, either…

With two-thirds of sales coming from North America, the company’s well levered to the holiday shopping season. If sales come in brisk, like I expect, it should provide a catalyst for the stock. And shares certainly have room to run.

At current prices, the stock’s cheap, trading at a 17% discount to the industry average price-to-earnings ratio.

Most important to us, management can afford to hike the dividend again and keep repurchasing shares. Coach boasts negligible debt, nearly $1 billion in cash and a scant dividend payout ratio of 29.3%.

Bottom line: You’ll never catch me toting around a man-purse. But I sure as heck wouldn’t be ashamed to be caught holding a few hundred shares of Coach in my portfolio. Especially headed into this year’s holiday shopping season. This high-end retailer could very well become a high yielder in short order.

That’s it for today. Stay tuned for my next two columns, when I’ll determine whether or not dividend-paying retailers, Kohl’s (NYSE: KSS) and Macy’s (NYSE: M), also deserve a spot on our shopping list.

Safe investing,

Louis Basenese