A Near 7% Yield You Can't See

Chad is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Sometimes a company that appears to offer only an okay value, can actually hide a significantly better opportunity. Such a situation exists at The Buckle (NYSE: BKE). If you look up the stock on Fool.com or Yahoo Finance, you will see a company with an apparent 1.7% yield that most analysts expect to grow earnings at about 9% a year. However, a recent article by Andrew Marder of Fool.com brought to my attention the company's practice of paying "one time" annual dividends. This practice tremendously changes the value offered to investors.

In the fashion industry, there are multiple companies that compete with The Buckle for shoppers' dollars. Many of these companies are well-known and have a head start on the company when it comes to size and name brand awareness. Competitors such as The Gap (NYSE: GPS), American Eagle (NYSE: AEO) and Abercrombie & Fitch (NYSE: ANF) are just a few examples. Each of these companies on the surface might seem to offer a better opportunity than The Buckle. Abercrombie & Fitch pays a yield over 2%, and analysts expect earnings growth of over 17% going forward. American Eagle also pays a yield above 2% with 13% earnings growth, and would also seem to offer a better value to investors than The Buckle. While on the surface The Gap pays a lower yield, the company's stronger brand-name, and recent turnaround has gotten investors attention. For novice investors who aren't aware of The Buckle's practice of paying this one-time dividend, any of these retailers might seem like a better opportunity. The challenge of course is, figuring out how fast The Buckle will grow and how much in dividend payments investors can expect.

Looking at the company's last earnings report gives us a clue to how The Buckle has been faring recently. Sales during the quarter increased 1.5%, with comparable sales down 0.8%. In an encouraging sign, online sales increased 12.1%. Though they represent less than 8% of the total, as online sales expand the company's overall results should improve. This relatively tepid growth turned in essentially flat earnings-per-share. However, the company did manage to increase its cash and short-term investments on a year-over-year basis by almost 42%. In addition, the company turned in a relatively strong gross margin at just over 40%. While these results wouldn't appear to generate much investor interest, what really should get investors attention is the company's potential "one time" dividend for this year.

Since 2008, The Buckle has paid an annual dividend in addition to the regular quarterly payouts. The one problem I had with this “one time” payout, was in the past two years the company has actually paid out more between its regular and special dividends than it has brought in free cash flow. In 2009, its free cash flow payout ratio was 112%, and in 2010 its free cash flow payout ratio was over 120%. In both of these years, the company managed this additional payout through the use of cash on its balance sheet. However, in 2011 management took a more conservative approach by paying out roughly 84% of its free cash flow. For this reason, I'm much more confident in the company's ability to continue this special dividend, which allows us to figure out what the company might pay in 2012.

If we use The Buckle's 2011 free cash flow pay out ratio as a guide, we can assume a payout of roughly 80% for this calendar year. In the last four quarters, the company generated just over $175 million in free cash flow. Using an 80% payout ratio would indicate a total return to shareholders of roughly $140 million. Given that the company already pays just over $28 million in regular dividends, this would leave about $111 million for this "one time” dividend. Assuming these calculations are correct, this year's special dividend would be $2.35. If this special dividend is paid in addition to the company's normal distribution, for the full year investors would receive $3.15 in total. At the company's current stock price, this amount of total dividends would equate to an annual yield of 6.96%. These calculations seem reasonable, and keep in mind they assume no growth in free cash flow from last year's back to school and holiday sales versus this year. With these assumptions, you can see the huge difference this one-time dividend makes when calculating the value of The Buckle. For the uninformed investor, the company's less than 2% yield combined with just over 9% expected earnings growth might not look like that good of an opportunity. However, when you figure a payout of almost 7% added to 9% earnings growth, the picture changes dramatically.

I would suggest that The Buckle should be at the top of most investors list looking for an attractive growth and income play in the retail sector. The fact that the stock trades for just 14 times projected earnings makes the combined 16% total expected return attractive. Though its competition is certainly more well-known and might seem attractive on the surface, this "yield you can't see" makes The Buckle a much better value. Use this post as a starting point for your own research and see if you should buckle down on your knowledge about this retailer.

MHenage has no positions in the stocks mentioned above. The Motley Fool owns shares of The Buckle. Motley Fool newsletter services recommend The Buckle. 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.If you have questions about this post or the Fool’s blog network, click here for information.

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