Recap from August’s Picks
On a price return basis, the Safest Dividend Yields Model Portfolio (+0.4%) outperformed the S&P 500 (-0.1%) by 0.5% from August 23, 2023 through September 19, 2023. On a total return basis, the Model Portfolio (+1.1%) outperformed the S&P 500 (+0.3%) by 0.8% over the same time. The best performing large-cap stock was up 8%, and the best performing small-cap stock was up 20%. Overall, 11 out of the 20 Safest Dividend Yield stocks outperformed their respective benchmarks (S&P 500 and Russell 2000) from August 23, 2023 through September 19, 2023.
This Model Portfolio only includes stocks that earn an attractive or very attractive rating, have positive free cash flow and economic earnings, and offer a dividend yield greater than 3%. Companies with strong free cash flow (FCF) provide higher quality and safer dividend yields because strong FCF is proof they have the cash to support the dividend. I think this portfolio provides a uniquely well-screened group of stocks that can help clients outperform.
Featured Stock for September: Haverty Furniture Companies
HVT
HVT
Haverty Furniture Companies, Inc. (HVT) is the featured stock in September’s Safest Dividend Yields Model Portfolio.
Since 2018, Haverty Furniture has grown revenue by 4% compounded annually and net operating profit after tax (NOPAT) by 20% compounded annually. Haverty Furniture’s NOPAT margin improved from 4.5% in 2018 to 8.5% in the trailing twelve months (TTM), while invested capital turns increased from 1.8 to 1.9 over the same time. Rising NOPAT and invested capital turns drive the company’s return on invested capital (ROIC) from 8% in 2018 to 16% in the TTM.
Figure 1: Haverty Furniture’s Revenue & NOPAT Since 2018
Free Cash Flow Exceeds Regular Dividend Payments
Haverty Furniture has increased its regular dividend from $0.18/share in 1Q18 to $0.30/share in 2Q23. The current quarterly dividend, when annualized, equals $1.20/share and provides a 4.2% dividend yield.
More importantly, Haverty Furniture’s free cash flow (FCF) easily exceeds its regular dividend payments. From 2017 to the TTM, Haverty Furniture generated $315 million (49% of current enterprise value) in FCF while paying $213 million in dividends. See Figure 2.
Figure 2: Haverty Furniture’s FCF Vs. Regular Dividends Since 2017
As Figure 2 shows, Haverty Furniture’s regular dividends are backed by a history of reliable cash flows. Dividends from companies with low or negative FCF are less dependable since the company may not be able to sustain paying dividends.
HVT Is Undervalued
At its current price of $29/share, Haverty Furniture has a price-to-economic book value (PEBV) ratio of 0.4. This ratio means the market expects Haverty Furniture’s NOPAT to permanently fall 60% from TTM levels. This expectation seems overly pessimistic given that Haverty Furniture has grown NOPAT by 20% compounded annually since 2018 and 13% compounded annually since 2012.
Even if Haverty Furniture’s NOPAT margin falls to 6% (10-year average vs. 8.5% in the TTM) and the company’s revenue declines by 2% compounded annually for the next decade, the stock would be worth $37+/share today – a 28% upside. See the math behind this reverse DCF scenario. In this scenario, Haverty Furniture’s NOPAT would decline 7% compounded annually through 2032. Should the company’s NOPAT grow more in line with historical growth rates, the stock has even more upside.
Critical Details Found in Financial Filings by My Firm’s Robo-Analyst Technology
Below are specifics on the adjustments I make based on Robo-Analyst findings in Haverty Furniture’s 10-K and 10-Qs:
Income Statement: I made $15 million in adjustments with a net effect of removing $9 million in non-operating expenses (<1% of revenue).
Balance Sheet: I made $223 million in adjustments to calculate invested capital with a net decrease of $43 million. The most notable adjustment was $46 million (9% of reported net assets) in total reserves.
Valuation: I made $295 million in adjustments, with a net decrease of $175 million in shareholder value. The most notable adjustment was $228 million in total debt, which includes $12 million in operating leases. This lease adjustment represents 2% of Haverty Furniture’s market value.
Disclosure: David Trainer, Kyle Guske II, Italo Mendonça, and Hakan Salt receive no compensation to write about any specific stock, style, or theme.
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