How to select winning retail stocks

While I am a buy and hold passive investor, I also try to regularly monitor the companies I own. I usually review the investments I have made once every 12 – 18 months. In addition to that, I often review past decisions I have made, in an effort to improve my investing over time. I also monitor my shareholdings, when they announce a dividend raise.

A couple of weeks ago, Lowe’s (LOW) raised its quarterly dividend for 55th consecutive year in a row. The company raised its quarterly dividend by 25%, to 35 cents/share. Lowe’s Companies, Inc. (LOW) operates as a home improvement retailer. It offers products for home maintenance, repair, remodeling, and decorating.

The latest increase extends the company’s dividend streak to 55 consecutive years. There are only 18 companies in the world, which have managed to raise dividends for over 50 years in a row. I coined the term “Dividend King” in 2010 to describe companies which have managed to grow dividends for at least 50 years in a row. This is an impressive track record, which is something that smart investors study.

Somehow, I have managed to make a lot of money on Lowe’s – the stock has almost quadrupled from my purchases at the beginning of the decade. I have had a lot of success in other retail stocks, such as Family Dollar (FDO), Casey’s (CASY), Walgreens (WBA). Other winning retail investments for dividend investors in the past have been Wal-Mart (WMT) and Target (TGT) and Home Depot (HD). I would discuss a few retail investments I believe could do well over time.

It is possible that I have been lucky beneficiary of the long bull market we have had since the Global Financial Crisis. But I am surprised that I have been making money off retails stocks, despite the common consensus that retailing is a difficult business. After researching winning retail investments I had made I uncovered a few common traits behind success. I believe that those lessons could be helpful to readers, which is the reason I am sharing them with you.

As I have analyzed certain winning retail investments I have made, I have uncovered a common trait that could explain future success. This common characteristic also works in reverse to uncover companies which may be in for a decline.

Many believe that what happens in the economy, markets, stocks is unpredictable. I agree with this assessment to a certain degree. However, after studying a lot of successful businesses, I have come to disagree on a portion of them.

For example, the winning formula for winning retail investments has always been:

1) Creation of a new and unique retail concept
2) Expansion of this concept across the US and the world
3) Making sure that the investor does not overpay dearly for the investment

The common success denominator behind a winning retail investment was growth in number of retail stores. As the company also manages to grow same-store sales, you have the power of compounding in turbo-charged mode.

The same formula by the way could be used for companies like restaurant industry too. McDonald’s (MCD) is one such beneficiary of this trend.

In the case of Lowe’s, the company has been able to succeed by expanding the number of stores from 15 in the late 1950s to 1857 by 2016.

The company had less than 50 stores and roughly $100 million in revenues by the late 1960s. In 1971, the company operated 75 stores in 12 states, which generated annual revenues of $170 million, and earnings of $6.5 million. By 1979, the company had roughly $900 million in annual sales coming from 212 stores in the South Atlantic and South Central States. The company generated almost $25 million in annual profits. Ten years later, Lowe’s operated 307 retail stores in 20 states that generated $2.8 billion in sales and a net income of $71 million.

By 1999, Lowe’s had 484 stores in 27 states which generated annual sales of $12.2 billion and a profit of $484 million. Five years later, Lowe’s had 952 stores in 45 states, generating over $36 billion in annual sales. The number of stores hit 1710 by the end of 2009, and the amount of sales reached $47 billion.

The fact that the company was growing those stores in the US, and the fact that it was starting to expand in Canada and Mexico were some of the reasons I bought the stock several years ago. I liked that the company was starting a joint venture to tap into the Australian market ( Note: in 2016 it decided to exit the joint venture) I also liked the fact that DIY home owners would need to buy things from Lowe’s or Home Depot (HD) in order to renovate their homes. I especially liked the attractive  valuation at the time, and the decent entry dividend yield. Last but not least, I liked that the company was increasing the amount of dividends paid to shareholders.

When you have a store concept that works, you can copy that concept and apply it with minor tweaks in different markets. It is also important to avoid growing too quickly – you do not want to open too many new stores in an unproven location. If your concept is applied at a small test scale in a new market, and it works fine there, you need to keep opening new locations. As the number of stores increases, you also get economies of scale. The more stores you have, the higher the value of your brand.

Speaking of economies of scale, and chain stores expanding, you may like the following Charlie Munger quote from a speech he made a few years ago:

On the subject of advantages of economies of scale, I find chain stores quite interesting. Just think about it. The concept of a chain store was a fascinating invention. You get this huge purchasing power—which means that you have lower merchandise costs. You get a whole bunch of little laboratories out there in which you can conduct experiments. And you get specialization.

If one little guy is trying to buy across 27 different merchandise categories influenced by traveling salesmen, he’s going to make a lot of poor decisions. But if your buying is done in headquarters for a huge bunch of stores, you can get very bright people that know a lot about refrigerators and so forth to do the buying.

The reverse is demonstrated by the little store where one guy is doing all the buying. It’s like the old story about the little store with salt all over its walls. And a stranger comes in and says to the storeowner, “You must sell a lot of salt.” And he replies, “No, I don’t. But you should see the guy who sells me salt.”

So there are huge purchasing advantages. And then there are the slick systems of forcing everyone to do what works. So a chain store can be a fantastic enterprise.”

In his book “One Up on Wall Street“, Peter Lynch had similar observations:

“The same

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