Can Target Afford Its Dividend After Putrid Earnings?

Last week, the share price of retail giant Target (NYSE: TGT) dropped 13% in one day after the company reported disappointing third-quarter results. Among the most startling figures was the $600 million the company expects to lose in gross profit due to theft.

Target pays a $1.08 per share quarterly dividend, which comes out to a 2.65% annual yield.

So will the dividend walk out the door along with the stolen merchandise?

Free cash flow in fiscal 2023 (ending January 31, 2023) is expected to be more than cut in half, dropping to $2.27 billion from $5.08 billion. It is forecast to recover in fiscal 2024 (ending January 2024), though still not to the level that it was at in fiscal 2021.

Chart: Target's Free Cash Flow

If fiscal 2023’s free cash flow comes in at $2.27 billion – where it is expected to be – and dividends paid also matches projections at $1.73 billion, then the payout ratio will be above 76%, which is not in my comfort zone. I like to see payout ratios of 75% or lower. That way, there is still room for the company to pay the dividend even if free cash flow declines further.

Safety Net penalizes companies that have falling free cash flow and a payout ratio above 75% – so those things are concerning.

On the other hand, Target has an incredible track record when it comes to paying and raising its dividend. The company has lifted the dividend every year for 54 years.

It was the “Summer of Love” when Target started raising its dividend. Richard Nixon was president. “Build Me Up Buttercup” by The Foundations was the No. 1 song in the U.S., and the top movie was Funny Girl with Barbra Streisand. That was a long time ago, and it’s impressive that Target has consistently raised its dividend every year since 1969.

Given that amazing history, I don’t expect the dividend to be cut anytime soon, despite the mediocre dividend safety rating. I think management will run through fire to preserve it.

That being said, the financials are deteriorating, so it’s worth keeping an eye on. The dividend isn’t likely to be reduced in the near future, but if free cash flow doesn’t recover next year, we’ll have to revisit it.

Dividend Safety Rating: C

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