Is Tractor Supply a Buy?
Tractor Supply (NASDAQ: TSCO) has been around since 1938 serving farmers and rural lifestyle customers and has delivered exceptional returns to investors over the years. A $1,000 investment at Tractor Supply's IPO price in 1994 would be worth $248,300 today with dividends reinvested.
However, you didn't need to be that lucky to make a killing on the stock. If you had invested $1,000 just 10 years ago, at the bottom of the market crash in March 2009, your investment would be worth $12,164, including dividends.
Still, investors who missed those opportunities need not worry, because the company is still growing, and there's potential for more store openings to drive growth over the long term.
The stock's valuation has become more attractive
Tractor Supply stock is up only 27% over the last five years, but operating performance has been solid over that time. Over the last five years, revenue increased 50% cumulatively to $7.9 billion, and earnings per share climbed 83% to $4.31. The reason the stock hasn't moved much is that the price-to-earnings ratio contracted from over 30 times earnings to a more attractive P/E multiple of 21 at current market prices. In other words, investors aren't valuing Tractor Supply shares as richly as they were a few years ago, which we'll return to further below.
Recent performance has been positive as well. In 2018, comparable-store sales increased 5.1%, driven by year-over-year revenue growth of 9%. Earnings per share rose 31% last year, but some of that improvement was due to a lower tax rate.
Management is calling for a slight slowdown in comparable-store sales this year, while revenue is expected to climb 5.9% at the midpoint of guidance. Earnings per share should be in the range of $4.60 to $4.75, representing a growth rate of 8.5%.
The slower expected growth likely explains why the stock's P/E has come down, but Tractor Supply has been a standout performer in a harsh retail environment over the last five years. Before the surge in consumer spending last year, many retailers were struggling to grow traffic, but Tractor Supply posted rare positive growth in comp-store sales between 2015 and 2017.
It's also impressive that Tractor Supply has managed to persuade people to drive to its stores even as Amazon.com and Walmart have applied the full-court press in e-commerce. Tractor Supply has still delivered the goods for investors because it puts a high priority on customer service and offering specific products that meet the particular needs of farmers.
The company is clearly doing many things right. So, what's going to drive growth going forward?
More store openings will fuel revenue growth
The company ended 2018 with 1,765 Tractor Supply stores and 175 Petsense stores. Petsense is a small specialty pet store that has allowed the company to meet specific needs for customers that the Tractor Supply stores are not equipped to handle. Petsense delivered solid growth for the company, and management expects to open as many as 1,000 of these stores over the long term.
As for Tractor Supply, management sees the potential for as many as 2,500 stores. There is plenty of room for store openings to fuel expansion for at least another 10 years, but given that Tractor Supply has been around for nearly a century, something tells me management will keep finding ways to grow the company for a long time.
In addition to revenue expansion, management's deliberate efforts to beef up profit margin should also fuel earnings growth.
How management plans to improve margins
Since 2015, Tractor Supply's operating margin has declined from over 10% to less than 9%. Several things pressured margins last year, including increases in freight expense and higher diesel fuel prices. There was also an impact from an unfavorable product mix shift to lower-margin items. These types of things come and go and will balance out over the long term.
Also pressuring margins last year were investments to improve the supply chain, as well as the closure of some underperforming Petsense stores. Infrastructure and technology are two key areas where management is investing heavily to enhance the company's online fulfillment business. For example, Tractor Supply just opened a new distribution center in Frankfort, New York, that will assist the company's growth in the northeast.
Other infrastructure enhancements involve import transload centers and mixing centers that will improve the flow of product through the supply chain. The company is also working to better communicate digitally with customers, which should accelerate its growth in e-commerce sales.
Of course, higher online sales should be a significant cost-saver for the company. Tractor Supply has had success with its buy online, pick up in store service, in which its physical stores fulfill 70% of online orders. The organization's online business grew at a double-digit rate in 2018.
All of these initiatives should not only assist the company's long-term revenue growth but also provide a boost to its operating margin over the next several years. Analysts expect the company to increase earnings by 11.2% annually over the next five years, which seems to imply the expectation for margin expansion.
Tractor Supply is a buy
An investment in Tractor Supply currently looks attractive: Shares sport a forward P/E of 17.5 times next year's earnings estimates and offer a dividend yield of 1.34%. The company has increased its dividend for eight consecutive years.
I believe Tractor Supply is a buy at the current price level and has something to offer investors looking for long-term capital appreciation and dividend growth.
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