What is the better stock going forward?

Today I’m looking at Costco and Target; two fellow big box retailers. Shares of Costco ( COST ) are up about 63%% over the past year, while shares of Target ( TGT ) are up about 39% over the same time frame. Both stocks have performed well, but which is the best opportunity for investors going forward? Let’s examine this question.

I am neutral on Costco based on its expensive valuation. As for Target, I’m bullish on this stock based on its cheap valuation, attractive dividend yield and long track record of dividend growth. In addition, sell-side analysts view Target as having a considerably higher upside over the next 12 months.

Configuring

Costco is well-loved by investors, and rightfully so. The stock has generated handsome returns for its shareholders over the years, up nearly 900% over the past decade. Costco is often cited as being well run and having an attractive business model due to the annual recurring fees paid to its members.

Target has generated a total return of 224% over the past decade. The target isn’t for nothing, but it has significantly underperformed Costco over the past 10 years. However, this may create a more compelling setup for an investment in Target stock today, as we’ll discuss below.

Massive gap in ratings

While Costco is a great business with a solid track record of performance, it’s trading at a pretty steep multiple right now. Costco has an off-cycle fiscal year that ends in August and will soon report its Q4 2024 earnings results. The company trades at more than 50 times consensus 2025 earnings estimates. That skyrocketing multiple leaves little room for error going forward , if the company disappoints investors in Q4 or the next fiscal year.

Meanwhile, Target trades at a much more reasonable valuation of 14.8x forward earnings estimates, well below Costco’s multiple and also significantly below the S&P 500 (SPX) forward valuation of 24x. One can certainly argue that Costco is a higher quality business than Target based on its recurring membership fees, but a valuation three times more expensive seems like too much of a gap.

Moreover, despite Costco’s reputation for quality, Target is a higher-margin business, with gross margins of 26.1% roughly double Costco’s gross margins of 12.5%. Target’s profit margin of 4.2% is also noticeably higher than Costco’s 2.8%. In my view, Target’s significantly lower valuation gives the stock more downside protection and more room to surprise on the upside.

The story continues

Two stocks with strong dividend growth

Costco is a dividend stock, but its 0.5% yield is pretty insignificant. That said, Costco deserves credit for its strong dividend growth, having raised its dividend rate 19 years in a row.

Meanwhile, Target’s dividend yield is 2.9%. That’s nearly six times Costco’s current yield and more than double the S&P 500’s yield. Target has an even more impressive track record of consistently paying and increasing its dividend than Costco. Target is a dividend king that has increased its payout for an incredible 55 years in a row.

Both companies also maintain relatively conservative payout ratios, meaning both dividends look safe for the foreseeable future. While Costco has done a good job of growing its dividend, Target’s yield is significantly higher and its consistent track record of dividend growth is even better, which supports my bullish view on the stock.

According to analysts, is COST Stock a buy?

On Wall Street, COST earns a Strong Buy consensus rating based on 17 Buy, 5 Hold and no Sell ratings assigned over the past three months. COST stock’s average price target of $936.25 implies a potential upside of about 4.0% from current levels.

According to analysts, is TGT stock a buy?

At the same time, TGT earns a Moderate Buy consensus rating based on 17 Buys, 10 Holds and zero Sell ratings assigned in the last three months. TGT’s average share price of $180.87 implies a potential upside of around 16% from current levels.

Smart choices

As you can see using the TipRanks Stock Comparison Tool below, both Costco and Target receive Outperform ratings from TipRanks’ Smart Score system.

Smart Score is a quantitative stock scoring system created by TipRanks. It gives stocks a score from one to 10 based on eight key market factors. Scores of eight, nine or 10 are considered equivalent to an Outperform rating.

Cocsto’s Smart Score, equivalent to a performance of nine, is impressive, but Target comes out on top with a perfect Smart Score of 10.

The target stock looks like the preferred investment choice

Costco is a great company and has been a great performer for its shareholders over many years. However, I am neutral on the stock at the moment as this strong performance has sent its valuation above 50 times forward earnings, giving the stock little margin for error going forward.

The target trades at a much more attractive valuation below 15x forward earnings, offers a higher dividend yield and a longer history of dividend growth. I’m bullish on Target given its cheap valuation, attractive dividend yield and 55 consecutive years of dividend growth. Costco is a good stock with a reliable track record of performance, but I now see Target as the better investment option based on my evaluation of the two options.

Disclosure