Looking for yield? Look no further than your nearest liquor store
The surprising story of Liquor Stores N.A.
Fabrice Taylor, CFA, is an award-winning financial journalist and analyst. He is also the author of the market-beating President’s Club Newsletter. He can be reached at thesmartinvestor@albertaventure.com
by Fabrice Taylor
Ten-year Canadian bond yields tip the scale at a featherweight two per cent. The yield on a share of Liquor Stores N.A. (LIQ) is a super-heavyweight 7.8 per cent. And as an equity, the retailer’s payout has room to rise. The 10-year bond return, by contrast, is topped out or close to it, especially given that it’s negative in real terms.
So investors looking for income with the possibility of modest growth should invest in the stock. My thesis is not so much dividend growth, not in the medium term anyway (say three years). For now the attraction is the dividend and the safety it enjoys. What will happen is revenues and cash flow will grow and improve the payout ratio, which stands at 70 per cent of available cash flow. An improving payout ratio should send the stock price up. We’re not talking about swinging for the fences here, nor should we be, given current market conditions.
The company operates 236 liquor retailers: 172 in Alberta, 35 in British Columbia, 20 in Alaska and nine in Kentucky. That store count has grown from 70 at the end of 2005. The company got its start when the Alberta government privatized the provincially owned liquor-retailing network. The company grew by acquisition in Alberta, particularly with the purchase of rival Liquor Barn in 2007.
Liquor retailing is not immune to the economy but it is relatively defensive. The biggest per-share drop in cash flow in LIQ’s history (by my math) is about 12 per cent. That’s why the dividend looks safe to me. Meanwhile, Alberta’s economy is still pretty healthy, especially as big oil sands projects are built in the near- and medium-term.
Growth will come from increasing the number of stores. In Alberta, that generally means greenfield development, which LIQ is quite good at. This is about securing good real estate in a new subdivision and hanging a shingle. (Founder and substantial shareholder Irv Kipness is a veteran real estate developer.) Greenfield is a reliable way to grow, but it’s also a slow one. Large-scale acquisitions in the province, which helped LIQ grow up to now, are not in the cards because the company has a big share of the Alberta market and is reluctant to increase it for fear of a backlash.
The B.C. market is a little more complicated. There are both government and privately owned firms, and growth opportunities there are also limited. The path to expansion outside Canada is one of acquisitions. The company bought its way into Alaska and Kentucky, with good success, although margins are tighter in both places so the returns are diluted.
There are three big risks to profitability in this business. The first two are the economy and weather. The third, and equally unpredictable, is cash-strapped governments. Liquor revenue is easy to tax or grasp at, and grasp they do. In 2009, the Alberta government, which still has a monopoly on liquor wholesaling in the province, increased prices across the board. LIQ and other retailers responded by raising retail prices, which displeased consumers and voters. The government backed down a few months later but it still did some damage.
The good news is that it’s unlikely Alberta will try that again any time soon. Kentucky? Maybe. But the impact of any changes there on LIQ’s operations would be relatively muted.
LIQ recently converted from income fund to corporation and lowered its dividend this year to pay cash taxes. Still, in the latest six-month period, the company posted slightly higher earnings and substantially higher cash flow per share on more-or-less flat revenue growth, a promising sign.
Insiders and their families are substantial shareholders, and look forward to the monthly nine cent/share dividend, which I see as safe and pretty rich in a world devoid of (financial) interest.
Disclosure: The author holds a stock position in Liquor Stores N.A.
Q&A
I’m tempted to go bargain hunting in Europe. Any suggestions?
Fabrice: The Holiday Inn in Mayfair lets you enjoy London’s best neighbourhood at a great price. The Paris flea market should not be missed if you like cool antiques for a song. Stugats is the best-kept culinary secret in Rome – vino rosso and tagliatelle for the price of a full-meal deal. (For a second there I thought you were seriously asking me about buying stocks, dear reader. Your sense of irony is exquisite.)
If I’m a long-term investor, does it make sense to be investing in natural gas right now? If so, how should I do it?
Fabrice: Natural gas prices are depressed by prolific new discoveries made possible by new technologies such as horizontal drilling and multi-fracking to extract shale gas. Neither of these trends is going away, unless claims that they can damage water tables are borne out. Consider avoiding producers and instead concentrate on companies that earn revenues from drilling and servicing.
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