Fashion Some Income With This Dividend-Earning Spin-Off

Investors looking for stocks with the potential for outperformance should consider spin-offs. In many cases, spin-off stocks generate strong returns to shareholders, which is exactly what their former parent company intended. For example, PayPal was spun off from eBay in 2015. In the last three years, PayPal stock generated annualized returns of 36%, compared with 13% annualized returns for the SPDR S&P 500 Index exchange-traded fund . Income investors should be particularly interested in Kontoor Brands , which was spun off from apparel giant V.F. Corporation in May. Kontoor recently declared its first quarterly dividend, at a rate of 56 cents per share. The new annual dividend represents a hefty forward yield of 6.5%. Now that it is separated from its parent company, Kontoor is a high-yield dividend stock that could generate dividends and a rising share price for investors. Spin-Off Overview Companies spin off subsidiaries for a variety of reasons. In general, companies pursue a spin off, because they believe the two independent stocks will collectively hold a higher valuation than they would as a single company. Another reason for a spin off is that a company believes its subsidiary will have greater success as an independent company, with its own management team and the ability to focus entirely on its own growth objectives. Kontoor Brands was spun off from V.F. Corporation on May 22; it owns some of the world's most iconic denim brands, including Wrangler, Lee, and Rock & Republic. Last year, the company generated $2.7 billion in revenue, with 27% of its revenue generated outside of the United States. Kontoor Brands currently trades with a market capitalization of $2 billion. Recent Earnings Beat, Misses When Kontoor Brands reported its second-quarter financial results in August, revenue declined by 8.2% in the quarter compared to the previous year. Revenues still came in higher than what analysts had forecast, by $18 million. Kontoor Brands' earnings-per-share totaled 96 cents during the second quarter, easily beating the analyst consensus estimate by 29 cents per share. The company not only faced weak sales during the quarter, it also had to battle with margin pressures. EBITDA margin declined by 60 base points year-over-year, and combined with the revenue decline, resulted in a 10% decline in adjusted EBITDA. Kontoor Brands reaffirmed its 2019 financial guidance which calls for 2019 revenue to exceed $2.5 billion. This reflects a mid-single digit decline compared to 2018. The revenue decline is attributable to foreign exchange fluctuations, prior year customer bankruptcies, and strategic business exists. Adjusted earnings before interest taxes depreciation and amortization, meanwhile, are expected to fall into a range of $340 million to $360 million, which reflects a mid-single-digit to low-double-digit decline for the full year. Quarter Not a Long-Term Problem Kontoor Brands faced unusual headwinds this year, such as the bankruptcy of a major customer, which reduced sales by 2% last quarter. It is also exited a European country and changed its business model in certain other markets, which reduced sales by an additional 2 points on revenue decline last quarter. Because these factors are not expected to impact the long-term direction of the company, Kontoor Brands' management forecasts low-single-digit compound annual revenue growth through 2021. Kontoor Brands' competitive advantage lies in its ownership of some of the world's most popular denim brands. Lee's and Wrangler in particular control a large amount of market share in the denim category. Perhaps the most attractive growth catalyst for Kontoor going forward is digital channel growth. U.S. digital wholesale revenue increased 30% in the second quarter. Kontoor is also developing a direct-to-consumer channel, which represented 11% of total revenue in the first quarter. Kontoor's U.S. digital business was up 15% last quarter. These trends should prove long-lasting for Kontoor. As the e-commerce boom takes hold in the U.S., consumers are steadily taking their shopping online. The convenience of Internet retail has placed immense pressure on brick-and-mortar retailers. As an apparel manufacturer, Kontoor is in prime position to sell its products directly to consumers through new channels. Kontoor Is Looking Good Even if Kontoor does not generate a high rate of earnings growth going forward, its dividend appears secure. Kontoor is a highly profitable company, and generates more than enough cash flow to pay a hefty dividend to shareholders. Analysts expect the company to earn $3.79 per share this year. With a forward annual dividend payout of $2.24 per share, Kontoor is forecast to have a dividend payout ratio of 59% this year. This is a modest payout ratio, which provides sufficient coverage of the dividend. If earnings do increase in the years ahead, there could even be a possibility of a dividend increase at some point down the road. Clothing is also a fairly recession-resistant business. While investors do not have access to Kontoor's financials during the Great Recession of 2007-2009, demand for clothing items such as denim jeans can be expected to hold up fairly well from year to year. Kontoor's products are needed regardless of the economic climate. The company would likely see earnings decline somewhat in a recession, but the resilience of demand should provide a certain floor. And, given the modest dividend payout ratio, Kontoor would need to see earnings collapse for the dividend to become unsustainable. Kontoor has room to grow, particularly through new sales channels. And, the recent dividend approved by management resulted in a hefty 6.5% yield, which makes the stock highly appealing for income investors.

Fashion Some Income With This Dividend-Earning Spin-Off

Income investors should be particularly interested in Kontoor Brands, which was recently spun off from apparel giant V.F. Corporation, and offers a first quarterly dividend at a rate of 56 cents per share.

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