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Bed Bath & Beyond Boring

Posted: Jan 09, 2009 14:03 PM by Ryan C. Fuhrmann

Tickers in this Article: BBY, COST, WMT, TGT, BBBY

Consistent, boring operating results are traits that buy-and-hold investors seek when identifying appealing stocks. Of course, that’s as long as growth is in a positive direction, and it’s something investors in specialty retailer Bed Bath & Beyond (Nasdaq:BBBY) had become accustomed to in years past. Unfortunately, it looks like growth has gone down the drain at this well-respected retailer for a couple of key reasons. The jury is still out on whether Bed Bath can return to its heyday.

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Quarterly Recap
Total third-quarter sales fell 0.7% to $1.8 billion as negative same-store sales growth of 5.6% easily offset new-store sales. Bed Bath & Beyond ended the quarter with 1,021 stores, 90% of which were of namesake variety. The balance consists of a mix of Christmas Tree Shops, buybuy BABY and Harmon locations. Despite the tough business environment – Bed Bath is dealing with the combined ramifications of a bursting housing bubble and subsequent weak domestic economy – during the earnings conference call management said it sees the potential for at least 400 new Bed Bath stores as it also plans to grow its smaller retail concepts.

In terms of profitability, gross profit margin fell 7% during the quarter and 2% for the first nine months of the fiscal year on "an increase in inventory acquisition costs, an increase in coupon redemptions and the shift of merchandise sold to lower margin categories". SG&A expenses increased as a percent of sales as slowing sales made it more difficult to leverage costs, which culminated into a dramatic 37% fall in quarterly net earnings to $87.7 million, with diluted earnings per share falling a slightly less 35% to 34 cents due to share buybacks. (Find out what these company programs achieve and what it means for stockholders; read A Breakdown Of Stock Buybacks.)

The Bad, The Good
The tough retail climate is not expected to improve anytime soon, which caused Bed Bath to lower its Q4 guidance. It now expects full-year earnings of $1.50-$1.56 per diluted share, putting the P/E at around 17, which is no steal given the steady downward trends in earnings. Earnings haven’t grown on a year-over-year basis in at least five quarters, and next quarter is looking like more of the same as Bed Bath is projecting 40-46 cents in diluted earnings versus the 66 cents reported in last year’s Q4.

Costco (Nasdaq:COST), Wal-Mart (NYSE:WMT), Best Buy (NYSE:BBY) and Target (NYSE:TGT) look like more appealing investments given their size and clout, which allows them to better control costs and weather what could be a sustained economic downturn. They also sport lower earnings multiples.

On the plus side, Bed Bath has no long-term debt, so it can weather a protracted downturn in the retail industry indefinitely. Additionally, weak retailers are falling by the wayside, with archrival Linens ‘N Things in liquidation mode along with apparel firms Mervyn’s and Goody’s. This should allow the savvier operators, which include Bed Bath, to more fully participate in the upside once a recovery occurs. (Learn more about evaluating these types of businesses in The Industry Handbook: The Retailing Industry.)

The Still-Ugly Bottom Line
Even though Bed Bath’s management is doing its best in a difficult environment, its growth began slowing well before tangible signs of the housing-market implosion became visible. Returns on invested capital, which hovered close to 30% in 2000, have fallen steadily since and reached under 19% over the last 12 months. So, while the economy is certainly to blame for many of Bed Bath’s woes, I am not certain about the long-term durability of its bed and bath retail concept.

By Ryan C. Fuhrmann

Ryan C. Fuhrmann, CFA, has a background in portfolio management, overseeing assets for high-net-worth individuals and covering a broad array of industries from a generalist perspective. An active student of investing, he focuses on communicating his ideas as an investment writer and learning from the financial community. Ryan is also actively involved with the CFA Institute. Feel free to visit his website at www.rationalanalyst.com.

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