BED BATH & BEYOND INC BBBY
June 26, 2014 - 4:01pm EST by
flubber926
2014 2015
Price: 56.50 EPS $5.06 $5.35
Shares Out. (in M): 200 P/E 11.1x 10.5x
Market Cap (in $M): 11,300 P/FCF 0.0x 0.0x
Net Debt (in $M): -800 EBIT 0 0
TEV ($): 10,500 TEV/EBIT 0.0x 0.0x

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  • Consumer Goods
  • Retail
  • Buybacks
  • loser
 

Description

Bed Bath & Beyond-
 
I expect this to be a controversial idea however I decided to submit it today because of today's 8 pct selloff (+30% ytd), after yesterday's earnings, in my opinion constitutes a timely opportunity to buy the stock.
 
Bed Bath and Beyond is a well known specialty retailer, with a proven management with an exceptional long-term track record.
Information is readily available and coverage is relatively ample.
The "amazon threat" to the space in which BBBY operates is well known. Management has consistently acknowledged the changed landscape which amazon brought and it is my opinion it is executing a strategy which faces this new reality. It is my opinion that the sell-side is overly focused on short term results and ignoring the strong brand this company has built and it's execution history.
 
Let me be clear: I believe this is NOT a broken story nor is it a business in secular decline.
This is a great business, with ROCE consistenly being above 36% for the last five years.
 
The online shopping trend is not going to fade away and amazon is a credible competitor that will continue to make it's way on the space.
Having said that, in our opinion the company is executing a successfull online strategy vis-a-vis it's traditional business. The BBBY website has been significantly improved and pricing has become very competitive even when compared to Amazon. Pricing when taking into account the company's free shipping policy (on purchases over $49) and it's 20 percent coupons, is now not only competitive but also lower than Amazon on it's most of it's product assortment. (I encourage you to read through MS's initiation published this week).

To be sure gross margins have been pressured as of late due to this initiatives and I expect the new 38-39% levels to be the new normal going forward.

Having said all this let's take a look at what BBBY's execution has been for the last five years:

Sales have grown from 7.8bn in FY2010 to 12bn in fiscal 2015, EBIT has increased from 980m to 1.6bn in the same period of time, and free cash flow has gone from 580m to just shy of 1bn today.
In the meantime share count has decreased from 260m in 2010 to 200m as of the 1Q15 (reported yesterday).

BBBY reported earnings for it's fiscal 1Q yesterday. They came a penny shy of expectations as did revenues which missed by 20m.
Guidance for the 2Q was reduced by about 5c on it's midrange. However full year sales and comparable same store sales were left unchaged (at 4% and 3% respectively).
This means that this management is seeing a second half acceleration on it's comp base.
Management has a history of low balling expectations in the past and has proven very conservative over time.

I am extremely careful with retail businesses that enter the declining same store sales cycle. Things can go wrong very fast as we've seen in numerous ocassions (JCP for example).
However it is my opinion that this is not Bed Bath and Beyond's case.
SSS have declined meaningfully but are still positive and trending back on the positive, albeit tough comparisons since 2013 was a record year.

In our models BBBY will generate (factoring yesterday's guidance by mgmt), just shy of 1bn of free cash on calendar 2014.
If the stock stays at this levels and the company keeps repurchasing it's shares as they've done in their recent history (about 260m per quarter), they'll essentially buy back 1bn in stock or 9% of the total shares outstanding this year.

Using a modest 15x fcf multiple on current (which we don't think is nearly peak) cash flow, and adding back the 800m net cash position, yields to us an $80 price target on this $57 stock.
Our assumptions going forward are just 5% top line growth in calendar 2015 but that by itself gives us a $95 target on the stock.

In summary- Our belief is that today we are near a trough valuation for BBBY (at 10.5x calendar 2014 cash flow without taking into account cash), which we consider unjustified. We see limited downside from here and 30-60% returns one or two years out.

Further catalysts in calendar 2014 are the store remodelings that are currently ongoing (which should dirve traffic and sales), and it's revamped online efforts which should begin to payoff.
Going forward catalysts are international expansion and initiatives such as buybuy Baby.


 
I do not hold a position of employment, directorship, or consultancy with the issuer.
I and/or others I advise hold a material investment in the issuer's securities.

Catalyst

Valuation, share buybacks, store remodelings, buybuy Baby, international expansion
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    Description

    Bed Bath & Beyond-
     
    I expect this to be a controversial idea however I decided to submit it today because of today's 8 pct selloff (+30% ytd), after yesterday's earnings, in my opinion constitutes a timely opportunity to buy the stock.
     
    Bed Bath and Beyond is a well known specialty retailer, with a proven management with an exceptional long-term track record.
    Information is readily available and coverage is relatively ample.
    The "amazon threat" to the space in which BBBY operates is well known. Management has consistently acknowledged the changed landscape which amazon brought and it is my opinion it is executing a strategy which faces this new reality. It is my opinion that the sell-side is overly focused on short term results and ignoring the strong brand this company has built and it's execution history.
     
    Let me be clear: I believe this is NOT a broken story nor is it a business in secular decline.
    This is a great business, with ROCE consistenly being above 36% for the last five years.
     
    The online shopping trend is not going to fade away and amazon is a credible competitor that will continue to make it's way on the space.
    Having said that, in our opinion the company is executing a successfull online strategy vis-a-vis it's traditional business. The BBBY website has been significantly improved and pricing has become very competitive even when compared to Amazon. Pricing when taking into account the company's free shipping policy (on purchases over $49) and it's 20 percent coupons, is now not only competitive but also lower than Amazon on it's most of it's product assortment. (I encourage you to read through MS's initiation published this week).

    To be sure gross margins have been pressured as of late due to this initiatives and I expect the new 38-39% levels to be the new normal going forward.

    Having said all this let's take a look at what BBBY's execution has been for the last five years:

    Sales have grown from 7.8bn in FY2010 to 12bn in fiscal 2015, EBIT has increased from 980m to 1.6bn in the same period of time, and free cash flow has gone from 580m to just shy of 1bn today.
    In the meantime share count has decreased from 260m in 2010 to 200m as of the 1Q15 (reported yesterday).

    BBBY reported earnings for it's fiscal 1Q yesterday. They came a penny shy of expectations as did revenues which missed by 20m.
    Guidance for the 2Q was reduced by about 5c on it's midrange. However full year sales and comparable same store sales were left unchaged (at 4% and 3% respectively).
    This means that this management is seeing a second half acceleration on it's comp base.
    Management has a history of low balling expectations in the past and has proven very conservative over time.

    I am extremely careful with retail businesses that enter the declining same store sales cycle. Things can go wrong very fast as we've seen in numerous ocassions (JCP for example).
    However it is my opinion that this is not Bed Bath and Beyond's case.
    SSS have declined meaningfully but are still positive and trending back on the positive, albeit tough comparisons since 2013 was a record year.

    In our models BBBY will generate (factoring yesterday's guidance by mgmt), just shy of 1bn of free cash on calendar 2014.
    If the stock stays at this levels and the company keeps repurchasing it's shares as they've done in their recent history (about 260m per quarter), they'll essentially buy back 1bn in stock or 9% of the total shares outstanding this year.

    Using a modest 15x fcf multiple on current (which we don't think is nearly peak) cash flow, and adding back the 800m net cash position, yields to us an $80 price target on this $57 stock.
    Our assumptions going forward are just 5% top line growth in calendar 2015 but that by itself gives us a $95 target on the stock.

    In summary- Our belief is that today we are near a trough valuation for BBBY (at 10.5x calendar 2014 cash flow without taking into account cash), which we consider unjustified. We see limited downside from here and 30-60% returns one or two years out.

    Further catalysts in calendar 2014 are the store remodelings that are currently ongoing (which should dirve traffic and sales), and it's revamped online efforts which should begin to payoff.
    Going forward catalysts are international expansion and initiatives such as buybuy Baby.


     
    I do not hold a position of employment, directorship, or consultancy with the issuer.
    I and/or others I advise hold a material investment in the issuer's securities.

    Catalyst

    Valuation, share buybacks, store remodelings, buybuy Baby, international expansion

    Messages


    Subjectre-good call
    Entry06/26/2014 07:17 PM
    Memberflubber926
    Thanks nassau!

    Subjectre- questions
    Entry06/26/2014 07:59 PM
    Memberflubber926

    Thanks for your questions rasputin, below my two-cents on each of the ver good points you make:

    What makes you think their online transition is and will be successful? Online/direct-to-consumer only represents 1% of sales.  Margins have contracted over the last nine quarters.  As online becomes a large percentage of revenue, I think margins could have further downside.  Any idea how margins compare in store vs. online?    

    Agree. Online is only a small part of total sales and as it grows to be a larger percentage of revenues, margin on theory should erode. Wouldn'y you think that we've already started seeing this effect? (gross margin have declined about 160 bps since 2012).

    Pricing has become much more competitive already and to some extent I believe things that you might be looking to be buying at BBBY will always merit a store visit to see how it looks, feel, etc. That pricing is already competitive is what gets me more comfort in this stock.

    I understand your concern as to where margins would go as internet penetration rises but I find it almost impossible to calculate even when looking at recent experiences in other retailers. They are just different.

    Quite frankly I think that if pricing is already competitive at the store and online, online sales growth as a percentage of total sales would be accompanied by incremental bottom line expansion since your fixed costs are leveraged. It is just too hard to see how this would eventually play out.

    What give you confidence that margins will bottom out here?  BBBY, even at this lower level, has some of the highest margins in the group.  Since competitors offer many of the same products, we worry that BBBY will have to defend share/compete on price to stay relevant.    

    Again, at the gm level I expect little more pressure since pricing is in line with the largest online threat. i.e. amazon.

    I believe on an EBIT basis, BBBY has been exemplary in containing their expenses vs other retailers. Thus they can sustain a higher margin.

    Management claims they can grow the Bed Bath store base by ~30% before reaching saturation, yet they are only opening a few net stores this year.  They are certainly not capital constrained, so why the anemic store growth?    

    In my opinion management's strategy to open only 22+ stores this year is adecuate given the current state of the consumer. Why open stores more agressively when discretionary spending is low and consumer spending is fragile. Actually I believe that (if this is not a declining business), share buy backs by management at current depressed levels are a much better use of the company's excess cash.

    If it were the opposite, strong economy and rich valuation, I'd like management using excess cash in growing the business vs. buying back expensive stock. I actually believe this is opportunistic.

    On another note, note that this is a very conservative management team and they've lived through many cycles. The Mexican market is fertile ground, stores are full and it is a market that could support much more than 4 stores. Yet they are only opening two this year. Another example of management conservativeness so to say.

    After the Q1 comp of +0.4%, the annual guidance of +3% seems to be at risk.  Other than management’s history of conservative guidance, is there anything that gives you comfort that this number has a high probability of being hit?What are your inputs for arriving at your 15x FCF multiple?  Your top line growth expectation seems like a good base case, but the market will likely need to see evidence of sustainable comp growth to get a 15x.  More than all of the earnings growth this year will likely come from buybacks.  It is hard to capitalize that with a growth multiple for a base case target price.  Clearly, at 10x the market is pricing in secular decline.

    I have no particular insight as to why management wouldn't guide full year comps down and why they are expecting a second half recovery.  

    In summary- I acknowledge there remain many unknowns and apologize for not having greater insight into the issues you raise. My comfort lies in the fact that valuation today reflects a business in rapid secular decline. A scenario which I believe has low odds of materializing. I believe downside is limited because of valuation. Business wise I believe margins are protected due to competitve pricing and good cost management. And I do take comfort in the fact that this is a seasoned management team, that's seen cycles before and has proven to be straightforard and conservative. I would not be comfortable investing into this company with a new, unproven team.

     

     


    SubjectRe-traffic, cuyler
    Entry06/27/2014 12:31 PM
    Memberflubber926
    As far as traffic goes, management disclosed that the 0.4% comps reflected a higher average ticket compensated by a smaller number of transactions. No further disclosure was made. I guess you can infer that traffic might've declined somewhat.
     
    One of the key issues with this company is that it is ran as if it were a private enterprise. No great effort is made to disclose many key items.. buybuy Baby sales/sq ft, comps, growth plans; their own proprietary products strategy, marketing plan for omnichannel initiative and progress, no Q&A during earnings calls, no analyst day, among other common initiatives most public companies undertake.
    This is just how management has always ran the company and I have no reason to believe it'll change anytime soon. Which makes a through analysis of the company all that more challenging.
     
    Cuyler- I read the very timely and thorough short thesis you put out in 2012. I certainly agree with the points you made then. And many remain key risks. I also believe that things have changed since, as you mention here. Your 2012 thesis has played out: margins were impacted and valuation has been dramatically reduced. Especially if you look at market cap instead of price per share.
     
    I tend to think that at 10x cash flow the market is pricing quite a few negatives. I just can't find another specialized retailer trading at the same multiple and with a similar operating history, balance sheet strength, experienced management, etc. I believe BBBY is more similar to HD than it is to WMT or TGT.  In my opinion a  BBBY needs an omnichannel approach to be successful in the long term.
     
    The key risks I see to this investment today is continued market share loss. (Cannacord's analyst calculated market share declined 62 bps yoy during the 1q to 23.1%. A third consecutive market share loss). While 1q gross margin was the lowest the company has seen during the last four years.
     
    if pricing has stabilized we should see some market share stabilization but I find it very difficult to predict we are there. My main comfort lies in the current valuation. I am willing to give management time because I do not believe this company is similar to other retailers such as circuit city, best buy, omx, odp, staples to name a few. My sense is Bed Bath's competitive moat is perhaps larger and more comparable to Home Depot's.
     
     
     
     

    SubjectRE: RE: wouldnt short here, but secular loser
    Entry07/03/2014 01:26 PM
    Memberbaileyb906
    Last I checked, I go to work, am still responsible for keeping the house in order, so have resorted to buying 90% of everything online because I have no time.  Most women in this country work now.  Just my two cents.  But I won't call you a sexist.  I will accuse you of most likely living in a community where the men's income levels affords a lot of stay at home moms - a luxury that about 70% of this country can no longer afford.
     
    When I used to go to BBBY, I would go for 2 things and come out with 6 because they merchandise so well and entice you with low price gadgets you think you might need but don't.  When I shop BBBY online, and I need 2 things, I buy 2 things.  This is the heart of the problem I think.
     
    No position.

    SubjectRE: RE: RE: wouldnt short here, but secular loser
    Entry07/04/2014 10:04 AM
    MemberMJS27
    very good point - this clearly isn't the 1950s where stay at home moms were the norm... however, the 2 working parents trend is not new.  most households have had 2 wage earners for upwards of 20 years, and in fact this trend has recently begun to reverse...  ie there are more stay at home moms now then there were in the past.
     
    http://www.pewsocialtrends.org/2014/04/08/after-decades-of-decline-a-rise-in-stay-at-home-mothers/
     
    i'm sure some of that (most of that?) is due to the difficult employment situation, and that likely affects discretionary spending, but a fair amount of BBBY sales are not discretionary in my view.
     
    as for the online buying leading to a reduction in impulse buying of secondary items, another good point.  would love to know what average ticket per in store vs online purchase is.
     

    SubjectRE: New $2B Buyback
    Entry07/07/2014 10:40 PM
    Memberrasputin998

    The new buyback authorization/S-3 filing combination today indicates a capital allocation shift to us.  That is, the company will likely take on net debt to execute on this share repurchase that represents 24% of the current FD market cap.  Our view is that the business is unlikely to deteriorate faster than the company buys back shares (if at all).  An aggressive buyback/leveraged recap does not necessarily remedy a secularly declining business and a skeptical investor base (see OUTR), but it does seem like a decent risk reward situation here.       

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