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