I like to invest in companies that have been trading near their lows for a long time and are now witnessing a change in public sentiment. Such companies offer compelling risk to reward ratios as they come at an undervalued price. The S&P 500 might be making new highs, but shares of Bed Bath & Beyond Inc. (NASDAQ:BBBY) are still well below their 2012 peak ($61.81 at the time of writing this article). This is an opportunity for the investors to get into the stock to rake in some hefty profits. Let’s assess why.
Improving Housing Market
The housing market recovery picked up steam in the final three months of last year, with prices rising at an annual rate of 7.3%, according to S&P Case-Shiller. Even during the tough five years for the housing market the company managed to grow earnings by 10.5% annually, thus it stands to reason as household formation returns to historic numbers Bed Bath & Beyond Inc. (NASDAQ:BBBY) should see revenue growth rise as well.
Compelling financials
Analysts expect the company to earn about $5 per share in the fiscal year ending February 2013. So at the current stock price Bed Bath & Beyond Inc. (NASDAQ:BBBY) is trading at about 12.2x forward earnings, which is one of its lowest P/E ratios in the past decade. Analysts expect the company to grow earnings by 14.5% in the future. Thus, this combination of low P/E and double digit expected growth makes this stock a compelling buy.
The company has a robust balance sheet with no net debt and some $750 million in net cash. The company had announced a new $2.5 billion share repurchase program which would amount to buying back about 20% of outstanding shares and would increase the expected $5 EPS in FY 2013 to $6 of EPS.
Versus Competitors
Bed Bath & Beyond Inc. (NASDAQ:BBBY) faces direct competition from Williams-Sonoma, Inc. (NYSE:WSM) and Pier 1 Imports, Inc. (NYSE:PIR). In my view Bed Bath & Beyond has an upper hand against its competitors. Bed Bath & Beyond’s forward P/E of 12.2 looks attractive when compared to Williams-Sonoma, Inc. (NYSE:WSM)’s P/E 16.25, Pier 1 Imports, Inc. (NYSE:PIR)’s P/E of 16.67 and industry average of 14.68.
Bed Bath & Beyond Inc. (NASDAQ:BBBY) exhibits an operating margin of around 15.53% compared to 10.1% for Williams-Sonoma, Inc. (NYSE:WSM) and 11% for Pier 1 Imports, Inc. (NYSE:PIR). The secret behind this feat is better merchandising and inventory management. With items stacked from floor to ceiling Bed Bath & Beyond’s stores are packed with merchandise resulting in the chain’s achieving more than $260 per sq. ft. in sales. The power of high sales per unit area is critical to the success of a retail business.
Williams-Sonoma, Inc. (NYSE:WSM) is trading at its 52 week high which means investors should wait for the stock to pull back. Williams-Sonoma, Inc. (NYSE:WSM) has a large presence on the internet – nearly 40% of its sales are made online. The best part of Bed Bath & Beyond Inc. (NASDAQ:BBBY) as a business with respect to competitive advantages is simply this: the threat from on-line retailers like Amazon is limited unlike the threat Amazon poses to other retailers as very few people buy their linen, kid’s stuff etc. online. Still Bed Bath & Beyond plans to roll out an improved Website this year and is building a large e-commerce fulfillment center in Georgia.
Diversified Portfolio
With a market cap of $2.41 billion, Pier 1 Imports, Inc. (NYSE:PIR) does not scale as high as Bed Bath & Beyond’s $13.78 billion market cap. Pier 1 Imports, Inc. (NYSE:PIR) has a much narrow portfolio when compared to Bed Bath & Beyond’s Christmas Tree Shops, Harmon Stores, buybuy Baby, and Cost Plus. Thus I don’t see Pier 1 Imports, Inc. (NYSE:PIR) as a serious threat to Bed Bath & Beyond’s growth.
This portfolio of retail chains are hidden arsenals in Bed Bath & Beyond’s pocket which will fire up its profits anytime soon. The company acquired Harmons in 2002 and has since transformed hundreds of existing Bed Bath & Beyond stores to include health and beauty products from the Harmon store format and successfully added an increased benefit and convenience for their respective guest shoppers.
The pet products business has also grown by leaps and bounds in the past decade, and with Bed Bath & Beyond expanding their pet products business, this venture will further strengthen the company’s foothold in this retail industry.
Positive outlook
In a recent conference call the company stated that it expects to expand its current flagship store base in the U.S. by 30% in the coming years, which will have further improve the company’s profit in the future. Add to that the continuous expansion underway in Canada and Mexico, success in which will further boost shareholder’s wealth.
Barron’s said that the company’s retailing acumen and financial strength would appeal to private equity investors or even Berkshire Hathaway. It also stated that Bed Bath & Beyond shares could rise 25 percent over the next year on strong profit and a higher multiple, but could fetch a 43-percent premium in an acquisition.
On January 24, 2013, Oppenheimer’s Brian Nagel upgraded shares of Bed Bath & Beyond to outperform along with raising the firm’s price target to $71 a share from $67 a share.
Company’s star: BuyBuy Baby.
The star performer in Bed Bath & Beyond’s portfolio is its growing presence in the baby/child market through the “buybuy Baby” brand. Its only big competitor is Babies “R” Us.
Buybuy Baby is a big hit with the moms as its customer service is far better than that of Babies “R”Us. Their sales staffs are very knowledgeable whereas in a Babies “R” Us you will be lucky to find someone to assist you. So with 80 stores in the U.S. compared to over 250 for Babies “R” Us there clearly is a lot of room for expansion as buybuy baby continues to gain market share.
This gem of Bed Bath & Beyond is pretty much recession proof as its products are a necessity and not a luxury. And all children products need replacements as a child grows, so the brand will continue to boost Bed Bath & Beyond’s profits in the long run.
Foolish Final
“This is a high-quality, cash-rich company that could see improving margins this year, particularly in the back half,” says Laura Champine, an analyst at Canaccord Genuity who carries a $74 price target on the stock. With a consistently healthy track record, focused management, robust balance sheet, $2.5 billion buy-back program, and a diversified portfolio this stock will provide huge gains for the long term investors.
The article This Retail Giant’s Turnaround Is Real originally appeared on Fool.com and is written by Rakesh Jaiswal.
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