Ross Stores: The Price is Right for this Off-price Retailer
Demitri is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Ross Stores (NASDAQ: ROST) is firing on all cylinders, setting 5-year highs on key metrics including sales, earnings, return on assets, and sales per square foot.
The stock just reached an all-time high, too, catching a price/earnings multiple of about 21 - which can seem rich when compared to other large clothing retailers like The Gap (NYSE: GPS) and Nordstrom (NYSE: JWN) that are selling at closer to 18 times earnings. But a closer look suggests that this discounter has earned that premium price, and more.
The Company
ROST is a clothing retailer with an interesting business model. Known as an "off-price" seller, the company provides apparel and home fashion at 20% to 60% below department store prices. Unlike other discount chains, though, ROST doesn't achieve this discount by offering lower quality, off-brand, or prior-season fashions.
Instead, ROST's army of merchandise buyers have been perfecting the art of fashion purchasing, taking advantage of the market's inefficiencies and leveraging the company's inventory flexibility in order to win significant discounts to department store prices on in-season, first-quality products.
The Operation
The company has been a model of operating efficiency over the past few years. Costs as a percentage of sales have declined steadily from 77.3 percent to 72.5 percent, helping net earnings almost double as a percentage of sales since 2007. Return on assets have just about doubled in that time too, rising from 11% in 2007 to 20% last year.
In fact, nearly every operating statistic worth tracking is at or near a 5-year high (ROE, book value, comp sales, and sales per square foot).
As for future gains, ROST is in the middle of a big push to squeeze efficiency out of lowering inventory levels, which should help the company's capital position while also enticing shoppers with fresher product. This strategy dovetails nicely with the company's competitive strengths as customers already expect different products in-store from week to week and ROST's buyers can be even more nimble in taking advantage of purchasing opportunities.
Notably, ROST has demonstrated an aim to return cash to shareholders, as the company just raised its dividend for the 19th year in a row. Stock buybacks are also frequent, with over 11 million shares purchased last year.
The Growth
With 1,130 stores this year and 1,055 in 2010, ROST has been growing at a steady pace but still has plenty of room to expand. The company has just started a push into the Midwest region, opening 12 new stores in the Chicago area. ROST aims to open about 60 new stores for all of 2012.
Forecasting total sales growth in the 1-2 percent range for 2012, ROST has consistently outpaced expectations on sales growth so far this year. The latest results were no exception, as the company booked a healthy 10% comparable sales growth in March on top of 9% growth in February.
Contrary to fears that ROST's outperformance is due mainly to the weak economy of late, ROST may actually be well positioned to benefit from an improving economy because lower promotion levels at department stores should allow ROST to widen its pricing lead.
The Competition
The department store and discount fashion sectors are both going through some major changes right now. Discounter Filene's Basement closed up shop right after the holiday season ended. J.C. Penney (NYSE: JCP) is also going through some structural problems, which may open up an opportunity for ROST to gain share directly from the struggling department store. Global competitor TJX Companies (NYSE: TJX) has been growing at a solid clip, but consolidation in the discount market means growth isn't a zero-sum proposition for these two rivals.
Ross CEO Michael Balmuth cited industry consolidation in the company's latest conference call when he was asked how he thinks the company could continue to outperform the apparel industry as the economy improves. He said "a lot of retailers have gone away. So I think we find ourselves in a better position just by surviving and being a reasonably profitable retailer in this time."
The Value
| Earning Yield | PEG Ratio | Price/Book Ratio | |
| Ross Stores | 4.60% | 1.64 | 9.5 |
| TJ Maxx | 4.55% | 1.75 | 9.9 |
| J.C. Penney | -1.91% | -2.74 | 2.0 |
| Nordstrom | 5.60% | 1.55 | 6.0 |
ROST reminds me - in a few ways - of one of my favorite retailers, Costco (NASDAQ: COST). As a price leader with impressive selling efficiencies, the company has a defensible business model that delivers a low frills, treasure-hunt environment that is clearly resonating with customers. The company's effective buying strategies and product-flexibility also give it a solid competitive moat to fend off discount rivals by allowing it to offer higher quality, lower priced, and fresher product.
While I don't think ROST has earned the high-20's P/E ratio that Costco sports, I still think the company is a bargain at just 21 times earnings, even at a 52-week high. With strong growth opportunities and a great competitive position in a consolidating industry, ROST looks to continue its impressive performance into 2012, suggesting that its current "premium" price could look like a bargain in just a few years.
Demitri writes about stocks and investing at his blog, Sigma Swan.
SigmaSwan owns shares of Costco Wholesale. The Motley Fool owns shares of Costco Wholesale. Motley Fool newsletter services recommend Costco Wholesale. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. If you have questions about this post or the Fool’s blog network, click here for information.
