Shares of Bed Bath & Beyond (NASDAQ:BBBY) have recently underperformed their peers after the company reported earnings that were largely in-line with expectations. Gross Profit was up 12.0% year-over-year and Operating Profit was up 1.3%. These results marked a reversal from a -1.7% decline in the second quarter. However, the company reported a weaker than expected 1.7% SSS for the quarter-ended 11/24/12, down from the 4.10% reported in the third quarter of 2011 and below the 2.0%-4.0% guidance issued by management on the Q2 Conference Call. The company did offer that the decline was in part due to Hurricane Sandy and assigned 0.9% of the SSS decline to the weather related event. Stripping out this one-time unique event, the company would have seen SSS in the middle of their initial guidance.
The big picture take-away from the last report is that the company, in spite of the lower margins it currently has seen over FY12, continues to grow earnings and revenues. The company is faced with a number of challenges or headwinds entering FY13, but as acquisition costs subside and the company further develops its World Market and buybuy BABY brands, these prospects will be accretive going forward and likely add back to gross margins. In this regard, near-term pain can certainly result in long-term gains.
The buybuy BABY format has nearly doubled its store count over the last two years while the competition from Babies"R"Us has continued to undergo store closings as its parent company looks to remodel and reformulate its brand offerings and store formats. Babies"R"Us is the nation's leading dedicated juvenile products retailer. Since opening its first store in Westbury, NY, in early 1996, the company has continued to grow over the years and now boasts approximately 260 locations nationwide. Babies"R"Us also offers a convenient online and in-store baby registry that eliminates guesswork and geographic barriers from gift-buying so friends and relatives can easily go to any store location or Babiesrus.com to select, buy and send the right gift directly to the expectant parents (here.) Toys R' Us has embarked on the concerted efforts to combine store fronts into one over the last two years, bringing together Babies"R" Us and Toys R' Us under one expanded roof. This newer store format offers shoppers a unique opportunity to purchase baby products and older children toy products in one store. Additionally, Toys R' Us has began developing their own line of private label products as a way to compete on price with the likes of Target (NYSE:TGT) and Wal-Mart (NYSE:WMT) . If buybuy BABY aims at taking market share away from Babies"R"US, it will have to do so with its extensive quality product offerings at competitive prices. Additionally, the company will have to offer shoppers a guest experience "beyond" that of Babies"R"Us which is arguably not a huge challenge.
It's very clear that there is a big opportunity for future growth with the buybuy BABY brand store format. The company continues to diversify its business by leaps and bounds. The acquisition of Harmons in 2002 represented an acknowledgement by management that the company needed to seek alternative revenue drivers to continue to realize increased sales through increased guest traffic. Since acquiring the 27 Harmon stores in 2002, Bed Bath & Beyond has transformed hundreds of existing BBBY 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 Harmon Stores accretive acquisition, development of buybuy Baby and most recent acquisitions of Cost Plus and World Market lead me to believe the company is readying itself for strong diversified growth for years to come while it maintains a pristine balance sheet.
So what else could we expect from the company in the coming years? When speculating on possible growth drivers for BBBY going forward, one should think outside the box as the company does not offer much to the analyst community by way of consistent intra-quarter communication and is often "tight-lipped" with company developments outside of quarterly conference calls. However, I think it is safe to say that the company will continue to assess unique opportunities to grow its business both organically and through acquisitions.
As one of the leading bridal and gift registry retailers in the U.S. and Canada, we expect the company to assess additional ways to drive this business further. Although the company does currently offer greeting cards, we could easily envision the company expanding the assortment further. Additionally, many new brides registering at Bed Bath & Beyond are likely going to have a bridal shower. Bridal showers often, if not always, are a gift giving event and have a food and beverage element to them. As such, we can envision the company offering frozen party snacks, cakes and other specific party/shower food goods in the future. Capital Ladder Advisory Group has witnessed BBBY executives discussing this very opportunity with various food producers and packagers at various trade shows in 2012 unlike in previous years.
Moving into another product category that has also grown by leaps and bounds over the last decade or so, we see BBBY allocating even more square footage to the pet product category. The company has done so in many of the A and A+ sales volume stores, but the success of this venture leads us to believe that the company will explore greater ways to get more deeply involved in the pet business. There is no denying the success the pet care business has brought to PetSmart (NASDAQ:PETM) in recent years and the trend does not seem to be slowing.
The best part of Bed Bath & Beyond as a business with respect to competitive advantages is simply this: the threat from on-line retailers like Amazon (NASDAQ:AMZN) is limited unlike the threat Amazon poses to other retailers. How many people buy their linens and bath products online? It pales in comparison to those whom buy their electronics online. Secondly, BBBY enjoys some of the highest dollar-per-square-foot margins in the retail industry outside of the apparel retail industry due to its strong mix of soft goods and hard good products and its limited exposure to grocery and electronic goods.
Based on the sum of its parts, including strong balance sheet, no debt, buy-back plan worth $2.5 billion initiated on the most recent earnings conference call, product mix, buybuy BABY expansion and ability to make accretive acquisitions over the years, we feel Bed Bath & Beyond would make a strong part of any long term portfolio.