Seeking Alpha
Dividend growth investing, REITs, newsletter provider, value
Profile| Send Message|
( followers)  

A few months ago I wrote an article on Tractor Supply Company (NASDAQ:TSCO), a niche specialty retailer with an impressive history of impressive results and a proven ability to perform in a challenging retail environment. With over 1,000 stores in 44 states, Tractor Supply provides a unique business model catering to "four-legged farm friends." This "feed & seed" retailer tends to locate in rural markets that are close to farmers and livestock.

PetSmart Inc. (NASDAQ:PETM) is another specialty retailer that caters to "four-legged friends," and like Tractor Supply, PetSmart has performed extremely well during turbulent consumer times. A key player in the specialty retailing arena, PetSmart is focused on pets and pet-related products and services.

The Pedigree Brand

Pedigree (adj.) - having a list of ancestors as proof of being a purebred animal

Founded in 1986, PetSmart operates around 1,187 retail stores and pet hotels across the United States and Canada (PetSmart went public in 1993 with a $125 million IPO). The company offers consumables, which include pet food, treats, and litter; and hard goods, such as pet supplies and other goods comprising of collars, leashes, health care supplies, grooming and beauty aids, toys, apparel, and pet beds and carriers, as well as aquariums and habitats, accessories, decors, and filters for fishes, birds, reptiles, and small pets. It also provides pet services, such as grooming, cuts, baths, toenail trimming, and grinding, and tooth brushing; and training, boarding, and day care services. Further, the company operates PetsHotels that offer boarding for dogs and cats; and hospitals, dental care, a pharmacy, and surgical procedures.

The Business Model

As one of the few "pure-play" specialty pet supply retailers, PetSmart's core customers (the pet owners) have not scaled back during tough economic times. According to the American Pet Products Association, the total "pet supply" market has more than doubled since 1998, to an estimated $47.7 billion in 2010. Other surveys confirm that more than 60% of US households have incomes higher than the national average. Although many of the other specialty retailers have struggled with high unemployment numbers and varied results, PetSmart's results have affirmed the fact that Americans are not scaling back on pets and pet related products and services.

PetSmart Inc.

Comparison of Specialty Retail Brands

S&P

M-Cap

Rev

LT Debt

Cash

Cash/Debt

Div

PetSmart (PETM)

BB

5.08 B

5.73 B

.522 B

.353 B

68%

1.10%

Best Buy (NYSE:BBY)

BBB-

12.34 B

50.27 B

.711 B

1.10 B

156%

2.20%

Staples (NASDAQ:SPLS)

BBB

14.68 B

12.55 B

2.01 B

1.46 B

73%

2.00%

Tractor Supply (TSCO)

NR

4.54 B

3.64 B

0.013 B

.26 B

200%

0.80%

The Competition

As noted above, PetSmart has little "direct" competition. PetCo operates over 1,000 stores and the "indirect" competitors are predominantly the big box retailers such as Wal-Mart (NYSE:WMT), Costco (NASDAQ:COST), Target (NYSE:TGT), as well as grocery chains including Kroger (NYSE:KR) and Supervalu (NYSE:SVU). PetSmart has remained competitive in the pet food category as the company has expanded its private-label pet food products spurring a steadily growing revenue stream. With over 26.6 million square feet of retail space, PetSmart is on track to open 40 to 50 new stores in 2011.

PetSmart, Inc.

Store Count

2010

2009

2008

Beginning of Year

1,149

1,112

1,008

New or Relo

46

45

112

Closed

-8

-8

-8

Store Count - End of Year

1,187

1,149

1,112

The Results

Clearly PetSmart's specialty model is appealing to many American (and Canadian) consumers. The "big dog" chain's earnings grew 24%, 32%, 23%, and 26% from year-ago levels in the past four quarters. Next week, PetSmart will announce its Q1-2011 results and estimates indicate that PetSmart will report strong sales and earnings. The company has posted impressively consistent growth over the last decade that included solid results during a serious downturn.

Full year sales rose 6.7% to $ 5 billion while operating income increased 16.2% to $428.7 million. Net income jumped 20.9% to $239.9 million, or $2.01 per diluted share. Sales, EBITDA, and free cash flow have all risen in each of the past four (4) years.

PetSmart, Inc.

Financial Highlights

(in thousands, except gross profit per-share)

2010

2009

2008

Net Sales

5.694

5.336

5.065

Gross Profit

0.619

0.575

0.527

Net Income

0.24

0.198

0.192

Earnings per Share

$2.01

$1.59

$1.52

Operating Cash Flow

0.458

0.567

0.42

The impressive results span a decade as sales have increased close to 10% and profits 12% average annually over this period. The forward P/E of around 16 is a bit high as the mean share price ($44.23) has seen a good amount of growth, but warranted given the stable and sustainable operating history. In fiscal 2010, PetSmart generated $458 million in operating cash flow and the company spent approximately $125 million in cap-ex adding 38 net new stores and 18 PetsHotels. As of January 30, 2011, PetSmart had around $ 291 million in cash with a debt balance of $ 567 million (S&P rated BB Stable), making this a most healthy (well-capitalized) pet chain.

The Birdseye Summary

I expect the "big dog" to continue to out perform and provide impressive results. The sustainable (pedigree) operating model and the strengthened balance sheet will continue to provide shareholder value. Judging by continued growth and earnings history, as well as its above average 20.8% ROE; PetSmart should reach a $50 price by year-end (closed on May 12, 2011 at $ 44.23). I will post an update after the Q1-2011 results are announced next week.

Source: PetSmart: A Birdseye View of a Successful Pedigree Brand