The TJX Companies: High Quality Retailer In the Bargain Bin

The recent credit card breach at TJ Maxx has evoked loud criticism from all corners of the investment and political spectrum over the company's lax security measures and has equated the companies actions as those of the criminals themselves. In a recent Lightening Round on Cramer's Mad Money, Jim went as far as to say that TJX is a "mismanaged" company. How thoughtful Jim! Perhaps had he given more than the 12 allotted seconds to each stock idea, he may have constructed a more thoughtful position.

While I am concerned that more stringent controls were in place before the breach, at the end of the day, I view TJX as more a victim than culprit. I love when short term issues like this give us the opportunity as long term investors to buy great companies to buy and hold until the market lets them out of the penalty box. I must say, I have to respectfully disagree with Cramer’s conclusion however that TJX is a “mismanaged” company. I have done significant work on the retailing group and have found that the winners are usually the companies that #1 can generate the highest return on shareholders capital and #2 can sustain strong “same store sales”

Because of TJX's unique business model that focuses less on fancy stores and concepts and more on running highly efficient, profitable stores and delivering value to the consumer, they consistently earn higher return on invested capital than their peer group. TJX turns over its inventory much faster than most peers, which creates value in three important ways. The faster inventory turnover enables TJMaxx to generate higher levels of cash flow as less working capital is needed to finance the inventory. As the chart below illustrates, TJX has one of the highest levels of free cash flow earning power in the retailing sector, which has historically led to higher valuations and stock prices.

Secondly, the brisk turnover model creates huge value proposition for its suppliers, providing the clothing manufacturers and department stores an additional channel of distribution and allows them to optimize their merchandising. Finally, the model lowers the financial risk profile for TJX as fashion risks are minimized.

It is difficult, in the long run, to make money on stocks that have high fashion risk, companies that can often be victim to consumers rapidly changing tastes, i.e. the Gap (GPS), Krispy Kreme (KKD), and Cramer’s favorites like Crocs (CROX) and Under-Armor (UA). Sure, some will succeed, but getting the merchandise strategy right is another uncontrollable variable in the mix.

TJX has much less risk because if it makes a fashion blunder, it has much shorter lead-times and can quickly adjust its merchandising. Other companies could have several quarters of earnings misses if they make poor merchandising decisions, as purchasing decisions are made several months in advance.

In terms of growth, TJX has strong unit growth potential in some of its newer concepts, but more importantly it grows its “same store sales” much more consistently than most retailers. The attached charts show how TJX has a very loyal customer base (we call them “treasure hunters”) and in fact, in slowing periods TJX tends to attract marginal customers that trade down from higher-end retail.

These are signs of very solid management and I remain confident that over our longer frame investment time horizon, this thesis should materialize and we will see a solid return.

Disclosure: author is long TJX.

TJX 1-yr chart:

Comments

[Asif Suria:]

I could not agree more Jonathan. Their stores appear to be much better organized than competitor Ross Stores (ROST). The $2.58 billion of inventory on the balance sheet is a little unnerving until you consider that inventory has been dropping over the last two quarters and it is the nature of their business to stock up on inventory.

2007 Jun 01 02:22 PM

[Peter J:]

My wife browses through the local TJX store regularly (once a week) as it is right next to the supermarket she frequents. Lately she has been buying a lot less and complaining the selection is not as good as it used to be!

2007 Jun 01 03:11 PM

[robert migl...:]

I agree for the most part also.However,many have forgotten the raids a couple of years ago in Pa. due to the high number of illegals working at TJ Maxx & Marshall's. They were NOT Latinos but mostly Eastern Europeans & russians. Otherwise,TJX bargains,such as $100 fragrances for men & women selling at $20 or less remain very attractive.

2007 Jun 02 01:24 PM