TJX Companies (NYSE:TJX) posted yet another enviable quarter earlier this week. The firm beat revenue estimates; with revenue growing 7.1% y/y to $8.3 billion, and topped EPS estimates by $0.04 with adjust earnings coming in at $0.91, up 5.8% y/y. CEO Ernie Herman's first year as CEO is going exceptionally well, and the company has not skipped a beat since Carol Meyrowitz stepped aside. Like many analysts, I am generally not a huge fan of retail, but I believe TJX has become the cream of the crop in the industry. I think shares can trade to $87 after the company exceeds fourth quarter estimates.
Q3 by the numbers
Q3 was terrific and truly highlighted TJX's ability to mitigate labor pressures without sacrificing margins or comp sales growth. Same-store sales jumped 5% on a consolidated-basis, impressive particularly considering last year's 5% comp growth. Most notably, strength was broad-based, with every HomeGoods, MarMaxx (Mashall's and TJ Maxx), and TJX Canada all comping in the mid-single digits. TJX International was flat, after growing 7% in the year ago period. Management seemed convinced the entire retail landscape was challenged in Europe in Q3, so I will keep a watchful eye over the segment going forward. International provides a bit more whitespace than the US.
The most important effect of TJX's terrific comps is the margin lift associated with it. As we can see in the below chart, the company has increased its operating margin by 60% over the past decade with gross margin expansion driving the largest chunk of the gain.
Source: TJX SEC filings
As an off-priced retailer, TJX is not particularly focused on raising prices to drive margin growth. While the company has certainly benefited from a slightly higher-end mix shift (and thus apparel margin), the real driver has been leveraging occupancy expense, which is driven by comps. TJX does a remarkable job of improving store productivity, a testament to management's relentless focus on merchandising and understanding its consumer at a market-by-market level.
Going forward, the higher minimum wage is going to be a headwind for TJX on the cost side. Wages hurt earnings by $0.03 in Q3, and this headwind is going to be present for several years to come. I anticipate operating margins to decline 50bps in each of the next two years exclusively due to the negative impact of higher labor costs.
Pessimistic Q4 Guidance
TJX's guidance was the only disappointing note for the call, but this is not atypical. TJX perpetually sandbags earnings, which is a pretty good strategy since management guidance typically drives all earnings estimates (as it usually should in the near-term). Management expects comp growth of 1-2%, which I think is unrealistically light, even though the company is lapping 6% in the year ago period. Based on its current momentum, I think TJX will have a blockbuster Q4 from a sales perspective.
You can always rely on TJX to allocate capital properly. While it continues to invest to grow its store count and maintain an enjoyable shopping experience, the company aggressively retires its share count, completing $1.175 billion in buybacks YTD. The company has reliably generated over $2b in free cash flow in the past two years, and it looks poised to easily top that figure in FY17. I expect TJX to aggressively reduce its share count going forward, and I anticipate another dividend increase in FY18. The dividend has already more than doubled since 2012.
Because TJX sandbagged earnings, I think the company has an attractive set-up to beat Q4 expectations, which should send shares to the mid-to-high $80's. $87 is the midpoint of my DCF estimate, and it equates to just under 25x trailing earnings. For the most dominant compounder/retailer in the world, the current price is a bargain.
Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in TJX over the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.