- ROST's quarterly revenue fell 4% Y/Y. Government stimulus checks may have kept revenue from falling further.
- Margins faltered as COVID-related costs rose. I expect revenue and margins to stabilize as the economy reopens.
- ROST has $4.8 billion in cash and positive cash flow. Robust liquidity should sustain the company.
- ROST and broader financial markets are up by double digits Y/Y. Some of the upside could be priced in. I rate ROST a hold.
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The pandemic severely hurt business activity. Shelter-in-place policies left millions of Americans stuck at home in order to stem the spread of COVID-19. The lion's share of shopping occurred online. I was concerned about off-price retailers like Ross Stores (NASDAQ:ROST) whose digital presence was practically non-existent. The pandemic tested their liquidity and the ability to weather the storm until the economy reopened. Ross is passing with flying colors.
In its most recent quarter, Ross reported revenue of $4.25 billion, down 4% Y/Y. Comparable stores sales were down 6%; this is understandable, given that its stores still had to adhere to social distance policies. There was also lower foot traffic, which was partially offset by an increase in the average basket size. Stimulus checks were disbursed during the quarter. This aided retail sales, and likely kept sales for Ross from falling further. The company was one of the few retailers expanding prior to the pandemic. Ross has plans to continue its expansion:
From a top-line perspective, with the continued rollout of vaccines, potential additional government stimulus and likely pent up consumer demand, we expect sales trends to strengthen as we move through the year. Similar to the first quarter though, we are projecting that operating margin relative to 2019 will continue to be affected by increased supply chain costs, higher wages, and COVID-related expenses. Therefore, profitability will be well below recent historical high levels. We expect to add about 60 stores, consisting of approximately 40 Ross and 20 dd's DISCOUNTS locations. As usual, these numbers do not reflect our plans to close or relocate about 10 older stores.
The company's off-price business model has historically offered a better value proposition vis-a-vis competitors. I expect this to continue. Expanding its store count could help Ross take market share from other traditional retailers. This appears positive for the company and the stock.
Margins for Ross faltered during the quarter. Gross margin was 25.7%, down about 120 basis points versus that of the year-earlier period. An increase in buying costs and freight costs hurt gross margin. Gross profit on a dollar basis was $1.1 billion, down 8% Y/Y. SG&A costs rose 15% to $690 million, driven by incentive costs and higher COVID-related operating costs. SG&A costs as a percentage of revenue was 16.3%, up 270 basis points. The combination of rising costs and declining scale caused the metric to deteriorate.
The fallout was that EBITDA of $460 million fell 33% Y/Y. EBITDA margin was 10.8%, down about 480 basis points. Things appear to be looking up. Pfizer (PFE), Moderna (MRNA) and others have received Emergency Use Authorization for a COVID-19 vaccine and have created a pathway to reopening the economy. Once the company's revenue slide subsides, its margins could improve and its EBITDA could bounce.
Strong Balance Sheet
Retailers must maintain liquidity in case recessionary pressures last longer than expected. Ross ended the quarter with $4.8 billion in cash, up from $1.4 billion in the year-earlier period. Working capital was $2.7 billion, up from $731 million in the year-earlier period. Working capital appears robust enough to support the company for several more quarters. Total debt increased from $313 million in the year-earlier period to $2.5 billion. Ross raised debt to shore up liquidity. However, its cash balance outweighs its debt load, so debt appears more than manageable.
Free cash flow ("FCF") for the fiscal year was $1.8 billion, up from $1.6 billion in the year earlier period. FCF should grow while the company retrenches. Management was able to monetize working capital as expected. Positive FCF portends liquidity could increase over time. This is positive for the company. Ross is weathering the storm, while the economy slowly reopens and consumers return to shopping via physical locations.
ROST is up over 30% Y/Y. The stock has benefited from the rise in financial markets. Some of the upside from an improving economy appears priced in. I rate ROST a hold.
This article was written by
Analyst’s Disclosure: I am/we are short MRNA. 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.
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