Following the footsteps of other retailers such as Wal-Mart (NYSE:WMT) and Costco (NASDAQ:COST), Bed Bath & Beyond (NASDAQ:BBBY) is finally taking steps to strengthen its online channel. In the digital age, retailers are looking to maximize technologies such as the internet and smartphones to their advantage and Bed Bath & Beyond is now focusing on this. Pure play online retailers such as Amazon (NASDAQ:AMZN) are offering a variety of products ranging from electronics to apparel at cheap prices, thus intensifying the competition. With this increasing competition and its slowing growth, Bed Bath & Beyond’s online entry was somewhat inevitable.
Although the retailer launched its e-commerce a long time ago, its online segment has not been a valuable contributor historically. The retailer scored quite low in terms of online shopping in one ranking, and online sales only contributes about 1% to its net sales.  Last month, Bed Bath & Beyond announced plans to redesign its web portal and set up a new distribution center and IT data center in order to improve online sales.  Here we evaluate the importance of online channel for Bed Bath & Beyond and how will it contribute to the retailer’s growth.
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Need For An Alternate Channel Arising From Slow Growth And Competition
As a specialty retailer, Bed Bath & Beyond mainly caters to the new home buyers and those who are remodeling their homes. Before the recession of 2008-2009, the permits for new homes were at a peak of about 2.5 million a month in the U.S. This figure has now come down to 650,000.  This indicates that the housing market has been weak post-recession and has affected Bed Bath & Beyond’s sales.
In the first quarter of fiscal 2012, the company’s gross margins declined to around 40% which was below the previous 5 year average.  This can be attributed to the highly promotional environment which led to offering of 20% discount coupons. Moreover, the comparable store sales growth was 3% in Q1 fiscal 2012 down from 7% in the same quarter last year.  This figure was even higher in Q1 fiscal 2010 (8.4%) indicating a constant decline since then. 
The limited presence in the online channel and higher pricing might create a tough environment for the retailer. For instance, the comparable items at Amazon are 15%-20% cheaper than Bed Bath & Beyond.  Moreover, other physical retailers such as Wal-Mart are diversifying their product assortments into furnishing items, thus increasing the competition.
However, Short Term Financial Benefits Will Be Minimal
The online sales contributes only about 1% of the Bed Bath & Beyond’s net sales and it will take a while before this channel becomes a substantial value contributor. For instance, if we consider the upcoming plans for the online channel, the retailer’s capital expenditures are likely to be around $300 million in fiscal 2012, which includes the new distribution and IT data center.  Assuming that the online sales are doubled due to this addition and adjusting the forecast in our pricing model accordingly, we get upside of less than 5% to our stock price estimate.
However, the presence in online business is more about protecting the future growth and giving customers the flexibility in purchasing. Investing in this channel is likely to bring a positive outcome for Bed Bath & Beyond as e-commerce is a widely accepted trend for retailers. Online sales have been increasing as a percentage of overall retail sales in U.S. over the past 6 years.  In 2006, online sales contributed around 2.5% of the net sales in the U.S., and this figure increased to around 6% in 2012. 
Moreover, according to comScore, the online sales for home furnishing registered a double digit growth over the past year, which was an increase from the mid-single digit growth of the preceding years.  Bed Bath & Beyond will leverage this trend and continue to invest in e-commerce.
Our price estimate for Bed Bath & Beyond stands at $ 70, implying a premium of about 20% to the market price.Notes:
- Bed Bath & Beyond will build out its web infrastructure in 2012, Top 500 Guide Online [↩]
- BBBY Retains Neutral Rec-Analyst Blog, NASDAQ, Oct 23 2012 [↩] [↩]
- Bed Bath & Beyond: Slowed Growth, But Avoid Cleaning House Entirely, Forbes, June 21 2012 [↩] [↩] [↩] [↩]
- Bed Bath & Beyond’s SEC filings [↩] [↩]
- U.S. Census Bureau News, U.S. Census, Aug 16 2012 [↩] [↩]