In response to last evening’s negative earnings surprise, shares of homes goods retailer Bed Bath & Beyond (NASDAQ:BBBY) fell by almost 14% today. The company reported slower-than-expected growth with Q3 sales of $2.87 billion, somewhat shy of consensus. And it lowered its next-quarter EPS guidance by a dime to $1.60 to $1.67. The retailer’s comparable store sales increased by just 1.3% in the third quarter while it had seen more than 3% growth in the preceding quarters. Based on the current sales trends, Bed Bath & Beyond slashed its comparable store sales and EPS guidance for the fiscal fourth quarter (month-end February). It appears that a heavy decline in U.S. store traffic during the holiday season and Bed Bath & Beyond’s inability to attract sufficient web traffic is weighing on its sales.
However, we still believe that the company is well poised to get through this temporary weakness. Bed Bath & Beyond continues to leverage its decentralized management culture to offer appealing merchandise, which should help it keep its market leader position intact. Although its e-commerce channel isn’t strong enough at the moment, the retailer is working hard towards its development and integration with the stores’ channel. This should have some positive impact on Bed Bath & Beyond in the long run.
Our price estimate for Bed Bath & Beyond stands at $80, implying a premium of about 10% to the market price. However, we’re in the process of updating our model in light of the recent earnings release.
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Q3 Recap and Q4 Outlook
During the third quarter, Bed Bath & Beyond’s comparable store sales increased by just 1.3%, which was at the lower end of its guidance (1%-3%). Its gross profit margins declined from 39.8% to 39.2% due to increases in both inventory acquisition cost and coupon redemption, and a shift in sales mix to lower margin products.  As a result, the retailer’s earnings per share ($1.12, or 3 cents shy of consensus) also remained at the lower end of its earlier projections ($1.11-$1.16). However, Bed Bath & Beyond’s net sales increased by a healthy 6% as it continued its expansion in the U.S.
As we noted, the company lowered its outlook for the fourth quarter as its holiday sales have been weak. It now expects its Q4 comparable store sales to increase by just 2%-4%, while it had previously projected this growth rate to be in 3.5%-5.5% range. It also lowered its EPS guidance from $1.70-$1.77 to $1.60-$1.67. During the month of December, there was a heavy decline in U.S. foot traffic due to the weak economic environment and extreme weather conditions. ShopperTrak reported that U.S. retail sales fell by 0.8% year over year for the week ending on December 15, due to 19.9% decline in store traffic.  Furthermore, store visits plummeted by 21% in the week through to December 22.  ShopperTrak even predicted 10% lower shoppers for Christmas 2013 compared to Christmas 2012. Moreover, due to the tough climate, U.S. buyers preferred shopping on the Internet, which did not work in Bed Bath & Beyond’s favor since its online sales contribute just 3% to its overall sales. Therefore, we believe that a weak December will be a drag on the retailer’s fourth quarter sales.
Decentralized Culture Will Allow The Company To Stay A Step Ahead
The main reason behind Bed Bath & Beyond’s success has been the vast range of attractive merchandise offerings, thanks to its decentralized management culture. Through this culture, the company leverages the knowledge, independence and customer focus of its store associates to offer products in accordance to the regional tastes. It enables Bed Bath & Beyond to better understand its customers’ needs and respond accordingly. Since U.S. buyers have now become extremely cautious about their spending, providing them with the appropriate products at reasonable prices is of utmost importance. Bed Bath & Beyond is looking to increase and differentiate its merchandise offerings to better serve the customers’ shopping preferences. We believe that as the company maintains its strength on this front, it will be well positioned the curb the growing competitive threat from players such as Amazon (NASDAQ:AMZN) and Williams Sonoma.
Investments In E-Commerce Channel Should Help In The Long Term
Despite being such a big retail chain in the U.S., Bed Bath & Beyond’s online channel is immaterial. The channel’s small size somewhat dilutes the the company’s strong market position and prevents it from enjoying the surge in the U.S. online retail industry. According to eMarketer, online sales of furniture & home furnishing products is expected to rise from $17.7 billion in 2012 to about $31 billion in 2016. Also, sales of health & personal care products is projected to go up from $11 billion to around $19 billion. 
Bed Bath & Beyond has started taking its online business seriously and is working hard to enhance the customers’ overall shopping experience in stores and online by leveraging mobile devices and social media. The company believes that providing a deeper set of merchandise in an omni channel environment, combined with compelling customer service, will help it gain market share in the future. For this purpose, Bed Bath & Beyond is adding additional functions to its relaunched websites for Bed Bath & Beyond and buybuy Baby. It is also upgrading its mobile websites and apps along with network enhancement in stores. Alongside, the retailer is developing IT analytics, and marketing and e-commerce groups. The company has almost completed the construction of its IT data center in North Carolina and is in the phase of staffing and equipping the facility.  With these efforts, we believe that e-commerce will become a bigger business for Bed Bath & Beyond in the future and will further strengthen its market position.Notes:
- Bed Bath & Beyond’s Q3 fiscal 2013 earnings transcript, Jan 8 2014 [↩] [↩]
- Retail Sales, Traffic Decreased Last Week, Says ShopperTrak, ShopperTrak, Dec 11 2013 [↩]
- U.S. Store Traffic Sinks 21% as Last-Ditch Deals Flop, Bloomberg, Dec 25 2013 [↩]
- Retail Ecommerce Set To Keep A Strong Pace Through 2017, eMarketer, Apr 23 2013 [↩]