Quicky #8 on Bed Bath and Beyond after BBBY’s 2020 Investor Day

Did the turnaround of Bed Bath & Beyond (BBBY) finally kick off? New management was put in place and changed some things for good. Then the global pandemic and checks from the government set the stage for the long-awaited turnaround. After todays virtual investor day, it is time for a quicky …

This is not investment advice. Please read the disclaimer.
I currently own shares in mentioned companies.

Bed Bath & Beyond Inc. (BBBY or the company) and its subsidiaries want to be ‘the preferred omni-channel home destination’ and thus BBBY sells all the stuff you need to feel comfortable at home (note: most women would probably know better words for these kind of products). What I am going to do in this quicky?

This is another part of my series of Quickies on new companies.

Past problems

Reaching the stated goal or vision above was a challenge for BBBY for some years as becomes obvious looking at the share price. From Jan 2015 to Jan 2020 the stock lost -80%. Due to the pandemic, BBBY lost another 80% from Jan to April, falling to its low of $ 3.56 in April 2020. From the low, it recovered 320% until the end of September, reaching $ 14.98. Surprisingly good second results (ending Aug 2020) reported on Oct 1st, pushed the stock yet much higher in succeeding trading sessions, closing at $ 20.85 on Oct 7th for another gain of 40%. Understandably, my fingers itched over the sell button, but I wanted to wait for the investor day and establish a longer term view …

FYI: I bought BBBY shares in April and September of 2018. That was after the strong downward trend but still … You get the point (and my perspective).

BBBY’s problems were manyfold, materializing in less than stellar trends in financial metrics over the last few years. Sales growth slowed from +5.4% in FY 2014 to +0.9% in ’17 and turned negative in FY 2019 (ending Feb 2019). This (negative) development was accompanied by declining gross margins and net margins, falling to 34% and 2% in FY ’19 from 40% and 9% in ’14. Underlying problems included:

  • Store design was not up-to-date, underperforming stores
  • Online strategy execution below average
  • Inventory mis-management
  • Coupon strategy went awry and primed customers to only shop at BBBY with hefty discounts, squeezing its gross margins.
    • German readers will remember a certain DIY chain with a similar problem caused by a failed discount strategy. It rang 20% on everything – but pet food.

New management

The company suffered for many years under an incapable management team punching below its weight. Fortunately for us BBBY shareholders, senior management was reshuffled and new management brought a lot of industry expertise (see slide #11, Q1 presentation).

Omni channel capabilities were strengthened. BBBY converted stores to fulfilment centers, which was the right move to address new covid realities. It helped propel digital sales (+89% in Q2).

Better digitized processes were tackled and in September BBBY announced to expand its google cloud partnership.

All the above initiatives enabled the strong financial and operational performance despite or because of the pandemic and related social distancing measures. Recently, shareholders were able to witness timely reactions to current conditions as BBBY introduced same day delivery and assortments for at home dorm rooms and virtual learning.

Changes for BBBY

Comparable sales turned positive for the first time since 2016 in Q2 2020 (Jun, Jul, Aug). This is probabaly the most important metric, indicating a possibly successful turnaround of BBBY. This positive sales momentum was mostly driven by increased demand for furniture, home decoration and other offerings, driven by corona and thus people spending more time at home. There were many other positive KPIs, though. Margins improved and online sales got traction.

extraction from Q2 results, slide #6

BBBY strengthened its balance sheet and shows net cash. As of Aug 29th, the company reports net cash of $ 0.3 bn vs. net debt of 0.5 bn in May (slide #13). The cash generation of $ 750m was partially driven by the sale of Pmall (245m) and lower inventory levels (which, according to slide #17 shall decrease further) and probably some deferred capex invest. I believe additional cashflow effects from working capital changes had a positive effect, as well. However, BBBY acted opportunistically during Q2 and repurchased senior notes with a ~$300m principal value for 221m at depressed prices of ~74%. A solid balance sheet should enable BBBY to transform itself and drive its initiatives further.

Improved digital assets helped to acquire new customers during Q2. Many of them are new to the brand and younger than the average BBBY customer and they are less focused on using coupons enabling higher gross margins, according to their Q2 2020 Infographic.

BBBY appreciates the value of partnerships, enabling the company to offer same day deliveries with buy-online-pickup-in-store (BOPIS) and curbside pickup options — a nice fit during the pandemic.

The last quarter seems to set the stage for a successful turnaround. Let’s see what it could look like.

Outlook

Short term demand drivers look very favourable for BBBY. As long as the pandemic is the dominating news factor in the US (and it looks that way) people will spend much more time at their (new) homes. In this case they save a lot of money they had formerly spend going out. This money is now available for home improvements, furniture and deco (in short: BBBY’s assortment). Additionally, many people receive cash from the government. In some cases they have more spare cash than a year ago. And I do not know any good reasons why government funding should stop any time soon (do you?) … afterall, its an election year. Who knew? Low interest rates are not a hindrance either, if you are looking for a new home, either …

Another company profiting from the demand surge for homes is Opendoor. You enter some data into their website and you get an algo generated offer price for your home (frictionless and faster than via traditional real estate agents). Additionally, sellers avoid many humans (and potential covid spreaders) visiting your home. SoftBank Group (articles), which I own, is invested via its Vision Fund and could profit from a sale to a SPAC – the new rage at Wall Street …

Other factors will be crucial for a sustainable turnaround and BBBY generating high long-term shareholder returns. Many of these factors seem to be tackled right now.

Sales are shifting online and BBBY was late, bringing its omni-channel capabilites in shape only recently, but initiatives certainly point in the right direction. BBBY announced to close 200 of its mostly namesake stores (the comp. has many other brands besides that). This move should improve store economics siginificantly. Much of the affected revenue could now be captured online or by other stores.

Cutting costs on the corporate level (general and admin) is necessary to support profit margins. Reducing costs of goods (COGS) and drive supply chain transformation point in the same direction and should support gross margin.

Beyond Plus could turn out as a very important and yet underestimated long-term factor. This $29-a-year membership program should work like an Amazon Prime membership. Beyond Plus members should shop more and being more loyal to BBBY. This could result in a situation where most sales of closed stores are not lost entirely but substituted by sales at other stores and online sales. During October, BBBY may win many new Beyond+ members through its convincing offerings: Become a member during October, pay $29 annually, enjoy 20% off on every purchase as well as free stnadard shipping plus additional bonuses, and receive a $29 bonus for effectively a free first-year membership.

Investor day

For such a long Investor Day 2020 presentation there was little facts, and even less new facts, imho (I would instead go for BBBY’s news-release). Anyway, the company laid out its 3 year financial roadmap (slide #141 and following) and aims for the following KPIs in FY 2023:

  • low-mid single digit comp sales growth
  • gross margin of 38% (up +500bps from 33% in 2019)
  • Ebitda in the range of $ 850m to 1bn
    • implying high single / low double digit margins
  • annual capex of ~$ 400m during the next three years
    • for cumulative 3yrs FCF in the range of $ 0.5 – 1.0 bn

BBBY will buy back shares up to $675m, equivalent to a fourth of current market value ($ 3bn as of Oct 27th). Despite the news release (usually supporting prices) BBBY shares traded -14% pre-market. In addition to an accelerated share buyback (ASB) for $225m that will occur in fiscal 2020, the company expects to return up to $150m annually to share-holders for three years via SBBs. Unfortunately, these SBBs did not happen at prices as low as $3.50 in April.

The company’s roadmap is underpinned by many operational initiatives, many were known before the investor day. But, I believe many projects make real sense. Closing 200 stores will be value accretive (see slides #106, #109).

Moving away from its de-centralized inventory management is necessary for a successful omni-channel approach to support centralized order processes ensuring a good user experience at all touch-points. Further, it will reduce the number of suppliers and renegotiate with others, resulting cost savings.

Valuation perspectives

BBBY sports an EV value of about $ 4.7 bn, consisting of a market cap of $ 2.7 bn and net debt of $ 2bn as of Aug 29th 2020, consisting of $ 1.4 bn cash, 1.2 bn long-term debt and total leasing liabilities of $ 2.3 bn, according to its 10-K. Leasing liabilitites are essential for physical retailers (see Pandora A/S valuations).

  • BBBY withheld or delayed rental payments of approx. $ 50 mn during the last six months. The amount is included in current liabilities.

A few quarters with stellar results should be in the making, simply driven by higher covid-driven demand, prolonged through higher new-build houses (rosy environment). According to its Investor Day 2020 presentation, positive momentum has continued in Sept & Oct.

Longer-term earnings will be back to (new) normal, whatever that my be … on the basis of normailzed demand when the pandemic fades and with it time spent at our (new) homes. I would argue, that their 3-year financial roadmap can be taken as a slightly positive scenario (with lots of uncertainy regarding outcomes working in both directions).

Let’s assume we find BBBY in 2023 to generate Ebitda of $ 1 bn (upper range), normalized investment stands at $ 400m annually for an FY ’23 FCF of $ 400m and slightly growing. What would we want to pay for such a company today? I guess todays EV is about fair. The announced share buy backs could turn out to be a nice kicker for long-term shareholder returns.

Usually I prefer to do a DCF but currently there are just too many moving parts with BBBY: a special business cycle due to pandemic; non-core businesses sold, buybuyBaby has a strong impact; closing of stores. (Maybe I will try later …)

Lots of optionality in the brand portfolio enables the company to take different paths with more flexible reactions to future developments. If neccessary, certain brands or subsidiaries could be shut down or sold off. Done by a capable management, such actions should be value accretive for shareholders. On Oct 13th, BBBY reported another milestone in divesting non-core assets. BBBY will sell its Christmas Tree shops, Linen Holdings and the Florence distribution center (and lease it back) for approx. $ 250m. These transactions will further streamline the companies operations and management focus on turning around its core business. Oct 14th Update: The stock rallied strongly after the above news, opening above $23 after 22.15 on 13th, and closing the day with high gains, after showing an intraday high of 24.19 (+8%).

My conclusion

I believe todays EV is about fair. At least, BBBY is not a screaming buy or sell for me, currently. If the turnaround is successful, any share buy backs could turn out to be a strong lever.

Attention: It could be that I strongly overestimate BBBY’s chances for a positive turnaround, based on my positve experience with my Pandora case (PNDORA).

I hope you enjoyed this post. What is your take on Bed Bath & Beyond?

2 thoughts on “Quicky #8 on Bed Bath and Beyond after BBBY’s 2020 Investor Day

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