Mad Money: Sizing Up Retail Warehouses

“…Costco has simply executed poorly this year. I expect improvement, but I can’t wait for it when B.J.’s stock beckons. I want to make it really clear, I vastly prefer going to Costco over going to a B.J.’s…

I love regional/national plays B.J.’s got 180 stores mostly in the northeast and southeast. Costco has 557 worldwide, they’re more concentrated in the west and south. Retail stocks tend to run out of the room to run higher when the underlying companies. Walmart peaked when they were basically in every state. B.J.’s has plans to accelerate the store growth. Costco is opening 15 this years, but it’s three times the size as B.J.’s. By the way, B.J. had always had a problem trying to site stores. Now, they can add stores, because real estate is cheaper. That’s not the case a year ago.

B.J.’s is a better company, B.J.’s trades at 12 times expected earns. Costco is rich at 18. Again, because everybody loves the product. But the difference is not justified… I told you B.J.’s has superior execution with store units. Costco in this game is 2 for 4 and I think the valuations will reverse themselves and B.J. will trade at a premium. Here’s the bottom line. B.J.’s is a contender for discount king.”– CNBC’s Mad Money 8/25/2009

This week, Cramer is searching for the discount king, and on Monday he ruled out The TJX Companies (NYSE:TJX) from the competition. When discussing discount retailers, the conversation quickly turns to warehouse stores which offer deep discounts for bulk purchases. There are three major players with Costco (NASDAQ:COST), BJ’s Wholesale Club (NYSE:BJ) and Sam’s Club, but only the first two have the majority of their business derived from actual warehouse retail. Take a look at the factors Cramer judged the companies on.

Sales Execution: In July, B.J.’s saw same store sales rise 2.9% excluding gasoline, while Costco’s slipped by about 1%. Furthermore, B.J.’s expects growth of 3% to 5% in the third quarter, and 4% to 6% in the fourth quarter. Costco’s comparable sales were flat in the last quarter and should see more of the same for the rest of the year. The edge for sales execution clearly goes to B.J.’s.

Inventory Control: For retailers, especially warehouse clubs, inventory control is key. If you have too much inventory, often stores are forced to discount merchandise to clear the glut which can hurt margins. Cramer stated that Costco has the edge in this category as their average inventory decreased 4% in the last quarter. B.J.’s saw inventories increase by 4%. However, management at B.J.’s has said that the soft trends that lead to the run up of inventory has already started to reverse, so this factor is closer than it appears. As a side note, B.J.’s carries 7200 unique products compared to only 4000 for Costco.

Growth: When it comes to growth potential, there is no doubt that B.J.’s has the advantage. Costco has 557 stores spread out throughout the world, with concentration primarily in the West and South of the U.S. B.J.’s is a less mature operation with only 180 stores, and only regional exposure right now. B.J.’s has plans to expand more aggressively, as real estate has become much cheaper of late.

Premium: Cramer pointed out that for the time being, Costco is valued more richly by the market than is B.J.’s. He says it is partially because, in his experience, shoppers enjoy shopping at Costco more, and B.J.’s doesn’t get the same respect. However, he sees this changing or even reversing over time. If you look at the forward looking P/E multiples (using consensus EPS estimates for the current fiscal year), the difference in valuation is significant. Costco trades at more than 20x earnings for the fiscal year that ends this month. B.J.’s is trading for less than 13x earnings for fiscal year ending in January 2010.

All of these factors contribute to Cramer’s opinion that B.J.’s Wholesale just might be the discount king. As for Ockham’s take, currently both Costco and B.J.’s fit into our Undervalued category. That being said, we think that B.J.’s has a lot more appreciation potential than does Costco, and we always like a stock that is out of favor with the market, yet still performs quite well. In this case, we agree with Mr. Cramer that B.J.’s is the better buy.

Mad Money: Sizing Up Retail Warehouses

About Ockham Research 645 Articles

Ockham Research is an independent equity research provider based in Atlanta, Georgia. Security analysis at Ockham Research is based upon the principle known as Ockham's Razor, named for the 14th- century Franciscan friar, William of Ockham. The principle states that a useful theory should utilize as few elements as possible, because efficiency is valuable. In this spirit, our goal is to make the investing environment as simple and understandable as possible, yet no simpler than is necessary.

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