Amid an unnerving economic slowdown that has decimated the fortunes of many retailers, Ross Stores (Nasdaq: ROST ) has thrived. Shares of the company, based in Pleasanton, Calif., have soared nearly 20% this year, outpacing nearly all rivals. Shares of J.C. Penney? (NYSE: JCP ) Down 19%. Wal-Mart? (NYSE: WMT ) Down 3%.
Ross, which operates as Ross Dress For Less, says its same-store sales growth is likely to slow by more than half, to 1% to 2%, during the third quarter. But thanks to a tight leash on costs and a strategy that emphasizes a compelling twist on the retail customer experience, there may be more upside to the stock.
Dig deeper into the details
There is something reassuringly old-fashioned about Ross, which was established as a department store company in 1957 and became a discounter in 1982. Management maintains strong discipline when it comes to expenses, and doesn't pump lots of money into marketing and advertising, in sharp contrast to many retailers, including Gap (NYSE: GPS ) . Its digital commerce strategy is simple: It doesn't have one. Ross Stores doesn't sell goods over the Internet. Its global strategy? It doesn't have one of those either, because Ross is a domestic business.
One might ask how a company that's so seemingly retrograde can manage to survive in today's world, let alone achieve same-store-sales growth of 4% during the month of August (Hurricane Irene notwithstanding). Well, that's a good question.
To a great extent, the company is well-positioned for lean times. As the economy soured and consumers lost confidence, they shifted more and more of their spending to discounters. Ross isn't the only beneficiary of this ongoing movement. Rival TJX (NYSE: TJX ) of Framingham, Mass., which operates discount chains such as TJ Maxx and Marshalls, has done well this year, too. Its shares are up 21% for the year. But even TJX hasn't been able to quite keep pace with Ross of late. TJX reported that same-store sales grew just 1% in August. That was half of what analysts expected, and just one quarter of Ross' growth rate.
Consumers like the Ross "treasure hunt"
So just what accounts for Ross' recent success? The company has gained traction by creating a shopping experience that consumers really seem to like. It's hardly the first retailer to offer well-known brands at a steep discount. The key for Ross is unusually quick turnover of goods, so that consumers are less likely to get bored.
Ross also emphasizes the use of "packaway," buying goods at the end of a season and saving them for sale at the very beginning of the same season during the following year. In other words, it bets that most budget-minded consumers are willing to be one year behind the latest fashions, as long as they can buy good quality, seasonal clothes at a steep savings.
"While this type of inventory can have somewhat higher supply chain costs, these expenses are more than offset by its ability to enhance both top line and profit performance," CEO Michael Balmuth told investors on the most recent conference call. Packaway now accounts for 49% of inventory, up from 37% in the second quarter of last year.
Closing the gap
The company has plenty of room for growth. It operates in only 27 states and is expanding in markets like Chicago, where it plans to open 12 stores by October. That will help maintain revenue gains, which have been strong. For the second quarter, earnings rose 15% to $148.3 million, and revenue rose 9% to $2.09 billion.
Ross had a solid operating margin of 11.7% in the second quarter, up about a half percentage point as expenses fell by a comparable amount. It operates just one-third as many stores as Gap, but has a market cap of $8.7 billion -- ahead of Gap's $8.2 billion.
Ross, with few stores and a smaller marketing budget than rivals such as Gap, is punching above its weight. The company has managed to be both innovative and conservative at the same time. Even if the economy continues to slow, Ross should do well.