PetSmart's Earnings Get a Ruff Reaction


PetSmart (NASDAQ: PETM  ) reported third quarter results for fiscal 2014 on Friday. Although the key metrics met or beat consensus analyst estimates, the stock was hit in the day's trading. Let's take a deeper look into the results and find out if this weakness is a buying opportunity or just the beginning of a move much lower.

The pet superstore
PetSmart is the largest specialty retailer of pet products, services, and solutions. It currently has 1,314 stores in the United States, Canada, and Puerto Rico. These stores carry all the pet products you need, along with grooming, training, adoption services, and Doggie Day Camps. PetSmart also operates 196 PetsHotels and has Banfield Pet Hospitals connected to over 60% of its locations.

The results
PetSmart's third quarter report was released on Friday and it showed growth on both the top and bottom lines. Here's an overview of the results:

Metric Reported Expected
Earnings Per Share  $0.88  $0.86
Revenue  $1.70 billion  $1.70 billion

Earnings per share increased 17.3% and revenue rose 4% year-over-year, as comparable-store sales grew 2.7%. Net income rose 12.2% to $92 million as the company's gross margin expanded 20 basis points to 29.8%. Since the fourth quarter of 2012, 45 new locations have been added which shows that the company is continuing to expand at a solid pace. PetSmart's Chief Executive Officer, David Lenhardt, summed up the report perfectly when he stated, "Our performance demonstrates the strength and stability of our business."

Fourth quarter problems
Third quarter results were good, but the company's guidance for the fourth quarter sent the stock lower in the next trading session. Here is the updated guidance:

  • Earnings per share of $1.19-$1.23 vs. $1.24 in 2012
  • Total sales growth of -3% to -2%
  • Earnings before tax margin expansion of -45 to -15 basis points
  • Comparable-store sales growth of 2.5%-3.5%
These are dreadful numbers, but the company does not see falling sales as an ongoing issue. I believe the fourth quarter will be better than the company currently expects, but regardless, it will only be a slight hiccup in the long-term growth story. Any weakness this guidance provides is a value-investor's buying opportunity. 

The difference-maker
PetMed Express  (NASDAQ: PETS  ) and Amazon (NASDAQ: AMZN  ) are two of the largest competitors to PetSmart. PetMed Express provides pet supplies and products and is also a top product information provider. It carries most major brands and hand-selects the healthiest products for its customers. It is home to the largest network of veterinary pharmacists in the world, which makes its website a great source for pet medications and advice. Amazon carries thousands of pet products as well, but does not offer the advice side like PetMed Express. Amazon is a good place to go if you already know what you want or just need a reorder. 

With all of this said, PetSmart is the top player in the industry because if offers in-store services to its customers. In the third quarter, sales from grooming, boarding and PetsHotels, training, Doggie Day Camps, and other services rose 5.2% to $184 million. In the conference call, CEO David Lenhardt had this to say:

In services, sales growth of 5.2% in the third quarter outperformed the core, driven by strength in both Grooming and PetsHotels. We've built out a portfolio of add-on packages and upgrades, including customizable and seasonal packages with tie-ins to key exclusive brands that really resonate with our pet parents. 

PetSmart is the clear cut, top-dog in this industry. We want to invest in the companies who offer everything consumers want or desire under one roof and that is exactly what PetSmart does. PetMed Express and Amazon are great companies, but when it comes to the pet product and service industry, look no further than PetSmart.

The Foolish bottom line
PetSmart is the largest company in a growing, recession-proof industry. Its fourth quarter guidance is not the greatest in its long history, but investors need to stay focused on the company's long-term potential. If the stock declines further, value investors should consider initiating a position and adding to it if it continues to fall.

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