Big Lots Setting Up for Long-Term Success

Closeout retailer Big Lots (NYSE: BIG  ) missed analyst estimates last week, but not all is negative with the big-box discount chain. The stock may suffer from its affiliation with Eddie Lampert, CEO of embattled Sears Holdings (Lampert's hedge fund has a stake in Big Lots), but investors need to understand that Big Lots' position is much different. Management continues to take broad steps in decreasing expenses -- including shutting down the failed Canadian experiment. For investors, the question is one that faces many big-box retailers in this era of industrywide disruption -- can the company find new ways of business to compensate for its inevitable lost market share to e-commerce?

Earnings recap
Big Lots offered some ugly third-quarter numbers last week. It saw the bottom line drip down year over year and come in underneath analyst estimates with a net loss of $0.16 per share, versus the $0.11 loss in 2012's third quarter. Analysts had expected, on average, a loss of $0.08 per share.

If we take Big Lots' ailing (and soon to be defunct) Canadian stores out of the picture, the company hit a net loss of $0.07 per share. That is $0.04 worse than the comparable 2012 figure.

Net sales actually increased by about 1.6% to $1.152 billion, entirely due to gains in the U.S. operations and offset by a 1.9% decrease in Canada. Same-store sales contracted in both segments, down 2.5% and 0.9%, respectively.

Looking ahead, the company sees adjusted earnings per share, including Canada, of $0.65 to $0.90 per share in the final quarter of the fiscal year. Analysts had wanted much, much more -- $2.11 per share. On the same terms, Big Lots management expects $1.42 to $1.65 per share.

Blame Canada
The earnings report was all about the company's failed venture into Canada to compete with the other big-box discounters. Big Lots operated in the country under its namesake brand, as well as the acquired Liquidation World. During the first quarter, the company will shut down all of its operations (apparently a sale wasn't a viable option) and designate them as discontinued.

Canadian operations kept the past year's numbers quite low, and management is wise to let them go. A turnaround effort would have been very costly, and the company may not have picked up much share from its bigger, more established rivals in the country.

As that loss drifts into the past (let's shoot for end of 2014's second quarter, or maybe the third), things should improve for Big Lots. Sales are still sluggish in the U.S., but the company has a 1,600-store presence with plans to grow. At 11 times forward earnings, the stock is priced attractively for a medium- to long-term position. Prior to 2011 and the company's entrance into the north of North America, Big Lots earned well above $200 million annually. While that certainly isn't the case for 2013, and maybe not even 2014, the U.S. operations could easily get back to that level -- especially with new store growth and continued focus on margin enhancement.

If Big Lots can return to its 2010 earnings of $220 million, for example, that would imply a forward P/E of just 8.14 times. Big Lots may not be the most risk-averse or sexy play in retail, but its current pricing should interest value-seekers.

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