I'm Torn on Buying The Container Store's Stock

February 1, 2010 was the day The Container Store (NYSE: TCS  ) went from a company I unfairly pre-judged to one that intrigued me.

That was the day its co-founder and CEO Kip Tindell visited us at Motley Fool headquarters and shared his philosophy for running his business. Tindell struck me as the kind of innovative, positive force I'd love to consider investing in. Privately, I dubbed him "the third Gardner Brother" -- in reference to my bosses and Motley Fool co-founders, David and Tom Gardner.

Even so, in the intervening years, I still didn't really "get" The Container Store. Perhaps because I don't fit perfectly into its primary target audience of "female, affluent, highly educated, and busy," I just couldn't understand the appeal of a store full of overpriced boxes and organizational doodads.

Then, a few months ago, I bought this wheeled storage rack:

                                           

Quite frankly, it wasn't the sturdiest thing in the world and it was slightly more expensive than I had (perhaps unreasonably) hoped, but it was pretty much exactly what I was after. It allowed me to maximize space in my "laundry closet" without having to waste a weekend constructing a clunkier, less space-efficient shelf solution:

                                           

I finally got The Container Store's appeal. When you're in de-cluttering mode, you want to go to a place that's organized about organization -- a place that can show you all the options and help you get your project done in one stop. Kind of like an organizational Home Depot.

This "aha moment" was right around the same time The Container Store went public (November 1, 2013), so I decided to invest the time to dig into its filings, financial statements, and press clippings to see if it's worth buying stock in.

For obvious reasons, it would be embarrassing if I was messy in how I presented my findings to you. I have a lot to say, so here are the boxes I put my analysis in:

  • The good: 4 things I love about The Container Store
  • The meh: 3 things that seem bad but don't worry me too much
  • The ugly: 3 things that do worry me
  • The answer: My overall conclusion and what I'm personally going to do

Let's start with the reasons I'm intrigued...

The good: 4 things I love about The Container Store

1. No real competition
Don't get me wrong. There are a lot of places that suffice in bringing order to your chaos. The Container Store lists these concepts as its primary competitors:

  • Bed Bath & Beyond (NASDAQ: BBBY  )
  • Crate & Barrel
  • Wal-Mart (NYSE: WMT  )
  • Target (NYSE: TGT  )
  • Amazon (NASDAQ: AMZN  )

Add in stores like Ikea, Staples, and Home Depot, and there are many potential substitutes; however, there isn't another major retailer that's fully focused on storage and organization.

Sure, it's possible a competitor pops up to try to steal The Container Store's thunder. The Container Store has been around since 1978 and has seen clones try and fail throughout the years. Organized Living purposely avoided building stores in markets The Container Store operated in and still ended up going bankrupt in 2005. It's now an online-only concept. Formidable retailer Williams-Sonoma -- which is also behind Pottery Barn and West Elm -- tried, too. Its Hold Everything concept expanded to more than half The Container Store's current store count before ultimately shutting down in 2006.

As you'll see in my next reason, competing against The Container Store means competing against a VERY focused, committed company.

2. Long-term, holistic strategy
I hate the term "conscious capitalism."

It's a movement Kip Tindell (and The Motley Fool's founders, too) strongly supports, and it's a noble one. In simple terms, conscious capitalism looks for positive, win-win business situations rather than win-lose situations. In a conscious capitalist's mind, there's no reason employees, suppliers, customers, shareholders, and communities can't all win.

But the term "conscious capitalist" can sound a bit too hippie-ish. To some, it can connote weakness or a willingness to throw money away.

I'd prefer to say The Container Store has a long-term, holistic strategy -- its management team takes care in every aspect of its operations, building a system built to last.

You can see it in The Container Store's selection, training, and ongoing relationship with employees.

It might surprise you how hard it is to get a job at The Container Store. Harvard's undergraduate acceptance rate is around 6%; The Container Store hires less than 4% of its applicants, many of whom started out as loyal customers.

Since care is taken in the selection process, The Container Store can invest heavily in its full-time employees (note that 70% are part-time). The first year involves more than 260 hours of training (that's 6.5 full work weeks' worth!).

Because employees stick around, the training is justified. Employee turnover clocks in at 10%, vs. over 100% for the entire retail sector. That means the average full-time employee sticks around for a robust 10 years. You can imagine how that can enhance the customer experience.

Meanwhile, at the time of the IPO, the management team averaged over 17 years with the company.

That level of long-term care and partnership extends to all aspects of the company. As an example, the company picks its store sites and communities as carefully as it does its employees. It boasts of never having closed or relocated a store because of underperformance.

As you'd expect, The Container Store seeks to treat its vendors as partners, not as adversaries in a zero-sum game. On its first conference call, it was noted that at headquarters, some vendors are virtually indistinguishable from employees.

All of this points to a business aiming for decades-long relevance. 

3. Big-time markups
The Container Store's markups are pretty stunning. I know it's the first thing that popped out at me when I was surveying its financials.

When The Container Store makes a dollar of sales, it only spends $0.41 on the inventory it's selling. To put that in context, look at how much less that is than its competitors (Two notes: 1) Each company may define direct costs slightly differently, but you'll get the general idea here. 2) I don't have numbers on Crate & Barrel because it's a private company.)

                                          

The Container Store can charge (and protect) this markup because it generates over half of its sales via products that are exclusive. This is a testament to the way it cultivates relationships with its vendors. In fact, it bought one of these vendors outright in the late 1990s: the European company elfa.

Say you've got an out-of-control closet or a sprawling garage. elfa allows you to design your own solution using its shelves, racks, rods, drawers, and other storage solutions. If that's too daunting, The Container Store can design and install it all for you. Here's an example of a post-elfa closet from The Container Store's website:

                      

In Fiscal 2012, elfa sales accounted for a third of the Container Store's sales. About 40% of those elfa sales are from selling wholesale to retailers in Europe (where The Container Store doesn't compete), but wholesaling is an insignificant portion of The Container Store's growth strategy for the future.

As it expands its own store count, The Container Store wants to generate as much new sales from elfa as possible. The economics are just too compelling not to. While The Container Store generates $57 on its average customer transaction, it generates 10 times that amount on an elfa transaction. And while it generates that already impressive 59% gross margin (the flip side paying 41% for direct costs on your sales) overall, its gross margin on U.S. elfa sales is greater still -- up in the high 60s.

Gross margins of this magnitude give a company LOTS of leeway and options that margin-thin operators just don't have. And if you can operate efficiently, that can mean huge profits.

4. The growth potential
Management thinks The Container Store can grow its store count by almost 5 times in the United States.

Seems reasonable to me.

This is a snapshot of all 63 current locations:

              

You'll notice the amount of gray space. You'll also notice that stores are only in the U.S.

The Container Store aspires to at least 300 stores domestically. For context, Bed Bath & Beyond currently has around 1,000 U.S. stores. Put another way, Bed Bath & Beyond currently has about three times as many locations in California as The Container Store has locations in the entire United States!

Bed Bath, and Beyond arguably has broader appeal, but even so, 300 U.S. stores for The Container Store seems reasonable.

Management's guidance is to expect about 10% square footage growth per year. Using store count as an admittedly rough proxy for square footage growth, that sounds about right given that it grew 9% in fiscal 2013 (from 58 stores to 63 stores) and expects to grow 10% in fiscal 2014 (from 63 stores to 69 stores).

To add a few data points supporting this plan, The Container Store has averaged over 20% square footage growth historically (albeit from a smaller base), management says 2012 and 2013 store openings have exceeded expectations, and traditionally, it's only taken 2.5 years to recoup store opening costs on a pre-tax basis (aka a 2.5-year payback period).

Just remember that The Container Store is mum on the time frame in which it can grow from 63 stores to 300 stores. That said, if we assume that 10% rate of growth, it'll take The Container Store about 16-17 years to hit 300 stores. 2030 may seem a long way off, but a combination of 10% U.S. store count growth, the potential for international expansion (Canada's oh-so-close and you could see how its elfa operations toehold in Europe would be helpful), and same store sales growth could be quite powerful.

Speaking of those same-store sales growth possibilities, management is quick to point out it's had 14 consecutive quarters of positive comps. Note that this is during a recovering economy. Also note that its Internet sales are included in same-store sales.

From a different retailer, I might question that as a whitewash, but I think including Internet sales is smart. This goes back to its holistic thinking -- in this case, about incentives. You don't want store managers, hungry for comp growth, "encouraging" customers to buy "in store" in situations when it's easier for them to buy online. It also makes programs like its in-store pickup of online orders smoother. As we'll discuss later, adapting to an online commerce environment is important.

How does The Container Store continue to increase its same-store sales outside of Internet sales? For The Container Store, it always starts with the customer. So, of course, it's piloting a customer loyalty program in California called POP!. It's focused not so much on discounts but on "touches and hugs," as only Kip Tindell could say it. Transitioning from touches and hugs to increased hand holding, in Dallas-Fort Worth it's testing a way to serve customers better (and increase sales) with an at-home program where Container Store employees come into your home and organize everything soup to nuts.

More stores plus more sales per store is the classic growth equation in retail, and The Container Store's math checks out. Expect today's $750 million in annual sales to be dwarfed 10 years from now.

The meh: 3 things that seem bad but don't worry me too much

1. You're basically just along for the ride
Post-IPO, The Container Store remains majority-owned by the private equity firm Leonard Green & Partners, L.P. (LGP). In addition, LGP and various members of management have mutual voting agreements that further reduce any other shareholder's ability to make LGP and management do anything they don't want to do.

Add to that other technically non-shareholder-friendly things like poison pills and classification as an emerging growth company, and you basically have to be extremely comfortable that the goals of LGP and management align with yours.

As a small shareholder, you're pretty much always at the mercy of larger shareholders and management, but this is especially true of The Container Store.

On the plus side, as long as LGP has a controlling interest, we won't have to worry about distractions from the Carl Icahns and Bill Ackmans of the world.

2. The Internet Threat
Any bricks and mortar establishment these days is in danger of being Amazoned.

You could make the argument that, ironically, as The Container Store grows its own Internet sales, it's especially vulnerable.

Some of the strongest aspects of The Container Store are its highly trained, highly motivated sales floor employees and its ability to be a one-stop shop for organizational needs.

When you're online, there are, of course, no physically present humans helping you. There are also no humans offering up add-on suggestions that increase your tab. And, although the one-stop-shop aspect can still exist, it's not as big of a leap to go to a competitor's website (picture a streamlined Amazon sub site... it's not nicknamed "The Everything Store" for nothing).

For comfort, I turn again to The Container Store's holistic approach. We talked earlier about how stores are given credit for online sales. Because its management is focused and thoughtful, I'm confident The Container Store can use the Internet in conjunction with physical stores to enhance the customer experience. Of course, that's the same thing companies like Best Buy would say. Is there anything that makes The Container Store different? Perhaps. Remember that more than half of its sales are on exclusive items, so it's harder to use The Container Store as a virtual showroom, either in its physical or online locations. Also, intuitively, I think when folks are in an organizing mood, they're even more thankful for a focused, organized experience. That's true in the stores, but I think it's also true online.

These factors should allow The Container Store to stay differentiated and avoid the race-to-the-bottom price competition book sellers and electronics hawkers have been dealing with. In a similar vein, it's comforting that the average ticket is higher online than at the stores.

3. Will the Container Store work in smaller markets?
As concepts expand, a concern that usually comes up is, "Will the concept work in less perfectly suited markets?" Recall that The Container Store goes after affluent, highly educated customers. Those pockets are easier to find in 63 locations than in 300.

Management's thought of this, too. Of course, they use market research, data, and their usual care to select new markets and store sites. They also try to keep profit margins relatively consistent across their stores by adjusting the cost structure depending on the expected traffic they can expect at the store. In other words, if a new store location isn't expected to make as many sales, management keeps a tighter rein on costs.

To the underlying question of whether there's enough demand for The Container Store, I take some comfort in the experience of Whole Foods. It's a different concept, and food (even of the organic variety) is less discretionary than boxes, but they appeal to a similar crowd. As Whole Foods is nearing 400 stores in the U.S., it's recently increased its estimate of how many stores it can successfully run from 1,000 stores to 1,200 stores.

One Container Store for every four Whole Foods doesn't sound crazy to me.

The ugly: 3 things that do worry me

1. Profits: A hole in the box
We've talked a bit about The Container Store's excellent gross margins, but we haven't worked our way down the income statement yet. As we do, the picture gets less rosy.

Take a look at the graphic detailing direct and SG&A costs below:

As we saw before, when we look at the direct costs (i.e., the cost of inventory), The Container Store is in great shape, spending just $0.41 to make a dollar of sales -- way below its competitors.

But when we get to selling, general, and administrative expenses (which includes the cost of The Container Store's employees), we see the story flipped on its head. You'll notice that The Container Store spends more on these costs than it does on the actual stuff that you're buying. Compare that to Wal-Mart and Amazon, which spend about four times as much on the products as they do on the people, rent, and marketing-type costs. Even Bed Bath, and Beyond comes in at two-and-a-half times.

So, when we add together the direct costs and the SG&A costs, we see that The Container Store's direct cost advantage is largely gone. In fact, Bed Bath & Beyond actually ends up spending $0.02 less per sales dollar ($0.86 vs. $0.88).

Said another way, The Container Store is able to charge large mark-ups on its merchandise thanks to its exclusive items, its ability to cross-sell and up-sell customers, and the perceived value of what customers are getting from The Container Store experience. But much of this margin advantage is spent compensating its people.

You can see this disparity if you go onto Glassdoor and check out its full-time sales floor positions. The Container Store is routinely above $12 an hour vs. in the eights and nines for Bed Bath & Beyond, Target, and Wal-Mart.

As the Philadelphia Business Journal puts it, "Employees are paid at least 50 percent more than the average for the retail industry -- in some cases, double."

Consistent with that pay scale, when The Container Store went public, it wasn't just the C-suite and private equity folks that got paid. All employees with over two years of service got stock options (1,100 employees total). The hit for this fiscal year was $14.6 million, with $1.1 million going forward based on all options outstanding right now.

None of this would be a big issue, except that The Container Store has been unprofitable. In the trailing 12 months, it posted an $8 million loss.

There are mitigating circumstances (there always are, right?):

  • The aforementioned $14.6 million stock option hit as well as other expenses related to the IPO this fiscal year.
  • New store pre-opening costs of $6.8 million that hit the income statement are investments in the future, not ongoing margin dings.
  • The elfa unit has had significant goodwill and intangible asset writedowns and restructuring charges over the last few years, including about $18 million worth in the last 12 months (To anticipate your next question, yes, this gave me pause, but given that the end game for the elfa unit is as a supplier to The Container Store vs. to third parties in Europe, and given that elfa sales at The Container Store are strong and growing, this is a yellow flag for me, not a red flag).

Backing all of that out, The Container Store would swing to profitability. But looking at analyst estimates for next year, profitability is still low enough that The Container Store is sporting a pricey 55 forward P/E ratio. For rough context, at today's stock price, a 55 P/E ratio would result in a profit of $27 million (vs. the $8 million loss it actually posted).

Also, as The Container Store expands, scale should allow it to expand its margins. However, two things trouble me.

First, at this point in its career cycle, Bed Bath and Beyond was quite profitable on a GAAP basis -- no backouts of one-time items necessary.

Second, with The Container Store's focus on compensating its people handsomely, I worry that people costs could largely negate the cost advantages that come with scale.

In other words, my worry is that The Container Store is a benevolent Main Street version of Goldman Sachs. As a former Goldman Sachs partner said: "I determined many years ago that if you want to make money on Wall Street, you work there; you don't invest there. They just pay themselves too well."

It's nice to see a company share the spoils with the folks doing the daily work. It's also very possible for a company to compensate its employees well AND see great returns for its shareholders (see Costco, Whole Foods, and Starbucks). You treat your employees well, they treat the customers well, customers buy lots of stuff from you, you make big profits, and everyone wins.

As a human being, I love what The Container Store is doing with its employee compensation. And I think paying a premium for premium employees can be very smart business. After all, part of the reason The Container Store can make the gross margins it does is because of the store experience created by the employees. That said, as a potential shareholder, I do worry about the possibility of The Container Store going overboard and valuing employee interests over shareholder interests -- even though the folks effectively controlling these decisions are the largest shareholders.

The metric I'll be tracking over time is SG&A costs as a percentage of sales. We saw above that The Container Store is paying about $0.47 per dollar of sales now (and, incidentally, has been paying around that for a few years). If The Container Store is scaling well and doing right by shareholders, we should see that cost come down. If not, it's a red flag.

2. Well-paid, unhappy employees?
I just got done saying that I'm worried The Container Store may go too far in the employee-friendly direction. Yet despite all of management's discussion of employee friendliness and above-market employee compensation, some of the numbers don't quite add up. Glassdoor's employee ratings paint a different picture than management's words. Check out how The Container Store rates versus its competitors:

For a retail enterprise, The Container Store doesn't do badly. Employees like the CEO (Kip Tindell), a majority would recommend the company to a friend, and overall they give it 3.2 stars out of 5. In each category, it trails Amazon and Target, but does better than Wal-Mart, Bed Bath & Beyond, and Crate & Barrel. Still, given all the talk about employees, I'd expect better than middle of the pack.

The numbers look far worse when we compare The Container Store to other customer-facing concepts that are known for treating their employees well. Look at how much it lags Costco, Starbucks, and Whole Foods by, particularly in recommending the company to a friend:

I was a bit surprised by The Container Store's ratings, but I don't want to take these numbers too far -- there's always selection bias in who takes the surveys and nuances we'll miss.

Reading through some of the reviews employees posted on Glassdoor, there were quite a few "drinking the Kool-Aid" type of comments. In other words, the employees who drink the Kool-Aid on The Container Store's philosophy love the company and are happy to go above and beyond while those who don't seem to feel it's all too much even with the extra pay. That's my very, very unscientific guess of a thought. You can take a spin for yourself here.

Bottom line for me is that the disparity between what I'd expect the employees to report and what the employees are actually reporting is a yellow flag. It's a data point I'll have in the back of my mind as I follow this company in the future.

3. The debt danger
Debt isn't always a bad idea. 

Used in moderation and wisely (e.g., locking in fixed interest rates in a low-interest rate environment), debt can do wonders for a company's return on equity.

The Container Store's debt load worries me, though. It has almost $360 million in net debt, which is roughly two times its equity (that's quite high). Its EBIT (earnings before interest and taxes) covers the interest payments on that debt just 1.6 times (that's quite low).

Adding to my concern, despite being refinanced lower in November, the interest on the bulk of the debt remains at a variable rate (LIBOR + 3.25%, with a LIBOR floor of 1.00%). Let me translate that. LIBOR is currently below 1%, so The Container Store has a little wiggle room before any interest rate rises would affect it. But after that, every 1 percentage point rise in interest rates would increase The Container Store's interest payments in the neighborhood of $3 million-$4 million per year, making it that much harder to be meaningfully profitable.

Given the size of its debt load combined with existing covenants on that debt, if interest rates rise or economic conditions worsen, it could be difficult to add more debt beyond its current agreements.

Many a good business has run out of time at the hands of too much debt. My hope is that The Container Store can outgrow or pay down its debt before that happens.

My overall conclusion, and what I'm personally going to do
I am quite torn on The Container Store. I love the idea of getting in early on a focused, holistically thinking company that has the potential to dominate a well-defined niche. The care management takes with each aspect of the business is wonderful. Meanwhile, the monster gross margins can make up for many sins and errors.

That said, we're dealing with a company that has yet to show consistent profitability. That can be cured with scale, but if management and Leonard Green & Partners want to run The Container Store more for the benefit of employees than for the benefit of shareholders (of which they're the largest), there's not much we as minority shareholders can do about it. And The Container Store's massive debt load risks us never seeing The Container Store's promised scale.

The current stock price in the low $30s means we're paying a market cap of around $1.5 billion to $1.6 billion for the promise of The Container Store's future. That translates into paying about two times sales. That's pricey for the retail sector (Bed Bath and Beyond goes for 1.2 times sales) -- at these prices, a good deal of growth and steady-state profitability are baked in.

Still, I like The Container Store's potential enough, and the price is reasonable enough, that I want to buy an initial position. In the coming days, I'll be buying a small number of shares of it in the real-money portfolio I manage for The Motley Fool. Afterwards, I will also be buying a bit personally when our trading rules allow me to do so.

Given its status as a young, newly public company with a large debt load, The Container Store's stock may be volatile, and we could see much lower prices than today's share prices.

Honestly, I kinda hope that happens. If we do see better buying prices, I may not be able to contain myself. 

Another stock idea
I'm bullish on The Container Store, but there are other stocks out there. The Motley Fool's chief investment officer has selected his No. 1 stock for 2014. You can find out which stock it is in the special free report "The Motley Fool's Top Stock for 2014." Just click here to access the report and find out the name of this under-the-radar company.


Read/Post Comments (43) | Recommend This Article (82)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On March 31, 2014, at 1:07 AM, classic216 wrote:

    Whole Food's success proves that there's a lot of high-income people who will pay up for quality.

  • Report this Comment On March 31, 2014, at 1:13 AM, classic216 wrote:

    Compare to Rite Aid; they have $6 billion in debt, also on the border-line of profitability, and that didn't stop their stock from going up a lot over the past two or three years.

    $360 million in debt? if Rite Aid can handle $6 billion the Container Store can handle $360 million.

  • Report this Comment On March 31, 2014, at 6:04 PM, TMFTypeoh wrote:

    Excellent article, and I love the graphics.

    Brian

  • Report this Comment On March 31, 2014, at 7:35 PM, TMFBomb wrote:

    Thanks, Brian!

    Credit for the loveliness of the company comparison graphics go to fellow Fool and design guru Dari Fitzgerald.

    Fool on,

    Anand

  • Report this Comment On March 31, 2014, at 7:42 PM, TMFBWItime wrote:

    Wow. Stellar write up.

  • Report this Comment On March 31, 2014, at 7:59 PM, UkeBill wrote:

    Considered this company.. but, after looking at the prices of their products as compared to both WalMart and Amazon.. I would not shop there.. therefore.. would not currently consider the company.

  • Report this Comment On March 31, 2014, at 8:08 PM, falco wrote:

    Nice article. Well written.

    For employee friendly firms you might google Mondragon Societies. They are co-op in which the employees act as owners one day a year when they elect 1/3rd of the board of directors that hire the firms top officers. The highest paid employee makes only 6 times the lowest paid. Start-up firms have a phenomenal 5 year survival rate. On the whole they earn about 6% more than the competition yearly. I always wanted to be able to invest in one but atlas I would have to be an employee.

  • Report this Comment On March 31, 2014, at 9:37 PM, mikecart1 wrote:

    Great pictures and detailed article. However, I think you pointed out comparisons at Wal-Mart and Amazon.

    I think IKEA is its biggest enemy. IKEA just offers a lot of stuff and some of that stuff is similar to The Container Store.

    Pier 1 Imports is another comparison but one that offers very unique products.

  • Report this Comment On March 31, 2014, at 11:30 PM, strattitarius wrote:

    Excellent article.

    I would agree with management that focusing on proprietary products seems like a great plan. However, I would like to see them bring in more proprietary products at a lower price point. For instance, maybe they have a line of high-quality storage products like your cart, that you admitted could have been better quality. And I am sure there is only so far you can push the envelope on price, but still, high-quality, high margin items that you cannot get easily at other stores is the way to grow the business. This is why they are big on elfa.

    I would also question their ability to support a full container store with full inventory without the full support of a major market. I could see a struggle in smaller markets, but there are well-to-do closet stuffers in small towns.

    Not strong enough for me, but thanks for the excellent read.

  • Report this Comment On April 01, 2014, at 6:57 AM, cmalek wrote:

    @classic216:

    Yes, there certainly is "a lot of high-income people who will pay up" for perceived quality and exclusivity.

    BTW - the current issue of Consumer Reports ranks Whole Foods Market only as #15 in consumer satisfaction based on over 27,000 survey responses. Wegman's, Publix, Hi-Vee, Aldi all were ranked higher than WFM.

  • Report this Comment On April 01, 2014, at 7:02 AM, Lucaskasan wrote:

    A company that sees its employees as assets rather than liabilities is refreshing. I'll give it a looksee.

  • Report this Comment On April 01, 2014, at 7:03 AM, cmalek wrote:

    The Container Store - another retailer going after the yuppie crowd that brags about paying premium prices for Home Depot/Lowe's merchandise.

  • Report this Comment On April 01, 2014, at 9:52 AM, TMFBomb wrote:

    @TMFBWItime,

    Thanks!

    @falco,

    Enjoyed reading about Mondragon Societies.

    @mikecart1,

    Yeah, I mentioned Ikea but couldn't include them in the comp set because, like Crate & Barrel, they're private and don't advertise their financials.

    The Container Store doesn't specifically mention them as a primary competitor, but they certainly are one. I do wonder if Ikea's demographics skew younger than The Container Store's.

    @strattitarius,

    Agreeing that that's an opportunity to increase exclusivity further. Over half of TCS's sales are via exclusive products. That includes their owned elfa line but it also includes items from their close suppliers. Reading between the lines, my guess is that many of these smaller suppliers rely heavily on The Container Store.

    I'm sure The Container Store could pull a Wal-Mart or Amazon and squeeze these suppliers or threaten to produce competing products in-house, but that's not their style. I can't quibble when you're close to 60% in gross margins.

    @cmalek,

    I'm not sure if you're "yuppie crowd" comment is a dig, a reason to like The Container Store (higher margins), or both!

    Thanks for reading everyone and Fool on,

    Anand

  • Report this Comment On April 01, 2014, at 11:50 AM, Merckman08 wrote:

    This was a very well-written article. Really liked the graphics. For me the bottom line is that the stock(so far) is a loser. Run the numbers and you will see that TCS is down 30% since David Gardner first recommended it in Stock Advisor. As you pointed out, there are many strong competitors. They are not price competitive with Amazon or Target. The employee surveys look disappointing,

  • Report this Comment On April 01, 2014, at 6:24 PM, grandpa1 wrote:

    Several things bother me.

    As you said-Debt and its variable rate & employee ratings. Also, where is the cash and how much do they have? Hard to keep opening stores if you can't pay for them....Why not sell stock and use that to --sorry, they already did that and seemingly stuffed the cash in the majority stockholders pockets. Perhaps they should have paid down some debt, fixed the rate on the rest and shown a profit. Nothing inspires stockholders and prospective stockholders like profit.

    I love the store, the retail people, the idea. It's real life that worries me.

    I appreciate your work in writing this article, it is easy to see you spent a lot of effort on it. Thank you.

  • Report this Comment On April 01, 2014, at 9:04 PM, TMFBomb wrote:

    @grandpa1,

    Thanks, it was fun to research and write.

    The cash from the initial public offering was used to pay off preferred stock...in other words, as you say, it "stuffed the cash in the majority stockholders pockets." There was some extra that was used to pay down some of the debt, but overall debt's gone up over time.

    That $360 million of debt is net debt...in other words total debt minus cash...their cash is about $11 million. The Container Store does pump out cash flow that it uses to fund its expansions. My issue with the debt is the variable nature of it and its ability to kill a good business prematurely if times get tough.

    -Anand

  • Report this Comment On April 03, 2014, at 9:16 AM, solwiz wrote:

    I consider myself squarely in the demographic that CS wants to sell to, I find their stuff too expensive for the value it gives. As an investor, however, the numbers are enticing. I like the fact that they pay their employees well (I will neither shop at nor invest in Wal-mart). Your article was well researched and gave me lots to consider. One thing: I am always leery of recent IPOs. Let the pot (the company) simmer a while and see how the flavors meld.

  • Report this Comment On April 03, 2014, at 11:09 AM, TMFBomb wrote:

    @solwiz,

    I share your general wariness on recent IPOs...there's no need to rush...if it's a great company, it'll be around for a long time.

    The Container Store has been around for more than three decades, but it's still a small concept with a lot of potential growing pains ahead of it. My compromise with myself is to buy a small position now while still keeping it on my radar for either better prices or signs of additional success.

    Good luck and Fool on,

    Anand

  • Report this Comment On April 04, 2014, at 8:25 AM, allenrodger wrote:

    Very informative post i like it

  • Report this Comment On April 04, 2014, at 9:34 AM, Fillymignon wrote:

    Hello Anand,

    Great analysis...a very complete picture, easy to understand, and very fair and objective in tone. Look forward to reading more of your posts!

  • Report this Comment On April 04, 2014, at 1:58 PM, hveagle wrote:

    I like the company; not crazy about the stock; love the article.

  • Report this Comment On April 04, 2014, at 5:04 PM, hokiebigdog wrote:

    Anand,

    Why in the world do you have all your tall bottle cleaners turned to the side on the bottom row and your compact stuff on the top row? Get married now! Great write up!

  • Report this Comment On April 04, 2014, at 5:28 PM, Torree123 wrote:

    Don't know a lot about this stock but the thing that stands in my mind..the thing that contrasts this company with companies like Amazon, Costco ...companies with seemingly unlimited potential is this.

    My wife and I go to Costco at least once a week. Why because we have to replace what we used up. In the case of the container store, how many times would/could a loyal customer shop at the store. You can only do so much with storage. Yes it has great margins. It better have great margins because the container store spends a lot on employees but customers only need to come in twice a year (i don't know anything about customer frequency but it can't be as often the number of times I go to Costco each month). I would rather have great/loyal employees with customers who need to come in once a week to leverage all this good training. I can understand how profits might be a problem. You have highly trained well paid employees who add great value for the customer...who does not come back for 6 months. Just don't see how the sale of containers via brick and mortar business model can generate sales that have huge upside. Winging it a bit here but those are my initial thoughts. Welcome any counter arguments.

  • Report this Comment On April 05, 2014, at 7:52 PM, rhines81 wrote:

    Buy stock in Elfa ... not The Container Store. It seems to be their only concentrated product line. They are a distributor.

    This is putting a ton of faith in someone that just distributes what someone else makes. What if a Walmart started talking to Elfa about their products and worked out a better deal for everyone.... where does that leave the Container Store? Think about it. They are just a high mark-up distributor, nothing else! Nothing to see here, move along!

  • Report this Comment On April 06, 2014, at 12:28 AM, donzorco wrote:

    The Container Store owns Elfa...

  • Report this Comment On April 06, 2014, at 12:27 PM, BkRedwood wrote:

    A retail stock has to stir passions in me, or someone I know, before I buy. Costco, and now Amazon, are stores I am passionate about.

    On the other hand, in the case of Container Store, everything I've bought from them has been in some way disappointing: it was expensive, so I expected it to last, but instead it broke, or was poorly designed in some crucial respect. I mean everything. Their great warranty is no substitute for reliability and great design because who wants to take stuff back?

    I am also suspicious of how much rent they are paying. The stores are huge.

    So I see it as a place you're drawn to once or twice because it's a cute idea, and you need to de-clutter, and then maybe you get ideas there, and then you realize you've purchased junk, and you fill your needs elsewhere, like Costco or Amazon.

  • Report this Comment On April 06, 2014, at 4:08 PM, TMFBomb wrote:

    @Fillymignon, allenrodger, and hveagle,

    Thanks for the kind words!

    @hokiebigdog,

    Heh, actually I am married! Here's the backstory...we rent out the basement of our house. The laundry room is communal...as the landlord, we have the luxury of using the top row of the cart. That's why it's not ordered based on size.

    @Torree123 and BkRedwood,

    Interesting thoughts. Yes, even dedicated customers won't be hitting The Container Store as often as they do staples-providing stores like Costco and Amazon.

    Of course, at the other extreme, folks only visit a car dealership or a real estate agent once every few years...

    If The Container Store can maintain high margins and continue raising its average customer ticket, I think it can do just fine.

    It comes down to scaling of costs...which include the rents and people costs. And, as I noted in the article, that's something investors (and potential investors) will have to keep close tabs on.

    Fool on,

    Anand

  • Report this Comment On April 06, 2014, at 9:02 PM, metafool wrote:

    Anand,

    good thorough research.

    have you shown this work to David Gardner? He had a buy recommendation on TCS and unfortunately I acted on it. $15K in hole!

  • Report this Comment On April 06, 2014, at 9:59 PM, TMFBomb wrote:

    @metafool,

    I'm sorry that you're down on your Container Store position (so far, at least).

    Hopefully you've bought more than one of David Gardner's recommendations because his picks work best as a portfolio. David picks high-potential stocks knowing that many will lose to the market...but that the ones that beat the market can do so so thoroughly that they more than make up for the losers (a stock that goes up 10-fold more than makes up for a few that fall)...which is why he rarely sells.

    In addition to his stock-picking ability, I remain in awe of David's investing framework and temperament. His often counterintuitive ideas have challenged and changed a lot of the ways I personally invest...including grasping the power of the concept in the paragraph above.

    Before his lessons sunk in, I would chronically underestimate the potential in a company like The Container Store. In fact, if not for those learnings, I probably would have written off The Container Store long before I did enough research to write this article.

    Fool on,

    Anand

  • Report this Comment On April 07, 2014, at 7:22 AM, rhaltunen wrote:

    I was going to buy the stock until I thought it through a little more. If The Container Store pays it's employee's as much as advertised, I just don't see how the margins will ever be very good. Yes, it's great for the folks who work there and it's great publicity. As for the shareholders, however, its probably going to hold the share price back from what it could be if they paid minimum wage.

  • Report this Comment On April 07, 2014, at 8:08 AM, jds47 wrote:

    I like The Container Store also. Don't shop there much since there is not one nearby. But I originally bought the stock (didn't really think it through enough) but sold it when I realized it was wildly expensive. I would be happy to buy the stock at what appeared to be a reasonable price.

  • Report this Comment On April 07, 2014, at 10:54 AM, TMFJebbo wrote:

    The first thing I thought of was the picture of your "organized" storage rack. Sure, everything was in one place, but you could have accomplished the same thing using a cardboard box.

    However, your article was well written and presented!

    Thanks.

  • Report this Comment On April 08, 2014, at 2:01 PM, TMFBomb wrote:

    @TMF Jebbo,

    Try getting a cardboard box storage solution approved by my wife. :)

    By the way, really enjoyed reading the story of your financial history on your profile...thanks for sharing!

    Fool on,

    Anand

  • Report this Comment On April 09, 2014, at 2:43 PM, dcgatlanta wrote:

    Thanks for the good write-up. I think the employee cost issue is being overstated. $12 per hour isn't exactly Goldman Sachs money, ans as long as a PE firm is a significant owner, employees interests will greatly trail PE owners interests.

  • Report this Comment On April 09, 2014, at 3:31 PM, TMFBomb wrote:

    @dcgatlanta,

    It's nowhere near Goldman Sachs money, but it's all in relation to the money you're bringing in...50% more than competing retailers is still a lot to make up. And, yeah, although I don't know too much about Leonard Green & Partners, my hope is that the private equity money and the interests of management find that happy medium where both employees and shareholders win. If I didn't believe that, I wouldn't have concluded on the "buy" side.

    Fool on,

    Anand

  • Report this Comment On April 10, 2014, at 4:51 PM, Denver52 wrote:

    Anand, thanks for such a thorough write-up. I started a position in TCS in December; kept it small because I've never bought a company so close to its IPO. I will study this carefully and consider whether to add now that the stock is down.

  • Report this Comment On April 16, 2014, at 3:30 PM, celuthi wrote:

    Very informative, helpful, and pithy article. Thank you!

    -Chris

  • Report this Comment On April 20, 2014, at 1:38 AM, FrankoJames wrote:

    I think that a hammer from Thor and/or a company like Target (TGT) could hinder the long-term prospects of TCS, Good luck.

  • Report this Comment On April 21, 2014, at 8:37 AM, BHIGdiplomat wrote:

    My daughter works for TCS part-time. They provide health care benefits for her. After one year she was eligible to participate in the 401(k). She used her savings to buy 100 shares of the IPO. She loves working for them and tried to get on with them full-time. Once she found a full-time job she kept her TCS job because the benefits were so good.

  • Report this Comment On April 22, 2014, at 9:24 AM, Tuxster12345 wrote:

    Sorry, but this company doesn't pass the What-Would-Warren-Buffet-Do test.

    I'll pass.

  • Report this Comment On April 29, 2014, at 7:15 PM, FrankoJames wrote:

    No, but IKEA could purchase this company and move towards plastic rather than Polish wood.

  • Report this Comment On July 05, 2014, at 11:42 PM, Trublutopaz wrote:

    I have to disclose that I worked for TCS back when they had only three DFW area locations. I also know many who still work for the company and while they put on a good show, it isn't a store that one would shop at repeatedly. I mean, once you've redone your closets, you aren't going to do that again for years. So repeat business on that level is limited. They do have innovative products...at a cost. It's interesting how they have veered from Garrett Boone's desire to keep the stock line limited to just containers. In many ways that's made TCS more versatile, but also more conflicted. I shopped at the Frisco location recently and while I found a few items that fit my needs, most items could be bought in other stores for less. Why spend ten bucks on a storage box when you can get it for five at Walmart? As to the way employees are treated-that is a mixed bag. If you go to GlassDoor.com you will read a litany of promises made and broken. Back in the day, Kip liked to contend that he would hire college educated smart employees to fill positions and compensate them accordingly. Too often those types of jobs came with unworkable, unpredictable schedules and a type of rah rah company attitude that smacks of brainwashing. I'm sure TCS will continue to find its niche until someone builds a website that makes the same product available for less. But when that happens, the extensive sensibilities of the company administrations will have to be scaled back in order for them to survive.

  • Report this Comment On July 23, 2014, at 12:55 PM, etbob1 wrote:

    Adumb Foulstain is a PETA. File on display!

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