Can Big Lots Finally Deliver Big Returns?

Despite solid momentum for the off-price retail industry, evidenced by growing franchises at TJX Companies (NYSE: TJX  ) and Ross Stores (NASDAQ: ROST  ) , closeout pioneer Big Lots (NYSE: BIG  ) has been relatively stuck in the muck, reporting a cumulative sales increase of only 14% over the past five years.  As one might expect, the lack of growth has affected the company's stock price, which has severely underperformed its named competitors.

Source:  Yahoo Finance

However, Big Lots share price finally caught some air recently, popping a double-digit amount in early March after the company disclosed a better-than-expected profit performance in its latest quarterly financial update.  So, is Big Lots a good bet at current prices?

What's the value?
Big Lots is one of the nation's largest closeout retailers, operating a network of more than 1,500 stores that stretch from coast to coast.  While the company has been consistently profitable across business cycles, it has had trouble enlarging its customer base, likely due to rising competition in the deep-discount business from the off-price retailers, as well as from the so-called dollar stores.  The result for Big Lots has been generally weak sales growth and relatively inefficient stores, evidenced by average sales per square foot in its network of stores that is dramatically below that of the aforementioned off-price retailers.

Despite the better-than-expected results in the latest fiscal quarter, Big Lots posted fairly lackluster results for the full year in 2013. Results were highlighted by a 1.2% decline in overall sales, continued weakness in comparable-store sales, and management's decision to close its Canadian operations.  More notably, the company's profitability was negatively affected by greater inventory markdowns and higher costs from its ongoing merchandise repositioning efforts. Consequently, Big Lots generated lower operating cash flow compared to the prior year, which hurt its ability to invest in growth initiatives, like its push to install freezers and coolers in most of its stores -- part of a plan to gain more sales from customers that participate in government support programs.

Looking into the crystal ball
Unfortunately, 2014 isn't shaping up to be a growth year for Big Lots. Management is forecasting a modest reduction in the company's overall store base and a slight decrease in its operating cash flow after adjusting for final costs of the exit from the Canadian market.  As such, there seems to be little overall momentum for Big Lots, which means that investors should probably turn their attention to the deep-discount players that are manufacturing sales growth in the current retail environment, like TJX.

The kingpin of the off-price retail sector seems to get stronger each year, recently upping its long-term goal for its global store base to 5,000 from the mid-4,000s.  TJX also seems to have an unwavering commitment to productivity improvements, reporting its fifth-straight year of operating margin expansion in its latest fiscal year, a stark contrast to Big Lots' margin contraction.

Not surprisingly, TJX generated solid financial results during the period, highlighted by a 6% top-line gain that was a function of comparable-store sales gains and expansion at each of its business units.  More importantly, the aforementioned improved profitability continued to drive strong cash flow, which is funding the company's growth strategy, including a greater presence in the online world.

Meanwhile, a similar picture is being painted at competitor Ross Stores, which posted results in fiscal 2013 that were a virtual carbon copy of TJX's results. A 5.2% top-line gain was similarly aided by higher comparable-store sales and an expansion of its store base.  Like TJX, Ross continues to benefit from an increasingly larger stream of customers, something that is missing from Big Lots' story. The trend makes Ross Stores' locations more productive each year and funds its growth ambitions, including an expected 75% increase of its store base over the long run.

The bottom line
Mr. Market may have liked Big Lots' latest financial update, but without an influx of new customers into its stores, there seems to be little to drive sustainable profit growth and higher shareholder value for the company. As such, investors should take a pass on this closeout leader in favor of the off-price dynamos, TJX and Ross Stores.

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