Big Lots, Fred's, or Five Below: Which Is the Best Investment?

Reading about the struggles of retailers this past holiday season may leave you wondering whether to invest in the sector at all. However, when consumers struggle they may flock to companies like closeout retailer Big Lots (NYSE: BIG  ) , general merchandise and pharmacy chain  Fred's (NASDAQ: FRED  ) , or teen-focused dollar store chain Five Below (NASDAQ: FIVE  ) . Let's take a look at the fundamentals of these companies to see if they generate enough revenue and cash to maintain a good balance sheet. A company can't stay in business for long if it can't generate cash and save some of it for a rainy day.

Big Lots slides

Big Lots classifies itself as a "closeout retailer." The company purchases merchandise left over due to obsolescence, new packaging, liquidation, order cancellations, etc. As of Feb. 1, 2014, Big Lots operated 1,570 stores. Like most brick-and-mortar retailers, Big Lots struggled in 2013, experiencing a decline in same-store sales of 2.7%. Revenue, net income, and free cash flow also declined 1%, 29%, and 33%, respectively.

Negative consumer response to Big Lots' electronics and accessories offerings contributed heavily to Big Lots' retraction in overall revenue. Increased selling, administrative and depreciation expenses contributed to the decline in net income. Income tax payments and the timing of payments to vendors and suppliers contributed to the decline in Big Lots' free cash flow.  Looking toward the company's balance sheet, its $68 million in cash equated to a small 8% of stockholder's equity. However, the company possesses little debt, with long-term debt coming in at only 9% in 2013. Its operating income exceeded interest expense a comfortable 57 times. 

Fred's struggles
Fred's and its franchisees operate 704  general merchandise stores mostly in the southeastern United States, of which approximately 356  come complete with pharmacies. A typical Fred's possesses selling space of less than 15,000 square feet and operates in a town with a population of fewer than 15,000 people. The company reported a comparable-store sales increase of 0.6% when adjusted for the varying weeks in its fiscal year.  Overall, Fred's reported a decline in revenue and net income of 1% and 12% respectively in 2013;  however, its free cash flow increased 107% last year .

Bad weather and lower general merchandise sales contributed heavily to the sales decline for the year. In addition, a LIFO inventory charge taken due to merchandising strategy shifts made a huge negative impact on the company's net income. Lower capital expenditures and huge dispositions of plant, property, and equipment contributed heavily to the gains in Fred's free cash flow. Looking at the company's balance sheet, its $6.7 million in cash equates to 1% of stockholder's equity. However, its long-term debt-to-equity came in at less than 1%. Its operating income exceeded interest expense by 80 times. Last year the company paid out 22% of its free cash flow in dividends. Currently Fred's pays shareholders $0.24 per share per year and yields 1.3% annually.

Five Below growing 

Five Below sells merchandise to the pre-teen and teen customer at a price point of $5 or below. In 2013, the company reported comparable-store sales increases of 4%. Revenue and net income increased 28% and 61%, respectively, last year; however, free cash flow declined 30% during that time. The company is definitely in a growth phase. Most of the increases in revenue and net income came from the opening of 60 stores in 2013. Increased capital expenditures due to investment in store openings contributed to the decline in free cash flow. As is typical for a company in this phase of development, Five Below possesses an excellent balance sheet. Its $50 million in cash makes up 43% of stockholder's equity with no long-term debt.  Currently, the company pays no dividend as it gives preference to investing in business expansion.

What lies ahead?
Big Lots plans on focusing on its core consumer, which the company has personified as "Jennifer." Also, the company's rollout of freezers and refrigerators for the purpose of selling close-out frozen-food and refrigerated items should prove interesting for Big Lots. 

Fred's is pursuing "strategic opportunities" including the possible sale of the company. Its shareholders could benefit from a price spike if a bid offer from an acquiring company is made. However, its struggles are likely to continue and new investors might be wise to take their investment dollars elsewhere.

Five Below represents the best investment choice here. It wants to expand its store base from the current 304 to 2,000 stores over time. Its strong comparable-store sales and excellent balance sheet should serve as a good foundation on which to grow. However, keep in mind that this company currently trades at 64 times earnings, so expect stock price volatility and look to buy when the price dips, if possible. 

Better than the best
Just like Five Below, other intriguing investment opportunities lie in wait. If you thought the iPod, the iPhone, and the iPad were amazing, just wait until you see this. One hundred of Apple's top engineers are busy building one in a secret lab. And an ABI Research report predicts 485 million of them could be sold over the next decade. But you can invest in it right now... for just a fraction of the price of AAPL stock. Click here to get the full story in this eye-opening new report.

 


Read/Post Comments (0) | Recommend This Article (3)

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.

Be the first one to comment on this article.

Sponsored Links

Leaked: Apple's Next Smart Device
(Warning, it may shock you)
The secret is out... experts are predicting 458 million of these types of devices will be sold per year. 1 hyper-growth company stands to rake in maximum profit - and it's NOT Apple. Show me Apple's new smart gizmo!

DocumentId: 2950268, ~/Articles/ArticleHandler.aspx, 12/22/2014 12:55:02 AM

Report This Comment

Use this area to report a comment that you believe is in violation of the community guidelines. Our team will review the entry and take any appropriate action.

Sending report...


Advertisement