After Getting Hammered, Is PetSmart a Bargain?

Source: Wikimedia Commons

May 21 was not a good day to own shares in PetSmart (NASDAQ: PETM  ) . After the pet retailer reported revenue that fell short of estimates and forecast a dour outlook for the year, its shares fell more than 8% to close at $57.02. Following such a hard fall, some investors might consider taking stakes in Central Garden & Pet Company (NASDAQ: CENT  ) , but with PetSmart's shares trading 26% below their 52-week high, might now be the best time to jump into the fray?

PetSmart might be at the beginning of a decline!
For the quarter, PetSmart reported revenue of $1.73 billion. Even though this represented a slight improvement over the $1.71 billion it reported in the year-ago quarter, the company still fell short of the $1.77 billion that analysts anticipated. According to the company's earnings release, its sales growth stemmed from a 4% increase in store count but was negatively affected by a 0.6% decline in comparable-store sales.

While there's no denying that PetSmart failed to match analysts' revenue expectations for the quarter, the company did succeed in posting strong profits. For the quarter, earnings per share came in at $1.04, $0.03 higher than what management had forecast and 6% above the $0.98 it posted for the first quarter of 2013. In addition to the benefit from higher revenue, the business chalked its higher profits up to an almost 5% reduction in share count year-over-year.

Source: PetSmart

Moving forward, however, the picture may not be so pretty. If management is accurate in its estimates, PetSmart will likely see earnings per share for the year come in between $4.29 and $4.39, compared to the $4.45 Mr. Market had estimated. This, combined with flat comparable-store sales growth, could be an early indicator that the business might be at the beginning of tougher times.

Is there a better alternative?
For investors who are set on buying a pet-oriented business, PetSmart may be the best bet. Between 2009 and 2013, the company saw sales rise 30% from $5.3 billion to $6.9 billion while Central Garden & Pet's revenue rose just 2% from $1.61 billion to $1.65 billion.

During this five-year period, PetSmart's revenue rose due to two factors; rising store count and higher comparable-store sales. Between 2009 and 2013, the business increased its number of locations in operation by 16% from 1,149 to 1,333 in an effort to expand its business, while aggregate comparable-store sales soared 22.5%.

PETM Revenue (Annual) Chart

PETM Revenue (Annual) data by YCharts

In contrast with PetSmart's attractive performance, Central Garden & Pet has had trouble lately. With approximately 52% of its sales stemming from its pet segment, the company has high exposure to the industry. In spite of this, though, Central Garden & Pet hasn't been very successful in capitalizing on this trend of growing pet sales. Over the past five years, this segment grew its top line by just 7% from $833.2 million to $888.2 million, most of which was driven by things like flea and tick products.

From a profitability perspective, the disparity between the two has been even greater. Between 2009 and 2013, PetSmart saw its net income skyrocket 112% from $198.3 million to $419.5 million as higher sales and lower costs helped push its bottom line up. Over this period, the business saw its cost of goods sold fall from 71.5% of sales to 69.4% while its selling, general, and administrative expenses declined from 21.6% of sales to 20.6%.

PETM Net Income (Annual) Chart

PETM Net Income (Annual) data by YCharts

Central Garden & Pet hasn't been so lucky. Over the past five years, the company's net income of $65.9 million turned into a loss of $1.9 million as higher costs ate up its modest revenue growth. The primary driver behind these problems was the company's cost of goods sold, which jumped from 67.3% of sales to 71.9%. Most of this increase occurred between 2012 and 2013 and the company attributed it to lower flea and tick product sales in 2013, combined with some negative margin trends in its garden operations.

Foolish takeaway
Based on the data provided, it makes sense that Mr. Market would push shares of PetSmart down initially. On top of posting disappointing sales, the business is fairly pessimistic about what its near-term future holds. However, the company's long-term performance has been appealing, especially when stacked up against a company like Central Garden & Pet.

For this reason alone, it's hard to argue that PetSmart is a "bad" investment. While it's probably true that it has limited growth prospects going forward, its strong performance in recent years points to a company that could be a nice prospect for the Foolish investor.

Top dividend stocks for the next decade
One way to protect your portfolio against significant share price declines like the one experienced by PetSmart is to invest in companies that boast strong, stable dividends. While PetSmart does offer investors a dividend, the yield on it pales in comparison to some of the companies out there.

The smartest investors know that dividend stocks simply crush their non-dividend paying counterparts over the long term. That's beyond dispute. They also know that a well-constructed dividend portfolio creates wealth steadily, while still allowing you to sleep like a baby. Knowing how valuable such a portfolio might be, our top analysts put together a report on a group of high-yielding stocks that should be in any income investor's portfolio. To see our free report on these stocks, just click here now.


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