Over the past two weeks, a wide variety of retailers have confirmed government statistics indicating that retail sales growth is accelerating in the U.S.
On Thursday afternoon, Ross Stores (NASDAQ:ROST) became the latest retailer to report strong sales and earnings growth for the second quarter of fiscal 2018. The company also raised its full-year guidance. Nevertheless, Ross Stores shares sagged in after-hours trading, as investors compared the results unfavorably to off-price giant TJX Companies' (NYSE:TJX) massive sales and earnings beat.
The initial guidance was mediocre
In the first quarter of fiscal 2018, Ross Stores' earnings per share soared 35% on a 3% comp sales increase. At the time, CEO Barbara Rentler warned that earnings growth would slow in the second quarter due to some expenses that had shifted out of the first quarter.
As a result, Ross Stores' Q2 forecast called for EPS to reach $0.95 to $0.99 -- representing 16% to 21% growth relative to EPS of $0.82 in the prior-year period -- on a 1% to 2% comp sales increase. That said, it wasn't clear what to make of this forecast, because Ross Stores and TJX both routinely offer extremely conservative forecasts that they subsequently beat.
Sales growth accelerates, but earnings growth slows
Ross Stores' forecast did turn out to be quite conservative -- but it was still directionally accurate. Comp sales growth accelerated to a very strong 5% last quarter (in line with my expectations) while total sales rose 8.9% year over year to $3.74 billion. This easily beat the average analyst estimate of $3.66 billion.
On the other hand, the expense increases that management had mentioned a few months ago did put some pressure on Ross Stores' profitability. The company's pre-tax margin contracted by a full percentage point on a year-over-year basis last quarter, although it remained at a very strong 13.9%.
EPS for the quarter came in at $1.04, comfortably ahead of Ross Stores' forecast, as well as the average analyst estimate of $1.01. The 27% year-over-year increase was driven primarily by the impact of a lower tax rate and share repurchases.
Second-half guidance remains conservative
For the second half of the year, Ross Stores expects a comp sales increase of 1% to 2%. This projection builds in the company's typical conservatism. I believe that 4% is a more reasonable estimate of the company's second-half and full-year comp sales growth.
EPS is expected to rise 17% to 22% this quarter, reaching a range of $0.84 to $0.88. Assuming that Ross Stores beats its sales forecast, it will also likely beat this EPS forecast. For the full year, the company has raised its EPS guidance range to $4.01 to $4.10, from $3.92 to $4.05. Analysts were already expecting EPS of $4.08, and that consensus estimate will likely continue to rise based on Ross Stores' second-quarter performance.
The longer-term outlook is quite bright
For most of the past three years, Ross Stores has been reporting stronger sales and EPS growth than TJX, its larger rival. As a result, while TJX stock barely budged between late August of 2015 and the end of 2017, Ross Stores shares soared more than 60% during that period.
Since the beginning of 2018, comp sales growth and EPS growth have accelerated at TJX. Shares of the off-price leader have skyrocketed in response. By contrast, Ross Stores has continued to post strong -- but not quite as spectacular -- growth, so its share price has lagged.
However, there's no reason to fear that Ross Stores is running out of growth opportunities -- or even that its growth will remain slower than that of TJX. In fact, Ross Stores raised its long-term expansion target in conjunction with its earnings report.
Ross Stores now believes it has room to operate 3,000 stores in the U.S.: 2,400 of its namesake Ross Dress for Less stores, plus 600 locations for its lower-price dd's DISCOUNTS chain. It has just 1,680 stores across the two formats today. Ross Stores stock may need to take a breather, having hit a new all-time high ahead of the earnings report on Thursday, but there is still plenty of room for long-term growth.
Adam Levine-Weinberg owns shares of The TJX Companies and is long January 2019 $50 calls on Ross Stores and short January 2019 $90 calls on Ross Stores. The Motley Fool recommends The TJX Companies. The Motley Fool has a disclosure policy.