BJ's Wholesale Club (BJ 5.14%) is the third-largest U.S. warehouse club operator by number of locations and revenue. But in the two months since the company's IPO, shares have gained 70% from their $17 IPO price, far outpacing the gains made by Walmart (WMT 2.13%) and Costco (COST 5.65%).
Yet despite the gain, BJ's doesn't have much of a chance to catch up to Costco or Walmart's Sam's Club. It's a much different marketplace than when BJ's was taken private in 2011. And with few growth drivers available to it, this warehouse club looks like it will always be an also-ran.
A lagging financial performance
The biggest problem facing BJ's Wholesale Club might be that it's trying to be neither fish nor fowl. Although it is a member-based warehouse club, like Sam's Club and Costco, it positions itself as something other than a place to buy in bulk. It carries many more grocery stock-keeping units (SKUs), which makes it more like a traditional supermarket than its rivals.
Having a foot in each camp certainly differentiates it, but also greatly expands its range of competitors. And just as military commanders find it difficult to fight wars on two fronts, BJ's hasn't done all that well, either.
Net sales barely grew between fiscal 2013 and fiscal 2017, inching forward just 1.2% to $12.5 billion. Comparable sales inched up just 0.8% last year, following declines in each of the previous four fiscal years. This has led to equally narrow operating profit margins around 1.5%.
In contrast, Costco's annual sales are up 22% since 2013, with an operating margin of 3.2% last year. Sam's Club had revenue of $59.2 billion in 2017, up 5% in five years, but with an operating margin of 1.7%.
At the same time, BJ's Wholesale carries a large debt load of nearly $2 billion, even after using proceeds from its IPO to bolster its balance sheet. As of early August, it had just $31 million of cash on hand.
The grocery business is tough
The supermarket industry is quickly evolving as capabilities like online sales and delivery grow in importance. While BJ's does offer members online ordering and in-store pickup within two hours -- along with same-day delivery -- even the biggest, most advanced chains are still having trouble with the internet revolution.
For example, top traditional supermarket chain Kroger (KR 1.92%) is feeling pressure from Amazon.com, which is using its Whole Foods Market acquisition to take market share by competing on price. Kroger has responded by expanding its own delivery options (including testing the use of autonomous vehicles). Nevertheless, sales were soft in the second quarter, growing just 1%, and Kroger's operating margin narrowed to 2% from 2.5% a year earlier.
Yet even Kroger remains more profitable than BJ's. And as my Motley Fool colleague Adam Levine-Weinberg recently pointed out, BJ's warehouses have exceptionally low sales productivity despite having much smaller square footage. While BJ's is estimated to have sales per square foot of $540, eMarketer pegs Kroger's sales per square foot at $574, and puts Costco at almost twice that level with $1,120 per square foot.
Expansion opportunities may be limited
Because BJ's is smaller and concentrated on the East Coast, primarily in New England, the warehouse club does have opportunities to expand. But the trend among retailers, including supermarkets, has been to shrink their store bases, as well as their store size. BJ's warehouses range from 63,000 square feet to 150,000 square feet in size, but its new club model is 85,000 square feet.
Expansion will be costly for BJ's, and its heavy debt burden will crimp its ability to pay for it. Cash from the IPO could have helped offset those costs somewhat, but it used the proceeds to pay down debt, meaning any growth will have to be funded from internally-generated cash flow.
BJ's Wholesale Club has had very slow growth, and while it's not a ruinous story by any stretch, it's not offering investors anything special that warrants the quick run-up in value since the IPO.
Despite occupying a very distant third place in the warehouse club industry and having a weaker financial performance than its rivals, BJ's Wholesale Club trades for 23 times its estimated fiscal 2018 earnings. While that represents a discount compared to Costco stock, BJ's is trading at a premium relative to Walmart. That is not something to commend it as a buy.
You might want to buy your groceries there, but you won't find me putting BJ's Wholesale stock in my shopping cart.