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Why I'm Holding Five Below Stock No Matter How Bad Today Got

By Jon Quast - Mar 13, 2020 at 7:40AM

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In a worst-case scenario, isn't Five Below actually the kind of retail stock you'd want to own anyway?

Just one month ago, I revealed five reasons why I bought shares of Five Below (FIVE -1.39%). At the time, I was riding high, as I enjoyed a quick 20% pop in the stock price. But since then, things have gotten volatile on Wall Street.

Really volatile.

The S&P 500 is down nearly 27% over the last month, and Five Below is down over 38% over the same timeframe. It's also down about 51% from 52-week highs set last April.

I hate seeing my investments go down just as much as anyone else. But here's why I'm holding my Five Below stock through this financial storm.

Five Below employee stands in store.

Image source: Five Below.

The headline issues don't really apply to Five Below

There are two major headline issues driving stock prices lower. The first is the rapid spread of COVID-19, the disease which is caused by the coronavirus. That spread and the world's reaction to it is disrupting major industries such as travel, dining, and manufacturing. The second is the rapid decline in oil prices, as Saudi Arabia and Russia engage in a price war. Neither issue directly affects Five Below, at least not yet.

Several consumer goods companies have come out in recent weeks, announcing the adverse effects the novel coronavirus outbreak will have on earnings. Look closely and you'll see a theme. Most of these companies, like Starbucks and Disney, are international empires -- giving them higher exposure to regions of the world with the highest concentration of COVID-19 cases. Five Below, on the other hand, only operates in the United States, where we still don't know what the longer-term effects on consumer spending will be. And Five Below has yet to give a coronavirus update, implying there's nothing worth updating right now.

Granted, Five Below does source many of its products from China. Remember that the (now almost forgotten) trade war between the U.S. and China already had the company develop a tariff mitigation strategy. As it relates to the coronavirus, the data does show that shipments from China have dropped, and more than expected. That could be a problem for Five Below if it can't keep enough products on the shelves. But the data also shows that exports from China should return to normal in the coming months.

If a recession comes

In a worst-case scenario for the economy, the effects of COVID-19 would linger and throw the entire economy into a coronavirus-sparked recession. In that worst-case scenario, what better kind of retailer to own than a discount retailer like Five Below? 

During the Great Recession of 2008-09, Five Below was just a fledgling company with less than 100 locations -- only 67 at the end of 2007. During 2008 and 2009, it opened 15 and 20 new locations respectively to take its total to 102 locations at the end of 2009 -- good for 22% and 24% annual unit growth. However, net sales far outpaced unit growth during those years. Net sales grew 35% in 2008 and a whopping 40% in 2009.

Simply put, Five Below has gone through an economic recession before, and it turned out to be a great retail business to be in. Logically, when shoppers have a cash crunch, discount retailers win.

Five Below currently has around 900 locations, with plans to grow to 2,500. In the coming year, unit growth will likely remain close to 20%. That being the case, I wouldn't be surprised to see the company continuing to deliver its goal of 20% annual revenue growth and 20% net income growth.

Nothing changed

Perhaps the most important reason why I'm holding Five Below in this market is because nothing material has changed in my investing thesis regarding this company. It can be the hardest thing to remember, but a short-term movement in a stock's price per share isn't a reason to buy or sell.

What's an example of a material part of my investment thesis? Consider that Five Below's margins should improve in the next couple of years. Right now, it's building a new Texas distribution center -- a costly move but necessary to fuel the company's westward expansion aspirations.

Between the newly opened distribution center in Georgia, the future Texas one, and store openings and remodels, capital expenditures in 2019 are expected to come in at $210 million -- about 11% of sales. That should mitigate going forward, boosting Five Below's profitability. That outlook didn't change with any of the recent headlines driving fear on Wall Street.

All told, I'm willing to hold my shares in Five Below even though they're down. The company has an extensive history of growing both revenue and net earnings, and it has a long growth runway and is investing in that growth. That's the kind of company I want to own.

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