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Is Five Below Stock a Buy?

By Lawrence Rothman, CFA – Apr 14, 2020 at 7:00AM

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After a sharp drop in the share price, is now the time to jump in?

Retail stocks have taken a beating during the coronavirus pandemic. Five Below's (FIVE 2.68%) shares have not been spared, losing more than 30% since the market's peak in February.

As the company wrestles with uncertainty about the future of in-store traffic -- and without much of an online presence -- is this a value stock or a value trap?

A large, empty parking lot.

Image source: Getty images.

Need to reignite sales growth

Before COVID-19 began to overtake the world, Five Below had been opening new stores at a brisk pace. In fiscal 2018, the company opened 125 net new locations, and in 2019, it added 150, bringing the store total to 900.

However, even then, the company's same-store sales (comps) growth had been slowing. In fiscal 2018, comps were 3.9%, versus the prior year's 6.5%. Last year (fiscal 2019 ended Feb. 1, 2020), it was just 0.6%. The number of transactions decreased, too, which is not a great sign. In the fourth quarter, comps fell by 2.2%, driven by lower traffic, which management blamed on a shorter holiday period. Nonetheless, its holiday sales fell below management's expectations.

Positively, management noted that first-quarter comps through March 11 were up 2.9%, before the World Health Organization declared COVID-19 a pandemic, although there was no breakdown on traffic and spending. The company will certainly need this momentum to continue once stores reopen.

And it's also a positive that management has kept a clean balance sheet. The company ended the year with no debt and nearly $262 million in cash and short-term investments.

Five Below generates about half its sales from its leisure category, which consists of items like sporting goods, games, toys, and books. Theoretically, people will continue buying these items, given the low prices and changing merchandise. In the last recession, management stated it felt the impact early on, although the company's performance started improving well ahead of other retailers.

Five Below's fiscal 2007 and 2008 comps were 5.4% and 5.8%, respectively, and operating losses were $3.3 million and $1.6 million, respectively. Then, fiscal 2009's comps rose 12.1% and the company flipped to a $6.9 million operating income.

Is this a buying opportunity?

So, is now the right time to jump in? I would say this is an opportunity for more venturesome investors. What has to happen for this to pan out? Five Below needs a quick sales acceleration that generates higher profits like what happened in the last recession. It is also updating its supply-chain technology to better manage inventory and forecast demand. If this works as planned, management will be able to anticipate higher demand and beef up inventory.

There is history on Five Below's side, but that's a lot of uncertainty. More risk-averse investors can wait until they see evidence of sales growth and effective inventory management. If you do, then you can jump in.

Lawrence Rothman, CFA has no position in any of the stocks mentioned. The Motley Fool recommends Five Below and recommends the following options: long January 2022 $115 calls on Five Below and short January 2022 $120 calls on Five Below. The Motley Fool has a disclosure policy.

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Stocks Mentioned

Five Below, Inc. Stock Quote
Five Below, Inc.
FIVE
$145.04 (2.68%) $3.79

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