Shares of Bed Bath & Beyond (NASDAQ:BBBY) have soared over the past year, bucking the trend experienced by many brick-and-mortar retailers. Investors have been growing steadily more optimistic that new CEO Mark Tritton -- who took the helm in late 2019 -- will be able to change the company's fortunes following years of stagnant sales and margin erosion.
Last week, Tritton and his management team finally laid out a comprehensive turnaround plan for the iconic retailer. The plan seems very sensible and should drive improved performance relative to Bed Bath & Beyond's dismal pre-pandemic trajectory. However, it's not clear yet whether these moves will be enough to offset the competitive headwinds the company faces.
Refining the value proposition
One big change Bed Bath & Beyond revealed at its virtual investor day is that it is aggressively addressing customer perceptions that it is overpriced.
First, it is reducing prices on national brands in certain categories to be more competitive with discounters and e-commerce retailers. Second, it will launch more than 10 new private-label brands in key merchandise categories. These private brands will mainly compete in lower price tiers than Bed Bath & Beyond's current assortment. In the kitchen category, for example, the company estimates that 64% of total consumer spending is in "opening price point" and "good" price tiers that Bed Bath & Beyond doesn't serve today.
Management hopes that these changes will bring in new customers and boost sales without hurting gross margin. In fact, Bed Bath & Beyond projects that private-label products could account for 30% or more of sales by 2023, up from around 10% today. Meanwhile, the company -- long known for its ubiquitous 20% off coupons -- plans to cut back on promotions, many of which have proven to be ineffective.
Becoming a compelling shopping destination
A second part of Bed Bath & Beyond's new strategy entails making its stores and website more engaging and easier to shop. The company is decluttering its stores, which have historically been stocked with far too much inventory, too many similar choices in some categories, and too many underperforming brands.
Importantly, Bed Bath & Beyond will renovate many stores to present merchandise in "rooms" that display complementary products, rather than having (for example) one area for sheets, one for pillows, one for comforters, etc. The company will also implement similar changes to how it merchandises products on its website.
A third leg of Bed Bath & Beyond's turnaround plan involves modernizing its operations. Under its prior management team, the company was notorious for penny-pinching and a slow-moving corporate culture. The new management team wants to fix the resulting shortcomings as quickly as possible.
This process began earlier this year. Bed Bath & Beyond has launched buy-online, pickup-in-store (BOPIS), curbside pickup, and same-day delivery options during 2020, responding to the impact of the COVID-19 pandemic on customer behavior.
More recently, Bed Bath & Beyond has been focused on upgrading its website so that it loads faster, is easier to search, and has a simpler checkout experience. It is also working on major enhancements to its mobile app. Meanwhile, the company is upgrading its IT platform and retooling its supply chain to reduce costs and improve reliability.
Is it enough?
To execute its plan, management plans to ramp up capital expenditures to around $400 million annually for the next three years. It believes the company will be able to generate low- to mid-single-digit annual comp sales growth by fiscal 2023, while expanding gross margin to 38% from 33.3% (excluding special items) last year. That would enable it to boost earnings before interest, taxes, depreciation, and amortization (EBITDA) to between $850 million and $1 billion: up from an estimated $500 million or so in fiscal 2021.
In the meantime, Bed Bath & Beyond is rewarding shareholders by resuming its share buyback program, using the proceeds of recent asset sales. (It is also expected to sell the Cost Plus World Market chain in the near future.) Bed Bath & Beyond has entered a $225 million accelerated share repurchase program that will be completed by the end of fiscal 2020 and plans to spend up to $450 million on additional buybacks between fiscal 2021 and fiscal 2023.
If sales and gross margin improve as management hopes, this aggressive buyback program could unlock lots of upside for Bed Bath & Beyond stock. However, even with its efforts to offer greater value and make the shopping experience easier, the retailer may struggle to match rivals like HomeGoods and Target on those measures. While Bed Bath & Beyond's gross margin was around 38% just five years ago, it may need to accept permanently lower margins to keep prices low and thereby avoid market share losses like what it experienced in recent years.
Without the hoped-for margin expansion, Bed Bath & Beyond could fall well short of its 2023 EBITDA target. That would mean far less free cash flow production: certainly not enough to fund the company's planned level of share repurchases. Until the company proves that it can achieve its aggressive sales and margin targets, investors should tread carefully with Bed Bath & Beyond stock.