Five Below (NASDAQ:FIVE) is a specialty discount retailer targeting a younger demographic. Founded in 2002 and based out of Philadelphia, the company went public in 2012; as of this writing, shares have returned 618% since its IPO, significantly beating the overall market's performance during that timespan.
With the stock having already gained so much over the past few years, investors might think they have missed the boat with Five Below. But that couldn't be further from the truth.
Here are a few reasons why Five Below can succeed over the next decade.
Five Below has a proven business model
Five below, as the name suggests, sells most of its products for $5 or less, similar to how many dollar stores operate. However, unlike other dollar stores, Five Below specifically targets teens, tweens, and children aged 5-19 with its product selection. It has eight different product segments (Tech, Create, Play, Candy, Room, Style, Party, New & Now) that focus on making shopping at its stores something kids enjoy.
On the financial side, since its stores are small (around 9,000 square feet) and typically located in existing shopping centers, it doesn't cost the company much to grow its store base. In fact, management estimates that, on average, new Five Below locations have a payback period of less than one year. This proven model gives it an advantage, allowing the company to grow its store count at a double-digit annual rate without having to take on any debt or dilute shareholders with stock offerings.
Five Below has room for expansion
Five Below ended 2020 with 1,020 stores across 38 states (it doesn't currently have any stores outside the U.S.). It plans to open between 170 and 180 stores in 2021, and long-term it plans to have 2,500 stores. With the ubiquity of its model, investors should expect Five Below stores to eventually be in every state across the U.S.
However, for the time being, management wants to densify in its existing markets. Why? Because the more stores it has within certain geographical areas, the more efficient it can be with its supply chain. This, in turn, will hopefully increase Five Below's operating margins. Once certain areas become saturated with stores over the next few years, management can then focus on expanding to new areas like the Pacific Northwest, where Five Below currently has no presence.
Overall, investors shouldn't worry about Five Below stores reaching a nationwide saturation point anytime soon -- at least not until the store count gets closer to 2,500.
Amazon and Costco can't compete
Since Five Below has a niche offering targeting kids with items that cost $5 or less, giant retailers like Amazon (NASDAQ:AMZN) and Costco (NASDAQ:COST) have trouble competing with it (if they want to compete at all). Both retailers try to serve as wide an audience as possible. Five Below, on the other hand, has focused on a small but lucrative niche. Five Below is also pitched as a quick side trip for parents to take kids to during shopping outings, which again is the opposite of Costco. Five-dollar knick-knacks do not work well in e-commerce, where Amazon and other online retailers focus on getting larger customer orders that can mitigate the cost of delivery. With all these factors considered, there's no reason to believe Five Below will get disrupted by big-box retailers anytime soon, if ever.
At first glance, investors might look at Five Below and think it is nothing special. But once you realize it has a proven model, plenty of room for store growth, and strong competitive positioning vs. the retail giants, the business starts to look a lot more interesting. Even with the stock up over 600% since its IPO, Five Below's business has a lot of room to grow over the next 10 years and beyond.