Department stores are at the epicenter of a sea change in the retail landscape. As technology-fueled shopping trends continue to adapt at a ferocious clip, traditional brick-and-mortar stores have been forced to either make quick business-plan changes, or perish. We have certainly seen examples of both. In this latest earnings season, though, department stores largely surpassed Wall Street analyst expectations. One of the strongest outperformers is one of the sleepier, smaller chains -- Dillard's (NYSE:DDS). The company has strong growth on the horizon and trades at a discount to some of its peers. Here's what you need to know for this quiet retail outperformer.
Bucking the trend
Starting last year, Dillard's began a conversion to anti-Street-friendly actions -- it stopped reporting monthly comparable sales figures, and it no longer provides a quarterly conference call to investors and analysts. While some may find these moves as not being shareholder-friendly, I welcome the defiant behavior. Mr. Market seems to be OK with it as well, as the stock climbed more than 27% in the past 12 months. So how is this company outperforming its sector (and the market at large) while not feeding in to the typical market nonsense? By letting the numbers speak for themselves.
The Little Rock, Ark.-based company had a stellar fourth quarter. Some of the highlights include a 30% bump in earnings per share from the year-ago quarter to an adjusted $2.87 per share. GAAP earnings per share came in at $3.36. The GAAP number includes three one-timers -- a $0.14-per-share after-tax gain related to a real estate sale, a $0.02-per-share store-closing charge, and a $0.38-per-share one-time tax benefit. Still, the adjusted-for-one-timers number is a record fourth quarter for the company. Comparable sales for the quarter were up 3%, marking the 10th consecutive quarter of comparable sales growth. Gross margins grew by 40 basis points, helping bring cash flow for the quarter to $522.7 million from just over $501 million in the year-ago quarter. That led the company to declare a special $5.00-per-share dividend.
On an annual basis, things looked even better. Adjusted earnings came in at $6.32 per share, a 50% premium to 2011's number and a company record. Net sales came in at $6.593 billion, up from $6.264 billion the year before.
Throughout the year, the company bought back 2.8 million shares at an average price of $65.82. While Warren Buffett typically warns of share buybacks at too high a price, this buyback appears to have enhanced shareholder value. Dillard's has an additional $92 million repurchase allotment remaining.
Dillard's currently has 302 department and closeout stores. In the first quarter of this year, the company has closed a 94,000-square-foot store in Utah as part of its consolidation effort.
Clearly, the company was able to shine even in a tepid retail environment, where many specialty stores struggled. Department stores in general remain an endangered species, with companies such as J.C. Penney (NYSE:JCP) knee-deep in a transformation in an effort to stay alive. What makes Dillard's a winning store?
Consolidation and smart merchandising
At the end of January 2010, Dillard's had 309 stores. At the end of 2008, the company had 328 stores. Today, at 302 stores, the company has shrunk by 8%. Since March 2008, the stock has risen 340%. These two things are not unrelated, and they confirm the idea of many an investor that department stores today are essentially real estate companies -- valuable real estate companies. Dillard's management wisely acknowledged the changes in the industry, and instead of spending billions upon billions trying to make the stores a cool place to hang, they brought down the scope of the business to match demand. This meant (and continues to mean) big gains from real estate sales, and lowered operating costs.
On top of that, the company wised up its merchandising. Dillard's strives to offer limited-distribution lines that are more difficult to find than widely recognized, popular national brands. The company also drifted toward more fast-fashion inventory strategies, drawing in immediate feedback from stores to dictate inventory management. That helped prop up sales while the company consolidated the overall business.
How did Dillard's luck out with such a top-notch management team? For one thing, the company has largely been kept in the family. William Dillard II, CEO, owns nearly 1 million shares, with two other Dillard family members owning another 1.4 million. Together, that gives the Dillard family a 5% position in the nearly $4 billion company. Dillard's has always been a family business, and it looks as if the family wants to keep it that way in the near future.
Risks and valuation
The risks to the company are those inherent to the department-store business -- shifting consumer sentiment toward online retailers and niche design shops. The company is expecting 10% earnings growth for the coming year, so we shouldn't anticipate any major retraction, barring another economic meltdown. The company will probably continue to selectively reduce store count, pay down debt, and improve the operating side of the business.
Dillard's has $2.28 billion in real estate, as of the last quarter. Coupled with the company's cash, inventory, and short-term holdings, that gives us today's value of $3.8 billion -- with no operating business growth factored in. Return on assets is over 8%, and the company is trading at just over 10 times forward earnings. This is certainly a premium to money-bleeding J.C. Penney, and slightly more expensive than Macy's at 9.49, but Macy's isn't performing as strongly, nor does it anticipate the kind of growth Dillard's is expecting.
For those who believe department stores don't have to fade into the night, Dillard's remains an attractive real estate play with limited downside potential in the near future.