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Why Are PetSmart's Insiders Selling Big?

By Michael Lewis - Apr 4, 2013 at 3:57PM

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Over 180,000 shares have been sold from company insiders -- near or below today's prices. Do they know something we don't?

Purveyor of all things pet, PetSmart (PETM) delivered a quarterly earnings release last month that evidenced continued expansion, though with a sales forecast slightly lower than hungry analysts demanded. But while near-term prospects may not be up to the Street's expectations, pet spending in general is forecast to continue growing at a nice clip in coming years. As the retailer is the market leader in the industry, things should remain encouraging for it in the long run. With this in mind, it comes as a surprise that since the beginning of this year, insiders have sold more than 186,000 shares -- all at around today's stock price. If the company's executives don't think the stock is worth holding on to at today's price, why should you?

Quarter recap 
The headline numbers from PetSmart's latest earnings report suggest solid annual growth, even amid a tepid macroeconomic environment. Fourth-quarter earnings were up 36% over the year-ago quarter to $1.24 per share, with same-store sales up nearly 5% and total sales up an impressive 15%. For the full year, earnings rose 39% to $3.55 per share based on a total sales increase of 11%.

Investors and analysts would have left satisfied if it weren't for weak guidance for the current year. The company is expecting weaker same-store sales figures (less than the outperforming 6% to 7% growth it had for years), and it prompted a decent sell-off in the stock. Like clockwork, PetSmart bulls chimed in through various Web-based conduits saying that the company is oversold and "undervalued."

As an obsessive pet owner, I will buy outrageously high-quality (read: high-priced) food and $30 pieces of durable rubber to no end -- it's more or less my No. 1 priority. I am well aware that in 2012, pet spending rose above $53 billion -- 5% higher than the prior year and another milestone in the industry's strong multiyear CAGR. And, if I had to guess, I would say PetSmart's executives are well aware of the industry trends as well. So why, then, has a group including the company's CFO been on a major insider-selling spree?

Many reasons 
Here is today's cliche -- there are any number of reasons for insiders to sell stock, but only one reason to buy. This is not to say that the recent sell-off is indicative of frightened or incapable management. It could be something as simple as the CFO deciding to take a cash infusion as part of his options, or maybe he is sending quintuplets to Harvard -- who knows? But given that the sell prices were at or below today's price of roughly $62.63, there is the possibility that insiders don't believe the stock is worth more than that today or in the near future. Furthermore, no insider at PetSmart has purchased stock (not including awards) in the last six  years -- at prices ranging from under $20 to the low $70s.

Maybe the insiders just aren't stock people.

One trend to keep an eye on is the continued push into pet products by other megaretailers -- such as Costco (COST 5.65%). Costco clearly has a tremendous scale advantage over PetSmart, and it could offer those ultra-premium pet-food brands (food represents more than 55% of the industry's sales) at substantial discounts to the specialty retailer. Remember when you discovered you could buy 18 gallons of mayonnaise for the price of two jars at the grocery store? -- the grocery store does.

There is also the threat of the e-tailer, which can provide similar products at lower costs and with greater convenience. Anecdotally, I recently switched my dog-food purchases to a Web-based retailer that delivers automatically every five weeks -- and with no shipping cost. The company hit $1 million in monthly revenue early last year -- 11 months after it launched.

The industry trend is very encouraging, and PetSmart continues to grow at an attractive rate. But be careful of the other forces emerging in this space, and keep in mind that the company insiders, likely its biggest supporters, are seemingly selling every share they get their hands on.

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