"The middle class is getting squeezed." This refrain has become increasingly common in the U.S. in recent years. Pundits often cite weak sales trends at midprice department stores such as J.C. Penney (OTC:JCPN.Q), Sears Holdings, and even Kohl's (NYSE:KSS) as evidence of middle-class consumers' pain.
However, you wouldn't know that the middle class was in trouble if you just looked at the results of off-price leader TJX (NYSE:TJX). On Wednesday, the company reported a 3% increase in comparable-store sales for fiscal 2014, building on a 7% comparable-store sales gain in the previous fiscal year. Total sales have risen more than 44% in the last five years, to $27.4 billion.
Simply put, while economic factors may be putting pressure on midprice department stores, their biggest problem is the rise of off-price retailers -- particularly TJX. The company's chains (T.J. Maxx, Marshalls, and HomeGoods) offer bargain-hunting consumers a better value proposition than department stores. As a result, TJX will continue to gain share at the expense of its midprice competitors.
Low costs, low prices
One of TJX's key competitive advantages is its low-cost structure. Selling, general, and administrative expenses totaled just 16.3% of sales last year. By contrast, J.C. Penney spent about 30% of its revenue on SG&A expenses in 2010 and 2011, and now spends almost 35% of revenue on SG&A due to a huge drop in sales volume in the past two years.
Kohl's SG&A expenses have been more moderate than those at J.C. Penney, but they still claim a significantly higher percentage of sales relative to TJX. In the recently ended 2013 fiscal year, SG&A expenses totaled 22.7% of revenue at Kohl's.
Flexibility is the other main advantage TJX has over department stores. While department stores make plans around having full collections of items from particular brands, TJX can be much more opportunistic as it encourages a "treasure hunt" mentality among its customers.
Off-price retailers have traditionally thrived at times when retail industry inventories were high, as they could step in to buy excess items at bargain prices. However, TJX has been successful even when inventory is tight, because department stores typically try to raise prices in a lean-inventory environment. TJX has enough vendors globally (more than 16,000) that it has never had trouble keeping its stores stocked with bargains.
Steady long-term growth
TJX's low-cost model helps it routinely beat department stores on "value." This in turn has allowed the company to expand steadily over time. Today, TJX has about 3,200 stores worldwide, consisting of more than 2,000 stores under its T.J. Maxx and Marshalls brands in the U.S., 450 HomeGoods stores in the U.S., about 350 stores in Canada, and roughly 400 locations in Europe.
TJX plans to add 172 net new stores this year, and executives see the potential to add nearly 2,000 more stores over time, increasing the TJX store base by 60%. As it expands, TJX will continue eating away at midprice department stores' market share. TJX's long-term potential could grow further if it adds new markets or new store concepts beyond T.J. Maxx, Marshalls, and HomeGoods.
One possible lever for incremental growth is the Sierra Trading Post brand, which TJX acquired in late 2012. Sierra Trading Post is primarily an online and catalog off-price retailer (it has just four stores today) focusing on sports and outdoor equipment. TJX is opening two new Sierra Trading Post stores in 2014; if those perform well, national expansion could follow.
TJX's management frequently talks about building a $40 billion business. With sales of $27.4 billion last year and revenue growth in the mid-to-high single digits, TJX is on track to reach that goal by the end of the decade. That would make it significantly larger than any department store chain.
Looking even further out, TJX's ultimate market opportunity could be well beyond $50 billion. With shares trading for less than 20 times expected current-year earnings, TJX stock provides investors a great combination of value and growth that department stores can't match.