Imitation may be the sincerest form of flattery, but with mid-tier department store operator Kohl's (NYSE:KSS) jumping on the off-price store bandwagon, investors may rightly decide they just want the real thing and not some cheap knock off.
Macy's (NYSE:M) got the ball rolling when it recently announced it was opening four discount outlets in the New York City area to test the potential of going down market, and now Kohl's is following suit and will open an off-price store in Cherry Hill, N.J. Its take on the concept though is curious in that it will initially start out selling returned merchandise that's still in good shape, with the potential for exclusive brands in the future.
Both no doubt have seen just how successful TJX (NYSE:TJX) has been in comparison to their own faltering efforts at attracting customers in a highly competitive retail market, but Macy's and Kohl's aren't TJX, and while they may gain some incremental sales from the experiment, investors would be better served by sticking with the original.
Low prices done right
TJX is the largest off-price retailer with over 3,400 stores. It operates off-price stores T.J. Maxx and Marshall's, as well as discount housewares store HomeGoods. Where Macy's and Kohl's count on their full-price stores for making their numbers, TJX only operates discount shops. That means unlike its rivals, TJX doesn't have to worry about cannibalizing sales from opening new cut-rate outlets. Instead of emulating TJX's success, Macy's and Kohl's may just mimic the failure of handbag maker Coach (NYSE:TPR), which saw revenues and profits collapse after it broadly expanded its discount factory stores.
Coach just suffered through another quarter of hemorrhaging comparable store sales, which tumbled 23% from the year ago period, and there's no indication the pain is over.
Because Macy's and Kohl's are merely dipping their toes in the water it won't have the same effect on their operations, but their push into the discount end of the market should make investors curious about what makes TJX so special.
Another strong quarter
First quarter net sales for TJX rose almost 6% in the first quarter to $4.5 billion on a 5% increase in comps, leading the retailer to raise its guidance for the coming year. Considering Kohl's same store sales were up an anemic 1.4% in the quarter, and Macy's actually suffered a decline, the results underscore why its rivals want to copy it.
While HomeGoods carried the day with a 9% increase in comps growth for the quarter, helping to generate a 16% increase in sales, the segment only accounts for 13% of total sales. T.J. Maxx and Marshall's are the primary breadwinners for the retailer and they turned in a respectable 3% combined comps increase as net sales rose 6%.
Like many retailers with a global footprint -- TJX also has stores in Canada and Europe -- currency fluctuations and a strong U.S. dollar did sap some of the strength of its performance, and with plans to raise worker wages to at least $9 an hour starting next month, the increased costs caused it to forecast second quarter earnings of $0.72 to $0.74 a share, below last year's adjusted $0.75 per share.
But for all of fiscal 2016, TJX is estimating earnings per share will be in the range of $3.21 to $3.27 compared to the $3.15 per share it earned the year before and ahead of its prior guidance of $3.17 to $3.25 per share.
A me-too cavalcade
That kind of success has created a bit of stampede among retailers to expand their own discount operations. Nordstrom (NYSE:JWN), Saks 5th Avenue, and Macy's own Bloomingdale's division -- all of which already operate off-price stores -- have also all announced their intention to accelerate their expansion.
But the problem for them will be the difficulty in putting the genie back in the bottle. Nordstrom's customers are flocking to its off-price Nordstrom Rack chain at the expense of its full-line stores. First quarter net sales were up less than 1% at the full-line stores, but up 12% at Rack stores. They were also 50% higher at the discounted chain's new online site too.
Even as Nordstrom commits to opening 27 new Rack stores this year (five times more than the number of full-line stores planned), and the concept becomes a larger part of the overall mix of stores, investors will see margins pressured as happened at Coach, and it may face the same necessity as the handbag maker of having to slam on the brakes for the off-price concept.
Racking up sales
Not only does TJX not have to worry about weaning customers off the discounts because they're undermining profits, it also doesn't need to worry about damaging the cachet of its brand. For every new store it adds -- and it added 46 net new stores in the first quarter -- they contribute to the whole without transferring sales from one concept to another.
For many retailers, going down market is just the new flavor of the month. For TJX it's the retailer's reason for existing.
So what does an investor have to pay to own one of these discount retailers? According to data from Morningstar, TJX shares are valued at 20.3 times next year's estimated earnings, a 17% premium to the average multiple for a group of five comparable companies that include Macy's, Kohl's, and Nordstrom, as well as Ross Stores and DSW.
With the S&P 500 itself trading at 18.5 times next 12 months' earnings-per-share estimates, the premium to own TJX stock doesn't seem unreasonable, suggesting it looks like a good bet to beat the market -- and its new peers discovering the discounting bug -- over the next three to five years.