Over the past couple weeks, we've seen several good examples of how the tiniest of margin improvements can translate into immense jumps in profit in the low-margin retailing world. BJ's (NYSE:BJ) was one; Men's Wearhouse (NYSE:MW) was another. As of yesterday, you can add teen clothier Deb Shops (NASDAQ:DEBS) to that list.
That's a good thing, because on the sales front, Deb didn't do so well this past quarter. According to its earnings release, sales were flat against the fiscal second quarter of 2004. And the only way to increase your earnings on stagnant sales is to squeeze more profits out of each dollar of revenue. Deb did that in spades, boosting its gross margin from last year's 31.2% to 34.8% this year, primarily by keeping its discounting of merchandise to a minimum. As a result, earnings per diluted share jumped 70% to reach $0.34.
Given that Deb's cash on hand increased $15.3 million year-on-year, free cash flow appears to be still going strong at the retailer (which makes it all the more confusing that the company doesn't advertise this fact by providing a cash flow statement to accompany its earnings release).
Another metric that is especially useful in measuring a retailer's efficiency, I am finding, is inventory turns (how many times a company can sell down and restock its entire inventory within a given period, which is calculated by dividing the cost of goods sold by inventory). In Deb's case, over the past year it has increased its inventory turns from 1.42 to 1.74 times per quarter. A lot of that increase is due to the company's sell-off of old inventory, which dropped by 8.5% year on year. And that's particularly good news if Deb was charging higher prices when moving the inventory.
Reading between the lines, then, this appears to be the story on Deb for this quarter: It bought less inventory, charged higher prices for what it bought as well as for its existing inventory, and when all was said and done came away with sharply higher prices and a leaner operation. That's the kind of trend that will never go out of style with investors.
Fool contributor Rich Smith owns no shares in any of the companies mentioned in this article. The Fool has a disclosure policy .
