Big Dog Holdings (NASDAQ:BDOG) is a relatively small retailer with two chains: Big Dog USA and The Walking Company, or TWC for short. Results are still being driven by the niche Big Dog chain, but the company is fast becoming a footwear retailer. What does this mean for investors going forward?

Back when the company was just Big Dog, sales growth was negative from 2001 to 2003. The company received a kick start in 2004 when sales jumped over 50%, mostly because of the acquisition of TWC out of bankruptcy. Last year sales advanced 11%, in part because of the acquisition of seven Footworks stores in Las Vegas, and the most recently announced second quarter saw strong growth of 22%, part the result of yet another purchase of a shoe retailer from bankruptcy -- Steve's Shoes.

Same-store sales trends for the quarter also support the fact that it's becoming all about the shoes at Big Dog, as TWC saw an impressive 5.9% jump in store comps, while Big Dog comps fell 5.2%. Combined, same-store sales grew 0.4%. Inventories rose about 26% for the quarter, or higher than sales growth. It will be important to gauge if this becomes a trend going forward, as the situation could imply weak sales going forward.

At the quarter's end, the company had 161 Big Dog stores, down from 181 last year, and 133 TWC stores, compared to just 77 last year. TWC stores will soon outnumber Big Dog, as management recently opened 56 TWC stores (this included the 35 Steve's Shoes stores purchased). Sales are also following a similar path; TWC accounted for 49% ($87 million) of total sales in 2005 and should grow to over half the total for 2006.

With no formal analyst coverage, Fools are left to their own devices to form an investment opinion. I was initially drawn to the company due to the Big Dog brand, with its "focus on fun," as alluded to in the company's most recent 10-K SEC filing. In the crowded fashion retailing space, the brand looks to have some differentiation, targeting sport and leisure activities for a wide range of customers, including children, baby boomers, and pet owners. Indeed, the stores are located in tourist areas and most are situated in California, where the company also has its headquarters. Unfortunately, the concept appears to have run out of steam.

You see, Big Dog stores are located primarily in outlet malls, as the company believes it can best catch its target tourist market there. This helps explain the chain's flagging growth in recent years; the outlet industry has slowed considerably. The other reason appears to be that consumer demand has reached its peak for everything Big Dog.

As such, the company has gravitated to footwear to keep growth chugging along. Problem is, the shoe retail space is very crowded, and the Big Dog chain has higher margins than TWC, as far as I can tell. Big Dog as an entire company has higher gross margins than most shoe firms, and its net margins are also slightly higher than most pure retailers, but as footwear grows as a proportion of the total, margins are likely to trend downward.

For a comparison, check out the margins of other pure shoe retailers such as Foot Locker (NYSE:FL) or Payless Shoesource (NYSE:PSS), as well as a discussion on what your best bet may be when looking to invest in the footwear industry, as it looks like an investment in Big Dog will increasingly lead you down that path. The strategy of buying struggling footwear chains looks unique and potentially lucrative, but the industry is crowded, making above average returns all the more difficult.

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Fool contributor Ryan Fuhrmann has no financial interest in any company mentioned. Feel free to email him with feedback or to discuss any companies mentioned further. The Fool has an ironclad disclosure policy.