Let's get one thing clear -- fellow Fool David Meier and I agree on the quality of Bed Bath & Beyond's (NASDAQ:BBBY) business. As David correctly points out, the return on invested capital (ROIC) is above 15%, which by his estimation is 5% above the company's cost of capital. For that matter, I think the company generates an even greater 6% spread above its cost of capital.
We also agree that much of Bed Bath & Beyond's current advantages are a combination of its product mix and scale of operations. These advantages have allowed Bed Bath & Beyond to succeed where Linens 'n Things, Restoration Hardware (NASDAQ:RSTO), Pier 1 (NYSE:PIR), Cost Plus (NASDAQ:CPWM), and Kirkland's (NASDAQ:KIRK) have all struggled.
However, to consider Bed Bath & Beyond's current advantages as a sustainable competitive advantage is where two Fools must part ways. While Bed Bath & Beyond's scale allows it to leverage its purchasing power, its scale is still based on variable input costs, not fixed costs. The inability to leverage a large fixed cost (like a manufacturing plant), makes for low barriers of entry. There is nothing that precludes the previously listed competitors from competing more effectively with Bed Bath & Beyond in the future.
Even if much of the smaller competition remains weak, increased competition is likely to come from much stronger competitors like Target (NYSE:TGT), which has significant scale. This should hold even truer as both Target and Bed Bath & Beyond grow their businesses.
But scale and competitive advantages are only part of our disagreement. While we both believe Bed Bath & Beyond was a more interesting value six months ago, I think today's price is at best a hold. Why the difference? Call me Foolish, but I don't let Bed Bath & Beyond get away with free growth, which happens when you build a valuation model using only maintenance capital expenditures. So while Bed Bath & Beyond's future growth is creating shareholder value, that value is already discounted into today's share price.
You may not quite be done yet! To see the Bull argument and the rebuttals, click here. If you've already read everything, cast your vote for the winner here.
Fool Contributor Matthew Crews welcomes your feedback -- really! He has no financial position in any of the companies mentioned. Bed Bath & Beyond is both a Stock Advisor and an Inside Value recommendation. The Motley Fool has a disclosure policy.
