8 retail stocks to look to in the recovery

Retailers who survived the pandemic unscathed are looking to the future.

  • By Dana Blankenhorn,
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With the economy getting stronger while the stock market weakens, it’s time to look at retail stocks again. Retailers are a proxy for the real economy.

People spend their money at retailers. How they’re doing, and which ones are doing best, is a good measure of economic health.

Over the last year, most have done quite poorly. What was called the “retail Armageddon” late in the 2010s only accelerated with the pandemic. It continued this year with the closing of Fry’s, which 20 years ago was my absolutely favorite store.

I recently got my first dose of Covid-19 vaccine at a local shopping mall that buzzed with activity when my kids were little. It had a Macy’s (M), a Sears, a Parisian, even a Kohl’s (KSS) Now it looks dead. The Kohl’s has become a vaccination center.

The area around the mall is the same sad shape. Fast food is in front, and very little is behind.

Some retail stocks have sailed through. Online retailers, home improvement stores and grocers selling “essentials” all did well in 2020.

But investors buy tomorrow, not yesterday. Will what worked before still work in 2021 and beyond? I decided to get back in my car and check things out.

Here are eight retail stocks to consider:

Home Depot

After plummeting along with the rest of the market in March of last year, Home Depot (HD) shares surged to a high of $292 in August. They then bounced around for months before falling almost 10% over the last month.

That’s thanks to record earnings plus a dividend increase. Fourth-quarter numbers included sales of $32.3 billion, up 25% year-over-year, and net earnings per fully diluted share of $2.65, up 16%. The dividend gained 10%.

According to Placer.ai’s February report on Home Depot and Lowe’s (LOW), “Visits for Home Depot were up 16.4%, 12.0%, and 22.2% respectively for November, December, and January year over year. Lowe’s saw even larger year-over-year increases with visits up 18.7%, 17.4%, and 30.4% respectively those same months. ”

The pandemic has created permanent changes in housing and office patterns, as my visit to the mall showed. This means a lot of work, not just for consumers but for builders and contractors. Projects will have to be redesigned, and existing office space repurposed. For Home Depot, meanwhile, the spring quarter is Christmas. Planting season is profit season. Projects dreamed of in the cold become reality when it gets warm, and hopefully before it gets hot.

While stock chartists see Home Depot stock going lower over the short, medium, and long terms, analysts at Tipranks have a more upbeat view. Nine out of 10 say buy it. Their average one-year price target of $315 is about 22% ahead of where the stock trades now.

This is the difference between trying to get rich quick and getting rich slowly. Buy great companies when they’re down and let time work its magic for you.

Getting rich slowly is the key to a comfortable retirement.

Walmart

Savvy investors will often ask themselves, “Is Walmart (WMT) cheap yet?”

It’s not.

Walmart opened today at $134.74, down 14% from its November high of over $151. An 0.7 price to sales ratio sounds fair, but a price to earnings ratio of 27 is high. And its dividend is only yielding 1.7%. Walmart has become a substitute for bonds.

That’s just not enough.

Walmart recently dropped its $35 minimum order for grocery delivery, unlike Amazon’s (AMZN) Amazon Fresh. It opened health centers that stock the Covid-19 vaccine. Walmart now sees ads as a profit center. Its Walmart Connect program uses partners to sell ads in stores and online and is growing at an Amazon pace.

The big story is that Walmart is getting serious about banking. Walmart has hired two Goldman Sachs (GS) bankers. Its fintech partner is Ribbit Capital, which helped fund Affirm Holdings (AFRM) and Robinhood.

Walmart’s growth has accelerated in the last year thanks to its expansion into new lines of business. That’s going to continue in 2021 and beyond, which is why the company remains expensive next to other retailer stocks.

If I’m looking for income, however, I should look elsewhere. Walmart must grow fast, and grow digitally, to justify its current stock price.

Kohl’s

Kohl’s stock recently got boosts from investor activism, strong Christmas quarter results and even the waning of the pandemic.

Not that it’s expensive. Kohl’s has a market cap of $10 billion. If the company can increase its sales, it’s a bargain.

I think the takeover effort launched by Jonathan Duskin of Macellum Capital, whose allies now hold 9.5% of the stock, is a distraction. His letter blames CEO Michelle Gass, who joined the company from Starbucks (SBUX) and became CEO in 2018, for things she’s trying to fix.

Media reports on the group talk about it being right about Bed, Bath & Beyond (BBBY). They were. After they moved in, BBBY replaced its CEO and set a new course. But strategy is what Kohl’s got by hiring Gass.

And the turnaround has begun. Kohl’s beat Q4 earnings estimates. Online sales made up 42% of the take. The company’s agreement with Amazon to take returns, has brought 2 million new customers into Kohl’s.

Before Gass, Kohl’s was a cross between Target and the TJX (TJX) TJ Maxx and HomeGoods chains — big and hard to navigate into an online-first world. Gass shared some of that space to Amazon and Planet Fitness (PLNT), among others. She has also brought higher-class merchandise to stores.

The activists did make me money when I sold my shares. But if they, win the stock price will go down, because they lack a long-term strategy.

Bed Bath & Beyond

Bed Bath & Beyond is what’s called a “meme” stock. Traders inspired on Reddit sent it soaring to $53 per share against a short position. Once the squeeze ended, Its stock dropped by about half.

As I wrote before, “For me, the meme was never the point. The point was the turnaround plan of CEO Mark Tritton. I’ve been boosting him since he was hired in late 2019.”

He came in with a clear strategy. Instead of leaning on name-brand merchandise sold below retail, Tritton wants a destination for people looking to enhance their living spaces — less HomeGoods, more Restoration Hardware (RH).

That will mean shanging the stores’ atmosphere and more goods offered online.

Before the memes, BBBY was already raising the money needed for the makeover. It did a sale-leaseback on its real estate, freeing up $250 million. Tritton hired a new C-Suite team and hired new agencies. Tritton also sold chains like Cost Plus World Market, Linen Holdings and the Christmas Tree Shops while keeping BuyBuyBaby, which had been doing well.

The new risk is the pandemic’s end will send people out of their homes again.

I don’t think BBBY will see $53 again this year, but I was always willing to wait for it.

Like I said before, “The big risk I see isn’t Tritton. It’s the private equity players who pushed his appointment.” These guys want quick profits, not slow turnarounds. They want buybacks and dividends. This could starve his new team of the momentum needed to finish what he started. He needs to stand up to their pressure.

Dollar General

I said it before, I’ll say it again. “Dollar General (DG) is the best-run retailer in America.”

Unfortunately, Todd Vasos, CEO since 2015, is reaching the end of his contract. But he is leaving on a high. Dollar General is predicted to have a market cap of $47 billion on expected 2021 sales of $33 billion. The merchandise says Walmart. The stock price says Nordstrom (JWN).

Vasos has cleaned the aisles and the stores are now more diverse. Where customers will pay for fresh produce, there is fresh produce. Where states let it sell liquor, there’s liquor. Dollar General is delivering Walmart pricing in places too small to support a Walmart.

That doesn’t mean it’s a fast-growing company. But it’s consistently profitable, with net margins over 6%. At Walmart it’s 2.4%.

Today there are over 17,000 stores and 75% of Americans live within five miles of a Dollar General. And in December, Vasos said the company would open 1,050 more stores this year, while remodeling and moving others. The company is launching DGX stores in some urban areas, smaller but with fresh produce and larger health sections.

This is my first time looking at Dollar General where I rate it a “hold” rather than a “buy.” But there are going to be more opportunities as stimulus comes in.

Target

Target’s (TGT) Christmas season impressed investors big-time. Revenue for the quarter was up 21% year over year, at $28 billion. Net income rose to $1.38 billion, $2.76 per share.

Target is buying warehouses to turn into distribution centers, and created great merchandising ideas. Its work with Apple (AAPL) continues to bear fruit. Its smaller store formats are becoming an industry trend.

But, as I wrote, “you can get too much of a good thing. Target’s market cap is now equal to its annual sales, which is a danger sign.” The dividend is another flag.

Target has been a big pandemic winner. While the company will remain sound, investors are bound to take profits.

If you’re looking ahead five to 10 years, I can’t argue against buying Target as a retail stock. It will come good, even at these prices. But if you have a shorter time horizon, or if you’re an income investor, take some profits.

Costco

I love Costco (COST). As I wrote, “I’ve been a member since the white in my hair was a bad dream. I just thought I could get better growth elsewhere, and thus bigger gains. Over the long run, I haven’t.”

For people with plenty of storage, Costco’s bulk items are a bargain. And there are luxury goods, too. They’re America’s top retailer of high-end wines. You can find jewelry, along with the best steaks and lobster. Their in-store rewards card is a bargain as well.

This reputation for bargains is Costco’s secret sauce, says Charlie Munger of Berkshire Hathaway. The company also raised its minimum wage to $16 per hour, well above rivals.

Costco emphasizes suburban locations near freeway intersections. Because of the cost outlay, the company has a rigorous process before opening new locations. If the demographics change, Costco will also close stores or turn them into “business centers” with a different mix of goods.

Why else do investors like COST stock? There’s growth in the high single digits, plus “special dividends.”. While the regular 70-cent-per-share dividend yields less than 1%, the special dividend raised last year’s yield to 3.8%, at today’s stock price.

The result is a stock that often looks expensive, with a price to earnings ratio of 32.8, higher than even Apple. But still, the company’s capital gain makes up for this.

Five Below

Retail stocks are often cheap relative to their revenue — but not Five Below (FIVE).

Shares opened March 15 at $192.71 each, a market cap of $10.9 billion on 2020 sales of $1.85 billion. It also has a price to earnings ratio of 98, no dividend, but a price target of $310, 28% ahead of where it is now.

From the outside, Five Below looks like an upscale dollar store. But the secret sauce is the store’s targeting of teens and tweens.

The results have been spectacular.

Revenue for fiscal 2020 was 18% ahead of last year. Net income was 17% higher than 2019. The growth is funded by operating cash flow, not debt.

The man in charge is Joel Anderson, a former Walmart executive who took over in 2015. The stores have low-price goods at great prices. The stores try to provide a treasure hunt “wow” factor.

Anderson plans to open as many as 180 stores this year, while adding “esports” centers in some places.

Of 15 analysts now following the stock, 11 say buy it. TV analyst Jim Cramer said he wished he already had it at the bottom of the pandemic. But the danger signs here are all about the valuation.

I seriously wonder what Walmart would have looked like if it had made Anderson its CEO in 2014 instead of Doug McMillon. He is still 54 and in theory could be lured to another, bigger challenge.

If he were, then I’d sell.

At the time of publication, Dana Blankenhorn directly owned shares in AAPL and AMZN.

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