Bed Bath and Beyond the Canadian Border

Updated from 12/31/2007 with earnings report

Home furnishings retailer Bed Bath and Beyond (BBBY - commentary - Cramer's Take) reported its fiscal third-quarter 2007 earnings last evening. Earnings were almost exactly on analysts' target at 52 cents per share, up slightly from 50 cents per share year over year. It should be noted that 1 cent per share of the EPS was attributable to a company share repurchase program. Additionally, 3 cents per share of EPS this quarter included a nonrecurring profit due to a favorable resolution of tax issues.

Including all of these effects, the retailer experienced stagnant sales. The company suffered from slower comp store sales but is nevertheless expanding up north, across the border, in Canada. Comp store sales this quarter grew by only .8% compared with a comp store sales increase of 4.6% year over year. For the first nine months, comp store sales increased by 1.5% compared to a corresponding figure of 4.8% last year.

Revenue increased in the third quarter by 11% to $1.8 billion, and for the nine months of fiscal 2007, up 9.8% to $5.1 billion. Operating margins declined by 160 basis points to 11.4% . Most of the decline in operating margins was attributable to a 14.4% increase in the cost of sales, and some of it to a 10.5% increase in SG&A expense.

BBY's earnings call was short and sweet and not much oriented on relative strategic focus. The company is planning to open 60 new BBBY stores over fiscal 2008, 12 new Christmas Tree shops and several new buybuy BABY stores in the wilds of Canada. As I mentioned in my preview, this should be good news to BBBY's shareholders if the Canadian dollar continues to appreciate against the U.S. dollar.

Nevertheless, the effect of this is not going to be felt immediately, since BBBY anticipates it will earn approximately 64 cents per share to 67 cents per share on stagnant comp store sales for the fourth quarter. It should be noted that the fourth quarter for fiscal 2007 includes one less week than the corresponding period last year; nevertheless the projections for the short-term remain relatively pessimistic. Full year fiscal 2007 earnings are anticipated to be between $2.08 and $2.11 per share.

Regarding balance sheet issues, cash declined by 37% to $190.4 million due to BBBY's share repurchase program as well as the acquisition of buybuy BABY, which the company needs to buoy up the disappointing same-store sales from its core BBBY stores. The additional effect of the decline in cash balances, the precipitous decline in long-term securities to $128,000 as well as additional share repurchases to come will be a decline in interest income over the fiscal 2007 by $27 million.

Inventories increased by 10%, and the company anticipates inventories-per-square-foot to increase for the fourth quarter 2007 despite the slight anticipated increase in square footage to 30 million square feet from 29.5 million square feet due to initialization of its new Christmas Tree shops.

Capital expenditures were $250 million for the first nine months of 2007 and are expected to reach $360 million over fiscal 2007. BBBY management reported that it plans this capital expansion exclusively from internally generated sources, leading to further declines in interest income, hopefully to be offset by corresponding revenue increases from the new stores. Given the continued uncertainties revolving around the housing market and the current weak, if not recessionary economy, this no-debt strategy is no doubt the wisest path for the retailer to follow.

The earnings from fourth quarter 2007 will be indicative as to whether BBBY can overcome the reticences of the spending-averse American consumer.

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Vasu Vijayraghavan was an academic finance professor at the University of Paris who has now turned to a new career as a financial consultant. As an academic, she wrote on corporate governance issues, especially in the European context, and she believes in a long-run and balance sheet approach to stock picking.

Currently, Vasu is working as a consultant for lawyers, doing business valuation. She is a Level II CFA candidate and enjoys writing long/short and earnings calls pieces for TheStreet.Com.

Vasu holds a Ph.D. from the University of Michigan and a B.A. from Harvard University.