Which Is The Better Retail Sector Buy: Williams-Sonoma or Bed Bath & Beyond?

Here are two well-known retail companies with histories of solid earnings. But which has the better stock for investors to buy now? We run the numbers.
By Chiradeep BasuMallick ,

Two well-known home furnishing companies are Williams-Sonoma (WSM) - Get Report and Bed Bath & Beyond (BBBY) - Get Report . Shares of both are down about 12% so far this year. Some investors might view this as an opportunity to pick up one of these retail stocks on the cheap. But which is the better buy? 

We like Williams-Sonoma more than Bed Bath & Beyond, and we explain why below. We also unveil an ingenious investment strategy that makes money in bull and bear markets alike.

1. Williams-Sonoma

Started by Chuck Williams who founded his original cookware shop in the California wine country town of Sonoma, Calif. in 1956, Williams-Sonoma today offers an enormous portfolio of casually elegant furniture, lighting and attractive accessories through brands like Pottery Barn, PBteen, Williams-Sonoma Home, West Elm, Mark and Graham and Rejuvenation.

The company's products have a premium touch and feel. The company has 624 stores. It operates in the U.S., Canada, Puerto Rico, Australia, and the U.K., and franchises its brand in the Middle East and the Philippines. Williams-Sonoma has built itself into one of the largest e-commerce retailers.

By market capitalization, Williams-Sonoma is the smaller company. Its market cap of $4.6 billion is significantly less than Bed Bath & Beyond's $6.6 billion. Williams-Sonoma had sales of nearly $5 billion last year, much less than Bed Bath & Beyond's $12.10 billion top line. 

2. Bed Bath & Beyond

Big on omnichannel retailing and smart operations, Bed Bath & Beyond has a better operating margin (11.7%) than Williams-Sonoma (9.8%).

Bed Bath & Beyond is a big retailer selling a wide assortment of domestic merchandise and home furnishings, with a bevy of brands including Christmas Tree Shops, Christmas Tree Shops and That!, Harmon or Harmon Face Values, buybuy BABY and World Market.

Bed Bath & Beyond, however, hasn't mustered superior earnings per share growth if you go by the past five years. Williams-Sonoma has clocked admirable 15%-plus EPS growth on average for the last five years, but in the same period Bed Bath & Beyond's average annual EPS growth has been a much lower 5.5%.

Based on analysts' estimates, Williams-Sonoma is expected to have 8.8% average annual EPS growth over the next five years, maintaining its lead over Bed Bath & Beyond, which is expected to have average EPS growth of 3.6% over the next five years. That makes Williams-Sonoma a superb long-term growth investment.

Williams Sonoma looks even better when you look at its price/earings-to-growth (or PEG) ratio, which is 1.7 vs. Bed Bath & Beyond's 2.5. 

Further, Williams-Sonoma has lower debt (In fact, it's almost net debt free.) while Bed Bath & Beyond has almost $1 billion of net debt. The higher operating margins and annual free cash flow of Bed Bath & Beyond may have compelled investors to give it a higher valuation.

This is where we must caution you that Bed Bath's recent trends are negative. For instance, Bed Bath & Beyond's operating margins have dropped from 16%-plus levels even just four years back. Williams-Sonoma's margins have held up better. Also, annual free cash flows for Bed Bath & Beyond have declined in the last three years. This has occurred at a time when Williams-Sonoma has improved its free cash flow.

Bigger player Bed Bath & Beyond can offer you about 7% price appreciation based on the median 12-month price target from analysts of $45/share) and another 1.2% dividend yield. The yield is very safe since the payout ratio is at a very low 10%.

In contrast, Williams-Sonoma's shares could appreciate 18% based on the median analyst price target of $60. It also offers a better yield, of 2.9%, backed by six years of dividend growth and a comfortable payout ratio of 41.3%.

Be it valuation, earnings growth, dividends, financial position or expected returns, Williams-Sonoma comes across as the superior play for your portfolio. Bed Bath & Beyond is a good company but right now isn't a great investment story, compared with Williams-Sonoma. 

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This article is commentary by an independent contributor. At the time of publication, the author held no positions in the stocks mentioned.

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