The stock price of the California-based, $23 billion apparel store operator Ross Stores Inc. (ROST, Financial) climbed 10.67% after the company posted second-quarter earnings on Aug. 17. The market rewarded Ross for reporting a 7.5% year-over-year revenue increase to $6.74 billion and a more impressive 11.4% rise in profits to $637.6 million, resulting in 9.5% margin compared to 9.1% a year earlier.
CEO Barbara Rentler commented on the company's quarterly performance:
“We are pleased with the better-than-expected growth we delivered in both sales and earnings in the second quarter, especially given our strong multiyear comparisons and today’s volatile retail climate. Operating margin of 14.9% outperformed our projections, mainly due to a combination of higher merchandise margin and leverage on our above-plan sales gains."
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Valuations
Despite a recent run-up in shares, Ross still seems undervalued compared to its peers. According to Reuters data, the company had a trailing price-earnings (P/E) ratio of 18.2 times versus the industry average of 39.6 times, a price-book (P/B) ratio of 7.5 times verus 3.9 times and a price-sales (P/S) ratio of 1.6 times versus 2.16 times.
The company also had a trailing 1.2% dividend yield with a 19.5% payout ratio.
Average current fiscal year revenue and EPS estimates indicate forward multiples of 1.65 times and 18.5 times.
Total returns
Ross Stores has performed poorly in contrast to the broader S&P 500 index so far this year, having generated (-)18.22% total losses versus 9.96%.
Ross Stores
Ross Stores was founded in 1950.
According to filings, the company operates two brands of off-price retail apparel and home fashion stores—Ross Dress for Less (Ross) and DD’s Discounts.
With 1,340 locations, Ross is the largest off-price apparel and home fashion chain in the U.S. as of January.
Ross offers a variety of name brand and designer apparel, accessories, footwear and home fashions for the entire family at significant discounts to department and specialty store regular prices. In addition, the company operates 193 DD’s Discounts stores in 15 states as of January, which offer a more moderately-priced assortment of name brand apparel, accessories, footwear and home fashions.
Ross’ primary objective is to pursue and refine its existing off-price strategies to maintain and improve both profitability and financial returns over the long term.
Further, the company's target customers are primarily from middle income households.
The company has one reportable segment.
Comparable sales
(Company filings)
Comparable stores are the stores open for more than 14 months. In the first half of 2017, comparable figures increased to 4% from 3% a year earlier.
Sales and profits
Over the past three years, Ross registered average revenue growth of 7.94%, average profit growth of 10.11% and an average profit margin of 8.5%.
Cash, debt and book value
As of July, Ross Stores had $1.15 billion in cash and equivalents and $396.7 million in debt, with a debt-equity ratio 0.14 times compared to 0.15 times a year earlier. Overall equity increased $225.6 million year over year while debt increased by $470,000.
Ross Stores had no blue sky elements (goodwill or intangible assets) among its $5.5 billion in assets. The book value increased 8.6% year over year to $2.84 billion.
Cash flow
Due to higher profits, Ross Stores’ cash flow from operations increased 2.4% year over year to $797.9 million in the first half. Capital expenditures were $169.3 million, leaving the company with $628.6 million in free cash flow compared to $632 million a year earlier.
In addition, Ross Stores did not take on nor repay any debt during the period. Rather, it allocated 95% of its free cash flow to shareholders through dividends and share repurchases.
The cash flow summary
In the past three years, Ross Stores allocated $1.3 billion in capital expenditures, raised $61 million in share issuances, generated $2.95 billion in free cash flow and provided $2.68 billion in dividends and share repurchases. The average free cash flow payout ratio is 93.5%.
Conclusion
In the current tumultuous times for retailers, Ross Stores' recent half operations revealed the company has not stopped growing and will continue to deliver steady revenue and profits for the remainder of the year.
In addition, Ross Stores has a nearly flawless balance sheet, if not for minimal long-term debt. The company also has provided its shareholders with generous dividends and share repurchases.
Analysts have an overweight recommendation for Ross Stores with a target price of $71.29 per share versus $59.05 at the time of writing. Using average revenue estimates for the current fiscal year multiplied by the three-year P/S average with a 15% margin indicated a per-share figure of $58.71.
In summary, Ross Stores is a buy with a $70.81 target price.
Disclosure: I do not own shares of any companies mentioned.
