The last few years have been a rough ride for Dick’s Sporting Goods Inc. (DKS, Financial). The stock was trading at around $60 per share in December 2016, only to slide down to $36 per share, where it trades now.
To make matters worse, the company has been the subject of controversy over management’s decision to ban assault-style firearms from its stores, and to raise the minimum gun-buying age to 21. Is this a value stock that will recover in the long term, or is there no light at the end of the tunnel for this giant of American retail? We will analyze and compare the bull and bear arguments.
Financials
First, however, let’s examine the latest financial data for Dick’s. The company recently reported earnings for the third quarter of 2018. Consolidated same-store sales (or "comps") declined by 3.9% compared to the previous quarter (after factoring in a calendar shift). Revenue came in at $1.86 billion, falling 4.5% year over year and missing expectations by $20 million. On the positive side, earnings per share came in at 39 cents, beating analyst expectations by 13 cents. Furthermore, the gross margin grew 72 basis points year over year to 28% of sales.
Falling sales, expanding margins
Gross margins have grown, even in the face of slumping sales. The decision to get out of electronics and firearms has been good in this sense, as those are lower-margin product categories. CEO Ed Stack had this to say on the issue of expanding margins:
"Our continued improvements in gross margin and disciplined expense management more than offset our strategic investments, and contributed to increased profitability compared to last year.”
Expanding margins are all well and good, but they cannot hide the fact Dick’s is losing market share as sales continue to trend downward. Furthermore, consumer sentiment seems to be plateauing, and may well fall off if the developing trade war with China takes a turn for the worse. This would, of course, affect all retailers, but given Dick’s slumping sales figures, this can hardly be considered even a relative win.
Looks cheap
The stock currently trades at only 8 times free cash flow and 11 times earnings. This is significantly lower than the price-earnings ratio of 46.30 that is the average across the retail sector. Even direct competitor Best Buy (BBY, Financial) trades at 17 times earnings. If Dick’s can realign and remake itself as a leaner and ultimately more profitable company, this is certainly a cheap price to pay to own it.
E-commerce
Dick’s, like most retailers, faces stiff competition from online retailers, led by Amazon (AMZN, Financial). Dick’s e-commerce sales trended up 16% last quarter, and now account for 12% of all sales. Moving sales to online shopping will help the company compete with the likes of Amazon and will also decrease costs relative to sales at physical locations. That said, 12% is a drop in the ocean relative to what the company needs to do. As well as being outcompeted by large online retailers like Amazon, Dick’s is losing sales to brand-specific online stores, particularly in the sportswear sector. Simply put, it is easier and often cheaper to buy a pair of Nike sneakers directly from the Nike website than to buy online from companies like Dick’s.
Verdict
Overall, we see a business that has implemented some positive changes, but is still fighting a losing battle against broader industry and societal trends that are out of its control. Yes, the expanding margins are good and the stock certainly trades at a discount. But Dick’s is playing from behind in the e-commerce space, and may fall prey to an economic slowdown. We would prefer to stay on the sidelines when it comes to this stock.
(This article was co-authored by Stepan Lavrouk, director of research at Atreides Capital LLC and a former research analyst for Almington Capital Merchant Bankers.)
Disclosure: No positions.
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