Big 5 Sporting Goods. What Should We Think About Their Solid Quarter?

At its September 29 quarter end, Big 5 had 433 stores down from 436 a year ago.  Big 5 “…provide a full-line product offering in a traditional sporting goods store format that averages approximately 11,000 square feet. Our product mix includes athletic shoes, apparel and accessories, as well as a broad selection of outdoor and athletic equipment for team sports, fitness, camping, hunting, fishing, tennis, golf, winter and summer recreation and roller sports.”

Almost 55% of their revenue for the quarter came from hard goods.  27.5% was from footwear and 17.1% from apparel. 

I’ve been in maybe a half dozen of their stores, most recently within a couple of weeks.  As you can see from their product description above, they carry a very diversified product mix.  I wouldn’t say it’s well merchandised and I certainly think of them as competing on price.

As I’ve said in prior reviews of their results, that’s not a compelling source of competitive advantage in our current environment.

Revenue for the quarter was essentially constant at $266 million.  But they grew the gross margin from 31.0% in last year’s quarter to 32.3% in this year’s.  They reduced SG&A expense from 29.2% of revenue to 28.9%.  The result was operating income that rose 89% from $4.8 to $9.1 million.  Net income more than doubled from $3.1 to $6.4 million in spite of a tax bill that rose from $0.84 to $2.0 million.

The stock market of course loved that, but I want to dig a little deeper into how they did it.

While total revenues didn’t rise significantly, same store sales were up 0.3% compared to a 2.0% decline in last year’s quarter.  They note that “Sales from e-commerce in the third quarter of fiscal 2019 and 2018 were not material.”  That’s kind of a concerning statement. 

The improvement in the gross margin had three main components.  First was a 0.98% increase in merchandise margins.  “The increase primarily reflects a shift in sales mix towards higher-margin products and a decrease in promotional activities.”

Second was a reduction of 0.78%, or $2.1 million, in distribution expense.  “The decrease primarily reflected a reduced provision for costs capitalized into inventory compared with the third quarter of last year.”  Sounds like a one-time thing.

Third was a $0.6 million increase in store occupancy expense.

From the conference call: “Multiple factors contributed to the margin gains, including the benefit of a product mix shift, reflecting reduced sales of lower margin firearms and ammunition products and increased sales of higher margin opportunistic buys. Additionally, and quite significantly, our margins benefited from a favorable response to our strategic efforts to optimize our pricing and promotion.”

I wonder if those “high margin opportunistic buys” are a repeatable, intentional part of their strategy and would love to hear more about how, exactly, they are optimizing their pricing and promotion.

The $0.8 million reduction in SG&A expense resulted from three factors.  First was a $0.9 million reduction “…due mainly to lower newspaper advertising.”  Most of us are familiar with those ubiquitous Big 5 advertising inserts.  If they are reducing them, I wonder what they are replacing them with.  There’s no mention of a social media strategy.

Second, store related expenses were down $0.7 million “…due primarily to reductions in certain employee benefit-related expenses such as health and welfare expense, partially offset by increased employee labor expense.”  The increased labor costs were the result of minimum wage increases.

Finally, administrative expenses increased by $0.7 million. 

The balance sheet hasn’t changed much since last year, except that the current balance sheet reflects the new accounting standards for reporting operating leases.  Cash provided by operations improved from a negative $8.1 million in the nine months ending last September 30, 2018 to a positive $13.7 million for the nine months ended September 29, 2019.  I also want to highlight the nine months capital spending decline from $8.4 million to $6.1 million. 

So here we are with a solid quarter from Big 5 as measured by the bottom line.  I’ve been encouraging a bottom line rather than top line focus for years now.  This strong bottom line improvement, however, seems caused by one-time events and expense cuts that can’t be continually duplicated.  I am not as optimistic as the people who drove up the stock when the earnings were announced.

We still seem to have a brick and mortar retailer that’s competing based on abroad product offering and price, and its online performance isn’t significant they say.  There was no discussion of strategy in the 10Q or on the conference call- at least partly because no analysts took part in the call to ask questions.

Based on the information Big 5 is providing in its public documents, I don’t understand their strategy for success.

What’s Wrong with Capitalism?

Well, uh, nothing actually.  Okay, not nothing.  Some things- sure.  There’s no perfect system.  But the real problem is that what we actually have is less and less like real capitalism.  Adam Smith’s invisible hand and Schumpeter’s idea of creative destruction have both taken it on the chin.  Quantitative easing, low to negative interest rates, too much debt, and the growth of oligopolies and perverse management incentives are knocking capitalism for a loop. 

Follow this link to Epsilon Theory and read Ben Hunt’s article, “Yeah It’s Still Water.”  Please take the time to understand his analysis of what Texas Instruments has done with its cash flow in recent years.  Recognize that this is going on all across the public company space in our industry as well as others.

When you’re done, you might consider signing up for Epsilon Theory’s free weekly emails or putting the web site in your favorites for occasional consideration. 

If Texas Instrument had taken all that cash flow and put it into competitive enhancements rather than share buybacks and management compensation, what might they have accomplished? Our GDP as a country only grows because more people are working (population growth) or they are each making more for each unit of labor (productivity growth).  With population really only growing due to immigration we are dependent on productivity growth.  Unfortunately, stock buy backs, dividends and management compensation don’t contribute anything to it.

Kathmandu Buys Rip Curl: Analysis and Questions

I admit it.  Before this deal, I’d never head of Kathmandu, a public company headquartered in New Zealand.  If you haven’t either, you can visit their consumer facing web site or their investors web site where you can pour over all the deal related documents I’ve looked at.  Mostly, though, I think you’re happy to leave that chore to me.

Kathmandu “…is a designer, marketer, retailer and wholesaler of clothing, footwear and equipment for travel and adventure. It operates in New Zealand, Australia, United Kingdom and United States of America,” as described in their public filing for the fiscal year ended July 31, 2019.  Below are some summary numbers for its last two full years.

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Machine Learning Dominates AI Use for Retailers

This is interesting.  It seems to indicate that most retailers are being left behind. You might want to click through to Capgemini and sign up for some of their research.  Anyway, here’s the link.

 

 

An Inevitable Deal: SPY Purchased by Bolle

I never learned why SPY went public in the first place all those years ago.  I imagine it was because a group of people who may not quite have understood the industry saw potential fast growth and a chance to make a lot of money.  Those were different times.  I have some experience with that way of thinking from the snowboard industry.

The benefit to me, and to you, was in being able to follow a smaller niche player with a solid brand and see how they could compete among the big players in an industry where meaningful product differentiation wasn’t easy to come by.

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An Agnostic Moat; Zumiez’s Most Recent Quarterly Results

Zumiez had a great quarter ended August 3 (remember I don’t write until I have received and digested the 10-Q).  They did it with sales that rose just 4.3% from $219.0 in last year’s quarter to $228.4 million in this year’s.  But they also increased their gross margin from 33.1% in the same quarter last year to 33.8% in this year’s quarter.  And their selling, general and administrative expenses as a percent of revenue declined from 30% to 28.7%.

The bottom line was a net income that more than doubled from $4.38 to $9.03 million.  They’ve got an imminently solid balance sheet.  Combined with improved margins and reduced expenses over a modest revenue increase and you end up with a great bottom line.

More on that later.  You’re probably wondering what I mean by an agnostic moat.  If not, I wasted a lot of time coming up with that title.

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Globe Sells Dwindle and Files Its Annual Report

Globe filed its annual report for the year ended June 30, 2019 pretty much concurrently with the announcement that it had sold Dwindle to Highline Industries Corporation.  Skatewire reported that the purchase price was $1.5 million, but what the annual report says is that the carrying value of the assets was $1.5 million.  I haven’t seen the purchase reported anywhere.  The transaction will close and be accounted for in the first half of Globe’s current fiscal year.  If you haven’t, you might also read the interview with Bod Boyle and Steve Lake on Shop Eat Surf about the deal.

According to Globe’s annual report, “The transaction includes the brands, working capital, domain names, social media accounts and the personnel attached to the Dwindle business.”  Maybe they shouldn’t have worded it so it sounds like they sold the employees.

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Consolidation and Finding New Participants; Vail Buys Peak Resorts

It was July 22nd when Vail announced it had reached an agreement to purchase Peak Resorts for $11.00 a share or a total of $264 million.  Peak Resorts, traded publicly under the symbol SKIS, closed at $5.19 on July 19.  Hard to say “no” when somebody offers you more than double your stock price.  Vail will also assume or refinance Peak’s debt, which totaled around $230 million on April 30.

Vail operates 20 mountain resorts in the west (I guess Australia is “west.”).  Peak has 17 ski areas in the northeastern U.S.  Vail also has 240 retail locations.

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Hibbett Sports Says Some Interesting Things: Can They Catch Up in Ecommerce?

In its conference call and 10Q filing for its May 4th quarter, Hibbett said some interesting things about what it’s doing.  Let’s take a brief look at Hibbett and its numbers then talk about how Hibbett is trying to adjust to the changing retail world after its very late start.

Hibbett describes itself as “…a leading athletic-inspired fashion retailer primarily located in small and mid-sized communities across the country.”  As of May 4, it had 1,144 stores in 35 states, “…composed of 985 Hibbett Sports stores, 141 City Gear stores and 18 Sports Additions athletic shoe stores.”

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And Now for Something Completely Different; Some Recommended Reading with Perspective on U.S. Economic and Financial Conditions

In 5,000 years of recorded history, there isn’t another known instance of negative interest rates.  Now we’ve got about $13 trillion of securities with negative interest rates around the world.  So far, that hasn’t happened in the United States, but don’t assume it won’t when we finally get a recession.

Money is a commodity.  It has a price just like oil, gold, wheat or any other commodity.  When the market isn’t allowed to set the price, bad things happen- misallocation of capital basically.  You know this if you’ve tried to save money and found that the only way to get a return above inflation is to make investments you’d really prefer not to make (How many of you remember 6% CDs?).

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