Bed, Bath & an Abomination?

Bed, Bath & Beyond (“BBBY”) reported earnings on Thursday this past week.  While they “beat consensus estimates” the stock was down around 20% on the day.  More interesting to me is that retail REITs were down around 2% on the day based on the BBBY news.  I am going to take a quick look at BBBY the earnings report (and conference call).  Perhaps more interestingly, we will look at which of the landlords we previously examined has the most BBBY exposure.

To start, BBBY sales were actually up on a sequential and year over year basis.  The most cited reason for the 20% down day “abomination” was margin pressure and management guidance that earnings would decline in 2018 and 2019 and they anticipate returning to positive earnings growth in 2020.  They also were rather difficult to pin down on their comparable store guidance/expectations.

Essentially, they are investing in online and omni-channel logistics and experimenting with store formats.  Thus, their margins are getting squeezed.  Here’s a link to the earnings conference call and release.  On the call, management repeatedly mentioned that the margins in the online business are less than the traditional business, so the mix is hurting margins a little.  I sort of don’t know why they are expected to maintain margins but Walmart and Amazon are not.  It’s a price war.

If you are interested in this name, you could go to the Q&A portion of the call to get a feel for why the stock sold off.  The analysts were deeply disturbed about the lack of certainty in management’s projections.  I sort of think management was just being honest.  They are investing to compete and they will kind of know when they can take the foot off the gas when they see results (or if they need to do it to generate profits/cash as amazon has done a few times to sort of flex to the financial community).  I would prefer that to some falsely precise set of quarterly projections through a major revamp of the business.

I also noted that they expect to see a pretty material positive benefit from the Babies R Us liquidation, but the impact will build over time with much of the benefit after liquidation is completed.  Management noted that the registry business will probably be the first positive impact as people are not going to register at a place that is going to be liquidated.  They are also building out a furniture business/presence even in the core BBBY stores, which is seemingly less well suited to e-commerce (they own World Market now).

While this Barron’s Article hammers management for buying back stock at higher prices, I noted the per share figures look better than the aggregate figures, due to this retired stock (of course they would look even better if management was buying now).  Although, I’m sure having the cash they spent on buybacks to fund these initiatives (even to fill out the Babies R Us place in the market) would be beneficial, but they’ve got like $700MM in cash and marketable securities on the balance sheet (with an enterprise value of like $3 billion).

In any case, if BBBY survives, it is probably cheap.  I kind of hate the main-line business of selling full priced towels, linens, small appliances, random junk, and even china/dining accoutrements.  It seems like all of those are low weight to value items (leading to ease of shipping/e-commerce), probably commodity in nature, and/or easily displayed online.

Impact on Retail REITs

I do not invest in retail, however, so BBBY is not of interest to me on its own account.  The impact on the retail landlords, however, is another story.

On the call, BBBY management noted that the company has ~400 stores with leases expiring within the next 2 years.  They stated that they have purposely signed shorter leases to build in flexibility with the business model and the size of the brick and mortar footprint.

That obviously isn’t comforting if you are their landlord.  BBBY said decisions on the leases will depend on foot traffic, margin evolution, and profitability in brick and mortar versus digital.  They are also going to monitor the impact of stores on the digital business (it sounded like they are investing a lot in building out data architecture).  Some of the stores are testing a more showroom/distribution facility concept with less inventory and more on display.  I personally think that is where they’ve got to go.  You do not need towels piled to the ceiling in shelves along the wall, especially since so much of their business is registry based, where people just want to scan stuff and have it shipped later.

I think the conclusion is that things are very up in the air with their brick and mortar footprint.  I could see them rolling out a lot more Buy Buy Baby stand alone stores and/or their furniture concepts: World Market and One King’s Lane.  They also own the weird (to me) Christmas Tree Shops.

REITs Exposure to BBBY

I doubt that I (or the even the entire market, really) can predict what is going to happen with BBBY’s brick and mortar business in the future.  It seems uncertain, perhaps more than many other retailers.  Exposure to BBBY, all else being equal, is probably a negative.  So let’s look at the REITs we examined previously to see how much exposure they have to BBBY.

First, Kite Realty Group (“KRG”) has 2.2% of annual base rents (“ABR”) derived from BBBY, as of their March 2018 update.  BBBY ranks as their 4th largest tenant on this metric.  KRG also highlights BBBY as one of their featured investment grade tenants in this presentation.

Kimco (“KIM”) has BBBY listed at 1.8% of ABR as of the most recent investor presentation (12/31/17).  BBBY is listed in the top 5 tenants (tied with Albertsons at #4).  One interesting thing that I did not see the last time I checked out their IR site is this presentation from IHL group, “Debunking the Retail Apocalypse.”  I will have to put this in my to be read folder and circle back with any observations, perhaps in the comments.

Brixmor (“BRX”) only has 1.1% coming from BBBY.  It ranks as number 10 on their list of top tenants by ABR as of 12/31/17.  I do note the BBBY ABR per square foot is the highest among the BRX top 10.  BRX definitely has a higher exposure to grocers in their top 10- versus KRG and KIM.

Vereit (“VER”) appears to have virtually no exposure.  BBBY is not listed among the top tenants and I only found 2 properties with BBBY listed as the tenant in their portfolio page (which is a pretty neat feature).  As I mentioned before, I am long and wrong on this one, with a cost basis of ~$8.

I bought it after the accounting “blow up.” I neglected to mention last time that Larry Robbins, of Glenview Capital Management, owns around 20MM shares.  He has been active a few times in the past, if needed.  As you will recall, one of my checklist items is “real” shareholder representation in the boardroom.

Unsurprisingly, Regency Centers (“REG”) does not have BBBY listed among the top 10 tenants.  I am fairly certain they have very little, if any exposure.  They appear to have an even higher percentage of ABR derived from grocers than BRX.  Similarly, Store Capital (“STOR”) has no exposure among their top 10 largest tenants.  They also likely have zero exposure as they focus more on middle market companies [and weird stuff like Bass Pro shops and Applebees and O’ Charley’s Restaurants].

It looks like Ramco-Gershenson (“RPT”) named a new CEO since last we checked (on April 12, 2018).  Maybe it is because they have BBBY featured in a photo on the IR page on their website.  hah!  Just kidding, it looks like they just promoted their COO.  Anyway, they have 2.8% to BBBY and it is their #3 largest tenant.

RPT also highlights that BBBY expanded in stores from 1530 to 1546 (1.05% increase) in 2017.  Sounds like BBBY management is keeping about 25% of those on short term leases/under review over the next couple years.

I also decided to check out Federated Realty (“FRT”) as they are reputed to be one of the best operators in the business.  FRT has 2.17% exposure to BBBY as a percentage of ABR.  BBBY ranks #4 in their largest tenant roll (virtually tied with #3 The GAP).

Conclusion

What have we learned?  I am still skeptical of my ability (or anyone’s, really) to accurately forecast what will happen in retail and the related real estate.  It is probably better just to rely on base rate analysis and historical evidence that cheap stocks tend to outperform.  If you have been long Amazon and short a bunch of bankrupt retailers since 2002, I would probably conclude that you are excepted and should keep “doing you.”

All else being equal, I would prefer REITs with lower exposure to BBBY.  So maybe if BRX, VER, KIM, and KRG comprise the cheaper basket of relevant securities, I would weigh BRX and VER more heavily than the other two.  For now, however, I am still waiting for my pitch on these (other than VER).

Ok, a UPS guy just banged on my door, while throwing a package on my porch at 8:30 a.m. on Sunday morning, making my dogs bark and baby cry, so I’ve got to go (seriously).  Not sure how a delightful and convenient retail space with pleasant music, lighting, and instant gratification can compete with that…hah.

Thanks for reading (and a special thank you to those who bought stuff via affiliate links last week and/or supported our advertisers)!  We may get to break even on this operation yet (massive investment gains excluded).