Ross Stores’ Guidance Raises Fundamental Questions

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All indications suggested Ross Stores (NASDAQ:ROST) was firing on all cylinders. Now, not so much. Though the company recently reported fourth-quarter earnings per share that were in-line with analysts’ consensus estimate, a tepid 2019 profit outlook sent ROST stock lower on Wednesday.

The salt in the wound: Shares of Ross’ peers and rivals, Kohl’s (NYSE:KSS) and Target (NYSE:TGT),  both markedly rose on Tuesday following solid quarterly prints and impressive guidance.

The lackluster outlook might — might — be an attempt by ROST to lowball expectations of a company that’s in the habit of topping them. The Q4 results  marked the first time in eleven quarters that Ross Stores’ EPS didn’t beat the consensus outlook.  It was also only the second time in the past sixteen quarters that ROST’s EPS didn’t come in above the consensus outlook.

If the tepid guidance is  not just an effort to lower expectations, then ROST stock just became a very difficult retail name to own.

Earnings Recap

It was seemingly going to be another great year for ROST stock. The company logged same-store sales growth of 3.0% during Q3 as well as in the first nine months of 2018. SSS growth ramped up to 4% in Q4. Furthermore, its Q4 numbers were up against same-store sales growth of 5.0% in the final quarter of 2017.

Same-store sales growth didn’t translate into earnings growth, though. Adjusted for a favorable outcome on a tax matter, profits per share of ROST stock rolled in at $1.13, falling a penny short of some estimates while matching others. Operating margins fell 1.35 percentage points to 13.2%, though that dip is at least partially attributable to higher freight and wage costs.

Overall revenue of $4.1 billion was slightly better than Q4-2017’s top line.

The owners of ROST stock understandably viewed the glass as half-empty, however, in light of the company’s guidance. ROST is only looking for same-store sales growth of between 1% and 2% this year, and though it plans to open approximately 100 new stores, the 99 it added last year didn’t meaningfully boost its overall sales last quarter.

CEO Barbara Rentler explained, “While we hope to do better, we continue to take a prudent approach to forecasting our business for 2019. Although we remain favorably positioned as an off-price retailer, we face our own difficult sales and earnings comparisons, a very competitive retail landscape, and an uncertain macro-economic and political environment.”

Drilling Down on ROST Stock

The current overall retail environment is uncertain.

While the initial retail spending report from the Census Bureau indicated that spending slowed in December, sales of clothing and accessories reportedly grew 4.7% in the final month of last year, playing right into Ross Stores’ hand.

And a lukewarm economy that keeps consumers in a “willing but cautious” spending mood against a backdrop of continued department store closures is the proverbial sweet spot for Ross Stores.

The off-price retailer struggled to exploit the opportunity, though. Rentler specifically noted “weakness in our ladies apparel business during the holiday season.” During the conference call, Rentler clarified that the weakness was primarily the result of the wrong balance of assortment in certain women’s apparel galleries. Inventory levels, however, are not backed up headed into the spring season.

One surprising bright spot was men’s clothing.

The Outlook of ROST Stock

While the off-price retail segment has been one of the industry’s few bright spots , it’s been suggested by multiple observers that  saturation is becoming an issue for the sector, and that the best days of off-price retail may be in the rear-view mirror. A slowdown of closures of  full-price department stores also poses a threat to ROST and its peers, as it’s these liquidations that supply much of Ross Stores’ inventory.

The company’s 2019 outlook tacitly underscored that concern.

Rentler isn’t worried about that possibility, though. She explained during the conference call “I don’t think it’s an off-price tougher to execute model, I don’t think that’s the issue. I think the issues were internal, self-inflicted. It’s the assortment that we’ve built out for the customer, I don’t think it has anything to do with the off-price model.”

Upcoming earnings reports from ROST’s rival, Stein Mart (NASDAQ:SMRT), will add perspective to that discussion. Stein Mart is slated to post its fourth-quarter numbers in mid-March.

As of this writing, James Brumley did not hold a position in any of the aforementioned securities. You can learn more about James at his site, jamesbrumley.com, or follow him on Twitter, at @jbrumley.

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