During a recession, it's reasonable to expect certain specialized retailers to enjoy an uptick in business, and shopping club warehouses certainly fit this expectation in the current pandemic-induced economic malaise. BJ's Wholesale Club (NYSE: BJ), the small, regional challenger to Costco and Walmart's Sam's Club, has enjoyed a sales renaissance through the first two quarters of 2020. And as of this writing, BJ's stock is up roughly 103% year to date -- a clean doubling since the 1st of January.
BJ's success shouldn't ward off prospective shareholders, however. The company is utilizing the sudden pop in its fortunes to fortify future sales and improve net profitability. And as we'll discuss below, despite its steep ascent, BJ's stock hasn't yet landed in "overvalued" territory.
Revenue and membership momentum
BJ's second quarter 2020 earnings, released on Aug. 20, continued an impressive run from the first quarter. On a year-over-year basis, sales improved by 18.4% to $3.9 billion, while membership fees advanced by 10.2% to $82 million, summing to a top line of nearly $4 billion. In the first six months of the year, revenue has jumped by 19.5% to $7.8 billion against the comparable prior-year period, while net income has soared 124% to $203 million.
BJ's has gained a windfall of new customers during the pandemic, and its membership base now exceeds 6 million members, an expansion of 10% over the year-end 2019 total. CEO Lee Delaney described this extraordinary growth during the company's earnings conference call as packing 18 months' worth of membership additions into the past six months. Delaney conjectured that if the current pace continues, BJ's will have crammed three years of membership growth into 12 months by the end of 2020. The CEO also provided the following insight on the profile of new customers, as well as the wholesaler's efforts to convert them to brand loyalists:
Not only are new members joining at elevated levels, they skew younger and are more digitally engaged. We believe our membership will be stickier, and we are adding incremental efforts to ensure higher levels of engagement. We have added incremental marketing to support member outreach and have been encouraged by the results in new and existing clubs. We are also focused on ensuring our members remain engaged, especially new members. We are closely monitoring their behavior and utilizing a targeted, personalized approach to keep them engaged in shopping.
Removing a drag on the income statement
One of the objections to buying BJ's stock I've personally held in the past is the company's heavy debt load. When the East Coast-based chain went public in July 2018, it used most of its IPO proceeds of $690 million to pay down a $631 million term loan, yet this still left $2 billion of debt on the books (against just $31 million in cash), along with a steep quarterly interest expense burden of $33 million. This interest expense total equated to more than a third of BJ's $90 million in operating income in fiscal third quarter 2018.
To its credit, management has steadily reduced the club operator's debt obligations over the last two years, including paying down roughly $480 million on borrowings in the first two quarters of 2020. Total debt has been trimmed to $1.2 billion, and this gradual deleveraging has diminished the interest expense drag on the company's income statement -- in fact, it's been cut in half since BJ's IPO:
Reasonable market pricing
At the beginning of March, just as the COVID-19 pandemic was taking hold in the U.S., I wrote about a potential mismatch in the market's pricing of Costco's and BJ's shares. I argued that as BJ's had lapped the one-time expenses from its IPO, its profitability had converged with that of Costco's; yet, at a forward earnings multiple of 36.5, Costco was trading at near triple BJ's forward price-to-earnings (PE) ratio of 13.5.
The pandemic has opened investors' eyes regarding the value of BJ's business model, and the two stocks now trade closer to parity -- but only by a little bit. BJ's shares have doubled since early March, but a strong increase in its earnings estimates means that its forward PE ratio has bumped up by just 4.5 percentage points, to 18.0.
Conversely, with its own year-to-date stock appreciation of 17%, Costco now trades at 40 times forward earnings. Thus BJ's retains its substantial discount to its much-larger rival. It can also be purchased at a discount to consumer staples stocks in the S&P 500 index, which trade on average at 21 times forward earnings.
Given the various points above, what's the investing takeaway? Still relatively inexpensive, marked by continuous deleveraging, and capitalizing on an unanticipated membership boost in 2020, BJ's isn't quite the bargain it was in March, but it's still a timely and persuasive purchase for patient investors looking for stable growth ideas. I'm planning to pick up shares as soon as internal trading rules at The Motley Fool allow following the publication of this article.
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