BIG - Big Lots: Great Bond Alternative For Income Investors

Summary

• Big Lots has had mixed Q3 2022 earnings which can largely be attributed to the anomaly of 2021.
• The company is well-diversified and has the components to make it a resilient company in economic uncertainty.
• At current levels, the dividend yield is attractive and can provide a great risk-adjusted alternative compared to bonds. The company's history of improving shareholder value also lends us more confidence.

Thesis

We are initiating coverage of Big Lots ( BIG ) which is a beaten down stock that may present value for income-focused investors. The company operates in a more protected segment of the consumer discretionary market, and we believe that the company's scale and free cash flow generation will be sufficient to meet its dividend program and provide capital return that will outperform treasury bonds.

Company Overview

Big Lots is a retail chain that offers a wide range of products including furniture, home decor, groceries, toys, electronics, and more. The company operates over 1,400 stores in the United States and is known for its discounted prices on overstocked and closeout merchandise. Big Lots describes itself as a "Value-Obsessed Home Discount Retailer" with a focus on diversified product offerings with lots of space in its stores. In the past year, Big Lots has underperformed the market considerably, declining -54.66% compared to S&P 500's decline of -7.04% in the same time frame.

Q3 2022 Earnings

The Q3 2022 earnings were not great overall, with the company's inventory increasing and its comps declining by 11.7% on a YoY basis. The company also reported a 9.8% decline in Net Sales over the same time period and reported a loss of -$2.99 per share. However, we believe that the poor YoY comps is largely attributable to an outstanding year in 2021. Furthermore, there has been other bright spots such as 15% eCommerce order growth on a YoY basis. Though we don't expect major growth and changes in the fundamentals any time soon, we believe that the company's financial performance remains solid and has fared decently well given the macroeconomic headwinds.

Diversification

Unlike specialty retail stores, Big Lots is positioned in the general retail stores segment with a variety of product offerings, types of products offered, and distribution channels that can provide constant cash flow and return to shareholders. We believe that the company's national presence, its distribution channels (with increasing skew to e-commerce), and a diversified category mix makes the company's value proposition and fundamentals strong, and helps cement Big Lots' market position. Management also provided comp sales by category for Q2 2022, and the value of diversification is shown as furniture saw -26% decline (likely due to less moving and need for furniture) which has been offset by marginal declines in consumables and increases in food and seasonal categories.

Shareholder Return

Big Lots has been a steady dividend payer, with records that date back to 2014. The company currently pay $0.30 in quarterly dividend, which annualizes to a yield of 7.27% at current stock price . This yield is more than double the 10Y treasury yield which is currently hovering below 3.5% . The company also has had recent history of share buyback programs, as the company in December 2021 reported $250 million share buyback program. On a year-over-year basis, the average shares outstanding have declined roughly 10%, providing accretion to shareholder value. We believe that the buyback programs along with its recent commitment to stable dividend payouts demonstrate the company's commitment to shareholder return and protection of shareholder value. While we remain vigilant that recent financial performance may put the company's dividend payouts in question, we believe that the current yield makes the risk-reward proposition attractive and the company's balance sheet remains strong.

Balance Sheet Strength

Management announced a new $900 million Asset-Backed Lending facility which provides immediate liquidity of up to $360 million. Such access to liquidity in times of tougher credit markets demonstrate the strength of the company's balance sheet, as the company has numerous levers and assets to access capital during times of need. The company also has $60 million in cash on hand and also has various real estate assets such as distribution centers and warehouses.

Economic Risks

As a consumer-oriented company, Big Lots is susceptible to economic risks, mainly a consumer-led recession in the United States. The higher prices from inflationary pressures and decline in budgets have already seem to show in the results of Big Lots, as the company has seen declining sales in the recent year. However, we believe that Big Lots is still well-positioned comparatively to do well during a recession, as discount stores in general are more defensive than other retail stores. The company also strong retail presence across the nation, has access to liquidity due to its numerous assets, and have shown to be flexible in meeting the needs of consumers. We believe that this major economic risk, though surely a headwind, will be effectively mitigated by the company's position and value proposition.

Conclusion

We believe Big Lots can provide a stable yield for investors looking for an alternative to bonds. Big Lots has ample liquidity and has a proven track record of delivering stable dividends to shareholders in the recent years. Though we remain cognizant of risks, we believe that the risk-reward proposition favors investors at the current price, with a yield of over 7% in a stock that is more defensive than the industry given its market fit.

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