ROST - Right Tail Capital - Ross Stores: Creating Tremendous Value Per Dollar Of Investment
Summary
- Ross Stores provides value to several of its partners.
- Interestingly, Ross’ value proposition likely increases during tougher economic environments like the one we’re in today and the great financial crisis.
- The opportunity to invest in Ross at a discount to intrinsic value likely exists for a few reasons.
- I take comfort in knowing that Ross offers great, and potentially improving, values to its customers during a tougher economy.
The following segment was excerpted from this fund letter .
Ross Stores ( ROST )
One of Right Tail’s investments is Ross Stores which I purchased at inception in May 2022. I have also owned this business since the early onset of Covid in 2020, one occurrence when the market offered the shares at excellent value.
The company is headquartered in California and has an enterprise value of ~$41B. Like Dollar Tree, Ross Stores delights its customers with a treasure hunt experience. The company has ~2000 off-price retail stores around the country. Ross’ name-brand apparel and home fashions offer savings of 20% to 60% relative to typical retail prices.
Like many Right Tail investments, Ross provides value to several of its partners. Customers, who either want a bargain or possibly need a bargain, discover less expensive branded goods. Vendors rely on Ross to sell unwanted inventory discreetly. Rather than discounting the product at their own stores or website and training customers to expect and even wait for discounts, a vendor sells some of its product to Ross receives cash for its inventory and can move on.
Interestingly, Ross’ value proposition likely increases during tougher economic environments like the one we’re in today and the great financial crisis. Consumers know they can find a good deal. Vendors liquidate unwanted inventory and plan for the next selling season. Often, Ross Stores can establish new relationships with vendors who need them more during tougher times. This increases its ability to delight its customers. While vendors may prefer to partner with Ross only during tough times, I suspect Ross’ ability to generate additional sales keeps them coming back. These dynamics help perpetuate the company’s moat. More vendors likely lead to more customers.
This fantastic value proposition has helped Ross please its shareholders. The stock has risen >200x (not including dividends) since its IPO in 1985. Buffett’s retained earnings test also confirms the stellar returns – market cap has grown by $33B since 2010 while retained earnings have only grown $2.4B. This indicates that Ross Stores has created tremendous value per dollar of investment.
The opportunity to invest in Ross at a discount to intrinsic value likely exists for a few reasons. There are general worries about the health of the economy, stock market and consumers. Recent same store sales have been down low to mid-single digits after a strong 2021. These concerns also ignore that same store sales have increased low to mid-single digits over the last two decades. Additionally, Ross has faced margin pressures due to labor shortages and freight challenges, the latter of which continue to abate. It’s been a unique, challenging set of circumstances the last few years between Covid, stimulus and cost pressures that have affected all parts of Ross’ and its off-price competitors’ businesses.
In a typical year, Ross likely grows earnings low double digits or higher. They achieve this through same store sales and new stores each growing low to mid-single digits. From this base of 5-8% revenue growth, the company achieves some operating leverage and shrinks the share count to get to low double-digit earnings growth. The opportunity today is potentially sweetened assuming Ross can improve margins back to pre-pandemic levels. Combine it all and a mid-teens CAGR or 5-year double seems like a reasonable base case from today’s prices.
The short-term risks are questions around the economy. Certainly, if consumers have a tougher time, they may buy fewer goods in the short term. That said, I take comfort in knowing that Ross offers great, and potentially improving, values to its customers during a tougher economy. Longer term I worry about store count and a successful online treasure hunt experience. Ross increased its long-term count target last year and continues to enter less-penetrated geographies. The online experience strikes me as inferior to the in-person experience for consumers and vendors alike. Vendors do not want their closeout sales to be widely broadcasted. While consumers enjoy the convenience of online shopping and home delivery, they may not get the same treasure hunt experience of serendipity. Furthermore, the ability to see these items firsthand is important.
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Editor's Note: The summary bullets for this article were chosen by Seeking Alpha editors.
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Right Tail Capital - Ross Stores: Creating Tremendous Value Per Dollar Of Investment