BJ’s Wholesale Club: Immune to Consumer Spending Weakness?

BJ’s Wholesale Club operates 176 retail stores in 16 eastern states. These large-format stores, which average about 113,000 square feet in size, offer a diversified line of merchandise at discounted prices. Customers must pay an annual membership fee that starts at $45. Food sales, including fresh meats and produce, dairy products, beverages, dry grocery goods, canned items, and frozen foods, generated 61% of total revenues through the first nine months of fiscal 2008. General merchandise such as consumer electronics, small appliances, tires, jewelry, health and beauty products, furniture, toys, and apparel, generated 37% of revenues. The remaining 2% of revenues came from memberships fees, which are an important driver of customer loyalty.

About 13% of the company’s sales consist of products marketed under its Berkley & Jensen and Executive Choice private labels. Many stores also offer specialty services such as optical centers, food courts, photo processing, brake and muffler maintenance, home improvement services,Verizon Wireless centers, propane tank filling services, and discounted home heating oil. About half the stores also sell gasoline at below market prices. Excluding gasoline, fiscal 2007 saw sales growth of just 0.5% and lower profit margins stemming from an unfavorable merchandise mix and higher markdown activity. In response, BJ closed its ProFoods Restaurant Supply operations and all 46 pharmacies. It improved its membership acquisition strategy, priced key hightraffic items more competitively, and expanded its selection of high-margin food products such as organic and prepared foods, imported cheeses, and fresh meats. These initiatives provided a boost to operations. Through the first nine months of fiscal 2008, total revenues climbed 7.9% year-over-year to $6.53 billion.

Excluding gasoline, sales in comparable stores grew 2.4% despite the elimination of pharmacies. Food sales, which increased 6% on a comparable store basis, continued to drive the top line. General merchandise sales in comparable stores rose 2%. However, due to lowermargin gasoline sales, early markdown activity, and an unfavorable product mix, the gross profit margin fell 34 basis points to 7.51%. Because this was offset by better expense management, lower pre-opening expenses, and higher membership fees, the operating profit margin expanded six basis points to 1.69%. Net income from continuing operations grew 9.6% to $70.7 million or $1.08 per share. Results were even better in fiscal Q3 with total revenues up 8% to $2.17 billion.

Excluding gasoline, sales in comparable store sales grew 3.6%. The operating profit margin jumped 18 basis points to 1.72%. Net income from continuing operations increased 15% to $22.7 million or 35 cents per share. While a weakening economy poses a significant investment risk, discounters such as BJ should do well as consumers try harder to stretch every dollar. Competition from other retailers, however, could shrink margins for everybody.

Nonetheless, BJ’s product mix is heavily skewed toward less cyclical items so the company should stand up well against any further weakening in consumer spending. Recent sales levels suggest business remains strong. Excluding gasoline, November comparable store sales were up 4.5%. This was the largest single monthly gain in 2007 to date. BJ may have also benefited from electronics sales during the holiday season.