BJ’s Wholesale Club: Defensive Stock In An Uncertain Economy (NYSE:BJ)

Introduction

As one of the most popular shopping locations, BJ’s Wholesale Club Holdings, Inc. (NYSE:BJ) has proven its ability to offer customers value in an inflationary environment that has also seen substantial supply chain disruptions. Growth in new memberships and renewals can be attributed to the company’s focus on streamlining assortments, boosting its own-brand portfolio, and strengthening its omnichannel capabilities. In short, the firm was able to enhance the engagement of its members and deliver premium value to its customers. The fiscal year 2022 is anticipated to be BJ’s most successful financial year.

BJ’s Four Pillars

BJ’s was founded in 1984 as a membership-only warehouse club chain in the United States. It currently operates 235 warehouse clubs and 164 gas stations in 18 states. Its presence is mainly concentrated on the East Coast, in addition to Ohio, Michigan, and Indiana, and it has a market share of around 8% in the American warehouse club market.

The company focuses on four strategic pillars:

1- Members’ acquisition and retaining existing ones

The number of memberships is a key leading indicator for large warehouse clubs. BJ’s has over 6.5 million members, with an average annual spending of over $2,000 per shopper. The firm managed to maintain a high renewal rate of 89% in FY 2021, compared to 87% in FY 2018.

2- Delivering value

BJ’s constantly reinvests in its membership business model by innovating its loyalty programs and maintaining a high degree of operational efficiency that drives consistent value to its members.

3- Convenience through digital

In addition to expanding its physical presence, BJ’s improved its digital shopping experience to suit current fashion better. It provides more convenience for its club members through a wide range of digital and handy shopping options like BJs.com, the BJ’s mobile app, digital coupons, buy online, pick up in-club, curbside pickup, same-day delivery, Same-Day Select, and ExpressPay. During the third quarter of 2022, digital sales constituted 8% of the company’s total sales. Moreover, this strategy drives younger member engagement and increases basket ticket sales.

4- Extend BJ’s reach

Although other companies are decreasing their geographic presence and closing stores, BJ’s has accelerated the pace of openings. They expanded their network by entering their 18th state with the Noblesville, Indiana location. Additionally, its CEO, Robert Eddy, claims that the clubs they have launched in recent years are doing better than they anticipated and will continue to open clubs at a rate of 4% to 5% unit growth for the foreseeable future.

BJ’s business remained strong throughout and following the pandemic period. Its year-over-year quarterly sales increased for 15 consecutive quarters, implying that the company can grow during different economic conditions. Its management now expects comparable club sales, excluding gas, will rise by 5% to 5.5% and that full-year EPS will be in the $3.70 to $3.80 range.

Competitive Advantage

BJ’s is expanding aggressively outside its regional concentration in the eastern states. We’ll briefly review its market positioning using Michael Porter’s five forces framework to understand better its capacity to implement its growth initiatives effectively and foster a long-term value for its shareholders.

Threat of New Entrants (Low)

Several factors weaken the threat of new entrants to the warehouse club industry, such as the economies of scale that a newcomer cannot easily reach and the sizable capital requirements required to start competing efficiently with current market players. As such, potential entrants only pose a threat if a third party decides to acquire a well-established rival of BJ’s with plans to expand quickly.

Threat of Substitutes (High)

Substitutes for BJ’s are readily available, whether from other warehouse clubs, local shops, convenience stores with a greater presence, or even online stores. Moreover, switching costs are negligible, and the merchandise offered can be easily compared by customers as product differentiation is low.

Bargaining Power of Customers (Low)

Members lack any real bargaining power and are only able to take advantage of the membership’s features without being able to negotiate a lower price or additional benefits.

They can opt not to renew their membership or not purchase a specific item from a wholesale club and choose to buy it from another merchant or discount store. BJ’s has over 6.5 million members, and its market share is only 8% of the total warehouse club industry, implying that this is a massive market and that no one member or group of members contributes significantly to the total sales of a wholesale club.

Bargaining Power of Suppliers (Low)

The negotiating leverage is in the hands of the clubs since they are big-volume buyers, although their suppliers are well-recognized brands. In BJ’s case, suppliers must comply with a clear code of conduct and cannot lead the negotiations to reach high prices or more favorable terms of sale. Moreover, BJ’s has entered into an agreement to acquire four distribution centers and their related private transportation fleet from Burris Logistics to take over management of their supply chain network and decrease inventory risk.

Competitive Rivalry (High)

Costco Wholesale (COST), Sam’s Club, and BJ’s Wholesale are all wholesale clubs that advertise low pricing to entice customers and give them significant cost savings. The companies offer a wide selection of comparable-priced products, but they compete fiercely by offering more value to members and maintaining top-line revenue growth. BJ’s consistently provides 25% or more savings on a representative basket of branded groceries compared to its other grocery stores and traditional supermarkets.

Rankings

Moving on to the factors that led us to conclude that BJ’s is an undervalued investment, we will explain the ranking system we use to identify those opportunities. This ranking method rates each stock based on various factors to determine which firms have the highest quality, the most attractive value, and the most promising momentum. We backtested this model and concluded that the companies scoring above 90 (the top decile) performed better than other companies. In this case, BJ’s is on top of the list with a rank of 99.9. Below you can find the breakdown of the ranking by factor:

Ranking (%)	Quality (45%)	Value (20%)	Momentum (35%)
99.9	99.6	77.6	94.1

Click to enlarge

Source: Factor-Based, Factset

The complete process is illustrated in our Factor-Based US Equity Strategy presentation on our website. We’ll now take a closer look at some factors that led to this outstanding rank.

Quality

Return on Equity (ROE) is one metric used to compare the quality of different companies and how effectively a company is growing its value and managing investors’ money. Compared to its other companies, BJ’s has a relatively high ROE (TTM) at 65.2%, compared to 29.47% for Costco, 10.83% for PriceSmart (PSMT), and 10.31% for Carrefour (OTCPK:CRRFY).

ROE is just one piece of a bigger puzzle; quarterly asset turnover is another quality factor that measures the efficiency of a company’s assets in generating sales. BJ’s asset turnover has been consistently increasing since 2020.

Value

Finding reasonably priced businesses relative to some fundamental metric is the goal of the value factors. Our ranking system uses a ratio calculating EBITDA (adjusted for CapEx and R&D) to Enterprise Value. This metric helps assess how much the company generates for every unit of Enterprise Value. BJ’s value factor is 77.6, and the ratio increased during the last quarter.

Momentum

Momentum factors identify upward or downward trends in a stock’s price. The price slope is one of the momentum factors we use to identify good times to initiate a position in a stock. It is computed by dividing the 63-Day VMA (Volume Weighted Moving Average) by the 252-Day VMA. This factor has been above 1.0 since the pandemic’s emergence in 2020 and began to rise in September, indicating a potential medium upward swing.

Investment Risks

BJ’s had a successful year in 2022 and is today one of the east coast’s key market players in the wholesale club industry. Still, it confronts several risks that could negatively affect its capacity to realize its full growth potential.

Employee turnover and a tight labor market

The company’s rating of 3.2 on Glassdoor is lower than that of its direct competitors, like Costco (4.0) and Sam’s Club (3.3). Additionally, only 48% of previous employees recommend BJ’s as a workplace to their friends. This indicates that employee turnover will likely increase if the firm does not work more on its human capital management. Since the labor market is currently tight, it might be difficult to retain employees, affecting the firm’s long-term expansion plans and efficiency.

Memberships and changing consumer preferences

The reliance on memberships and the potential impact of shifting consumer preferences are major challenges to BJ’s that affect its ability to maintain efficiency. The firm’s strategy, which relies on buying items in large quantities, works well as long as members’ shopping behavior remains unchanged. But customers could decide to transfer their memberships to a rival, such as Costco or Sam’s Club, where membership costs and discounts are roughly similar. As such, BJ’s could end up with large volumes of unwanted and likely perishable goods.

Conclusion

In summary, BJ’s Wholesale Club’s business model, which focuses on providing excellent value to its members, has fared better than many other business models in the current economic environment. Despite historical inflation rates and declining consumer spending, the latest earnings showed better-than-expected performance as consumers sought value while extending their budgets in the face of a probable recession. Investors have a reasonable opportunity of outperforming the market, driven by BJ’s long-term plan to open new clubs and grow its memberships. The company is included in our US equity portfolio because it ranks well in our factor-based ranking approach and exhibits a higher combination of quality, value, and momentum factors.