Off-price retail company Ross Stores (NASDAQ:ROST) reported Q3 FY2023 results beating Wall Street analysts' expectations, with revenue up 7.9% year on year to $4.92 billion. Turning to EPS, Ross Stores made a GAAP profit of $1.33 per share, improving from its profit of $1.00 per share in the same quarter last year.
Ross Stores (ROST) Q3 FY2023 Highlights:
- Revenue: $4.92 billion vs analyst estimates of $4.84 billion (1.8% beat)
- EPS: $1.33 vs analyst estimates of $1.22 (8.8% beat)
- Free Cash Flow of $272.5 million, down 23.1% from the same quarter last year
- Gross Margin (GAAP): 27.6%, up from 25% in the same quarter last year
- Same-Store Sales were up 5% year on year
- Store Locations: 2,112 at quarter end, increasing by 93 over the last 12 months
Selling excess inventory or overstocked items from other retailers, Ross Stores (NASDAQ:ROST) is an off-price concept that sells apparel and other goods at prices much lower than department stores.
For example, if department store Nordstrom is left with a glut of spring dresses because of unusually cold weather, Nordstrom may sell those in bulk to Ross at pennies on the dollar rather than discount the items and try to sell them individually. This is often done to clear floor space for a new season or to avoid promotions that could damage future pricing power.
Because of Ross’ unique buying approach, shopping there is often a treasure hunt–what the consumer loses in reliable selection or the latest trends is made up for with very low prices. Prices of Ross goods can be as much as 50% lower than those of department stores. Over time, the company’s size and buying power has led to a more consistent selection of items from brands such as Nike, Calvin Klein, and Columbia to name a few.
The core customer is the value-conscious shopper who enjoys the thrill of the hunt. This customer is typically a middle-aged, middle-income woman. This customer is willing to spend more time going through less organized racks and shopping exclusively in person–since Ross has a very limited online presence–in exchange for meaningful discounts.
Off-Price Apparel and Home Goods Retailer
Off-price retailers, which sell name-brand goods at major discounts because of their unique purchasing and procurement strategies, understand that everyone loves a good deal. Specifically, these companies buy excess inventory and overstocks from manufacturers and other retailers so they can turn around and offer these products at super competitive prices. Despite the unique draw lure of discounts, these off-price retailers must also contend with the secular headwinds of online penetration and stalling retail foot traffic in places like suburban shopping centers.
Off-price and discount retail competitors include TJX (NYSE:TJX), Burlington Stores (NYSE:BURL), and Ollie’s Bargain Outlet (NASDAQ:OLLI).Sales Growth
Ross Stores is one of the larger companies in the consumer retail industry and benefits from economies of scale, enabling it to gain more leverage on fixed costs and offer consumers lower prices.
As you can see below, the company's annualized revenue growth rate of 5.6% over the last four years (we compare to 2019 to normalize for COVID-19 impacts) was mediocre , but to its credit, it opened new stores and grew sales at existing, established stores.
This quarter, Ross Stores reported solid year-on-year revenue growth of 7.9%, and its $4.92 billion in revenue outperformed Wall Street's estimates by 1.8%. Looking ahead, analysts expect sales to grow 6.7% over the next 12 months.
Number of Stores
The number of stores a retailer operates is a major determinant of how much it can sell, and its growth is a critical driver of how quickly company-level sales can grow.
When a retailer like Ross Stores is opening new stores, it usually means it's investing for growth because demand is greater than supply. Ross Stores's store count increased by 93 locations, or 4.6%, over the last 12 months to 2,112 total retail locations in the most recently reported quarter.
Over the last two years, the company has generally opened new stores and averaged 4.4% annual growth in its physical footprint, which is decent and on par with the broader sector. With an expanding store base and demand, revenue growth can come from multiple vectors: sales from new stores, sales from e-commerce, or increased foot traffic and higher sales per customer at existing stores.
Same-Store Sales
Ross Stores's demand within its existing stores has been relatively stable over the last eight quarters but fallen behind the broader consumer retail sector. On average, the company's same-store sales have grown by 1.2% year on year. With positive same-store sales growth amid an increasing physical footprint of stores, Ross Stores is reaching more customers and growing sales.
In the latest quarter, Ross Stores's same-store sales rose 5% year on year. This growth was an acceleration from the 3% year-on-year increase it posted 12 months ago, which is always an encouraging sign.
Gross Margin & Pricing Power
Gross profit margins are an important measure of a retailer's pricing power, product differentiation, and negotiating leverage.
Ross Stores has weak unit economics for a retailer, making it difficult to reinvest in the business. As you can see below, it's averaged a 30.5% gross margin over the last eight quarters. This means the company makes $0.30 for every $1 in revenue before accounting for its operating expenses. 
Ross Stores's gross profit margin came in at 27.6% this quarter, marking a 2.6 percentage point increase from 25% in the same quarter last year. This margin expansion is a good sign in the near term. If this trend continues, it could signal a less competitive environment where the company has better pricing power, less pressure to discount products, and more stable input costs (such as distribution expenses to move goods).
Operating Margin
Operating margin is an important measure of profitability for retailers as it accounts for all expenses keeping the lights on, including wages, rent, advertising, and other administrative costs.
in line with the same quarter last year. This indicates the company's costs have been relatively stable.
Zooming out, Ross Stores has managed its expenses well over the last two years. It's demonstrated solid profitability for a consumer retail business, producing an average operating margin of 11.2%. On top of that, its margin has remained more or less the same, highlighting the consistency of its business. The company's operating profitability was particularly impressive because of its low gross margin. This margin is mostly a factor of what Ross Stores sells and takes fundamental shifts to move meaningfully. Companies have more control over their operating margins, and it signals strength if they're high when gross margins are low (like for Ross Stores).EPS
Earnings growth is a critical metric to track, but for long-term shareholders, earnings per share (EPS) is more telling because it accounts for dilution and share repurchases.
In Q3, Ross Stores reported EPS at $1.33, up from $1.00 in the same quarter a year ago. This print beat Wall Street's estimates by 8.8%.
Between FY2019 and FY2023, Ross Stores's adjusted diluted EPS grew 11%, translating into an unimpressive 2.8% average annual growth rate.
On the bright side, Wall Street expects the company to continue growing earnings over the next 12 months, with analysts projecting an average 10.9% year-on-year increase in EPS.
Cash Is King
If you've followed StockStory for a while, you know that we emphasize free cash flow. Why, you ask? We believe in the end, cash is king, and you can't use accounting profits to pay the bills.
Ross Stores's free cash flow came in at $272.5 million in Q3, down 23.1% year on year. This result represents a 5.5% margin,
Over the last eight quarters, Ross Stores has shown solid cash profitability, giving it the flexibility to reinvest or return capital to investors. The company's free cash flow margin has averaged 5.2%, well above the broader consumer retail sector. Furthermore, its margin has averaged year-on-year increases of 9.6 percentage points. This likely pleases the company's investors.
Return on Invested Capital (ROIC)
We like to track a company's long-term return on invested capital (ROIC) in addition to its recent results because it gives a big-picture view of a business's past performance. It also sheds light on its management team's decision-making prowess and is a helpful tool for benchmarking against peers.
Ross Stores has an excellent track record of making successful investments and is led by a competent management team. Its five-year average ROIC is 26%, beating other consumer retail companies by a wide margin.
Key Takeaways from Ross Stores's Q3 Results
Sporting a market capitalization of $41.98 billion, more than $4.50 billion in cash on hand, and positive free cash flow over the last 12 months, we believe that Ross Stores is attractively positioned to invest in growth.
We enjoyed seeing Ross Stores exceed analysts' gross margin expectations this quarter. We were also excited its revenue outperformed Wall Street's estimates, driven by better-than-expected same-store sales growth and more new store openings. On the other hand, its earnings forecast for next quarter missed analysts' expectations with management expecting decelerating same-store sales growth thanks to the uncertain macro environment. Overall, this quarter's results seemed fairly positive and shareholders should feel optimistic. The stock is up 4.6% after reporting and currently trades at $125.62 per share.
Is Now The Time?
Ross Stores may have had a favorable quarter, but investors should also consider its valuation and business qualities when assessing the investment opportunity.
We have other favorites, but we understand the arguments that Ross Stores isn't a bad business. Although its mediocre same-store sales performance has been a headwind, its market-beating ROIC suggests it has been a well-managed company historically.
Ross Stores's price-to-earnings ratio based on the next 12 months is 21.5x. In the end, beauty is in the eye of the beholder. While Ross Stores wouldn't be our first pick, if you like the business, the shares are trading at a pretty interesting price right now.
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