BJ's Wholesale Club: Wait For Near-Term Headwinds To Be Over

Thesis

The progress BJ's Wholesale Club (NYSE:BJ) has made in improving execution and making use of its data to provide value to its members was highlighted, in my opinion, by the company's most recent earnings report and investor day. It's clear that management has made member retention and expansion a top priority thanks to the emphasis on providing value to members. Looking back, it appears that BJ has successfully reinvested in the business by raising prices, enhancing the customer service they provide, and introducing an omni-channel shopping experience. However, I don't think the covid-related tailwinds that BJ has been riding since 2020 will continue. For instance:

1. The shift to pantry loading during COVID has undoubtedly improved performance, which has elevated demand;
2. People shopping for higher-value goods to "save money" during the pandemic;
3. With inflation now in effect, consumers will spend less;
4. There is no more government stimulus

While I still anticipate gradual market share growth for the club channel, I believe the tailwinds I mentioned above are going to become very big headwinds in the near-term. Despite what appears to be improving fundamentals, I am of the opinion that the near-term headwinds will cause the consensus to revise estimates downward. This is because the consensus is likely to re-extrapolate their estimates from a lower base if BJ reports weaker-than-expected growth as a result of these headwinds. As a result, until BJ has dealt with these short-term challenges, I think it is best to maintain a hold rating.

Growth outlook (post near-term headwind)

There are a number of negative factors that will most likely affect BJ in the near future, as I've already mentioned. Although I believe that to be inevitable, I am optimistic that once BJ overcomes these non-structural obstacles, the tide will turn in his favor. In fact, BJ's recent earnings report and investor day presentation demonstrated the significant improvements and advancements in the fundamental aspects of their business that have occurred in recent years. In addition to the things I've already mentioned that BJ has done (such as omnichannel offerings), I believe that BJ has also begun using data to drive decisions regarding member acquisition, retention, and targeting, as well as unit growth and other metrics. In addition, the merchandising division's management has changed in order to push for more relevant offerings. Lastly, I think the new credit card offering will be a net positive. I also think it's noteworthy that BJ is emphasizing its unique selling points to distinguish itself from even its most direct Club rivals. They're doing this by including its omni-channel capabilities in more places, as well as by offering a wider variety of pack sizes and SKUs.

What should be remembered is that these products and services are beneficial to BJ's core business, but they are not mission-critical on their own. They are incremental and will enhance BJ's offering as a whole. I would use Amazon (AMZN) prime as an analogy that offering prime video is not important to AMZN or critical to the business, but it sure does help with improving the overall product of prime. Put together, I believe all of these things point to BJ's core product improving and should eventually payoff.

Guidance

Unlike the pre-COVID growth targets, the new long-term targets are based on plausible drivers. In my opinion, the new long-term target is reasonable as they do not depend on extraordinary gains in market share or margin expansion, and also the underlying factors driving earnings growth are spread across multiple assumptions (mitigating the risk that any one of them will fail). As for FY23, eps outlook is weighed down by a number of factors that are not central to the business, most notably higher financing expense and normalizing gas profits. On the bright side, BJ is entering FY23 with record-high levels of all key membership metrics, which should lead to consensus extrapolating growth from a higher base. The guide also does not include a membership fee increase, which could be an upside driver if management feels necessary. Given these factors, I expect the EPS dip to be a one-time occurrence, and for business growth to resume at its normal rate by FY24.

Conclusion

Overall, I’d say BJ has made significant strides in improving its execution and business. While the COVID-related tailwinds that have boosted BJ's performance may be coming to an end, I am optimistic that the company's focus on member retention and expansion, as well as its use of data to drive decision-making and its unique selling points, will help it overcome the near-term headwinds and continue to grow in the long run. The new long-term targets are based on reasonable drivers and should provide a solid foundation for future growth. That said, I would recommend sidestepping the visible near-term headwinds and only invest when BJ gets past it.