Bassett Furniture: Q3 Was Worse Than The Market Realizes – Seeking Alpha
I’m surprised Bassett Furniture (BSET) closed Friday near $38. The small-cap residential furniture manufacturer and retailer posted Q3 earnings on Thursday morning that beat analyst estimates – but mostly with the help of a one-time gain on sale and an easy comparison. Management cited continuing weakness into Q4, and increased investments in digital spending.
It wasn’t a bad quarter, to be sure. But it wasn’t great, either. Meanwhile, BSET shares had gained heavily into the report, including a 8% jump the day before earnings were released:
The declines of the past two days – 6.5% after the before-open report on Thursday, another 2.3% on Friday – only got BSET back to where it traded before earnings. And that doesn’t seem quite right. Admittedly, I didn’t think much of Q2 either, even though I was long BSET at the time – but the stock soared regardless. But from here, Q3 looks like a second straight quarter of decelerating growth – and both recent history in the space and management commentary toward Q4 suggests some caution going forward.
The headline numbers for the quarter looked solid. Revenue increased 9%, and adjusted operating margin compressed slightly (5.7% vs 5.8% the year before). As noted, Bassett beat estimates on the top line, with revenue growth 3 points higher than the Street expected and EPS of $0.43 coming in $0.06 better than consensus.
But below the headlines, the quarter really doesn’t look that great. A one-time gain on sale of a property in Las Vegas, net of a similarly one-time settlement of employee claims, contributed nearly $800K to EBIT. That aside, earnings might have beaten by a penny.
At the segment level, the numbers were mixed. Wholesale revenue rose 5.9%, with solid growth in the Bassett network and to the open market. Retail revenue increased 10% – but mostly from new store growth. Comps rose just 1.8%, and written sales declined 2.9%. Bassett cited storm-related store closures in south Texas at the end of the quarter as a headwind – but that pressure likely is modest at best. And CEO Rob Spilman said in the Q3 release that the “decline in store sales that we began to see this summer have [sic] continued into the first four weeks of the current quarter.”
The comp weakness in retail is a concern – and actually, so is the wholesale number, even if 5%+ growth looks solid. One of the reasons I thought Q2 was somewhat disappointing was because Bassett had an incredibly easy comparison – in fact, the year-prior quarter was Bassett’s worst since the financial crisis. Part of the reason I went long BSET early this year was precisely because soft Q2 and Q3 comparisons were on the way.
Yet, as I pointed out after Q2, two-year numbers weren’t very good. The two-year comp stack was 2.4%; wholesale revenue declined 6.6% between Q2 FY15 and Q2 FY17. Segment-level EBIT excluding the Zenith freight business declined over the same period.
Last year’s Q3 wasn’t quite as bad, though it’s worth pointing out that BSET hit an 18-month low after the numbers were released in September 2016. But looking again at a two-year comparison, the numbers similarly don’t look all that impressive:
* – author estimate for FY17
There’s been some progress made. Wholesale EBIT margins are improving, with adjusted gross margin increasing 60 bps in Q3 FY17 alone. SG&A deleveraged about the same amount, thanks to increased investments in the Bassett website and other digital initiatives – but the trend remains positive.
On the retail front, the reported EBIT figure is impacted by a higher number of new stores, which combined lost $1.1 million in the quarter (backing out the aforementioned gain on sale). Still, comparable store EBIT (admittedly with a slightly different base) did decrease over the two years, from $2.2 million to $1.7 million.
Admittedly, it’s too negative to suggest that Bassett’s growth simply has stalled out for good. Conversely, it seems far too optimistic to see Q3 as anything but a disappointment. Combined with a Q2 that looks roughly similar, and a Q4 that is off to a rough start, this simply doesn’t look like a stock that should be less than 9% off its all-time high.
Looking Forward and Valuation
Again, there are some moving parts here, with digital investments pressuring margins and the multi-year comp stacks are much more difficult than those of other peers. I’m not exactly ready to short BSET – or even call the end of the bull case.
After all, Bassett still has whitespace to expand its footprint. The 10-Q (p. 24) lists ten potential store openings over the next five quarters, eight of those corporate-owned. That’s a likely double-digit expansion of its owned square footage on a percentage basis (some stores may be closed and/or relocated). Domestic wood sales rose 23% in the quarter, showing strength in the Bench Made line, which I’ve liked since its launch in early 2015.
But this is a stock trading at a premium to pretty much everyone else in the space – and a big premium, with stocks like Ethan Allen Interiors (ETH) and La-Z-Boy (LZB) in the 14-16x EPS plus cash range, against BSET’s 21x. Q4 guidance doesn’t look all that good on the top line. SG&A deleverage should continue through at least the next quarter a swell. Upholstery costs are rising, potentially reversing some of the recent gross margin increases made over the past few years.
More broadly, there are two major concerns here. The first is that the story at Bassett – the story that’s driven the stock from below $5 at the end of 2010 to $37 at the moment – might largely be over. The retail business has turned from a loss leader for wholesale into a modest profit center of its own. Recent filings, including the Q3 10-Q, have cited continuing efficiency improvements at the operating level – but input costs could offset future gains, or those gains simply could get more difficult. Comp gains for the past few years have been incredible – but they’re decelerating. In short, Bassett might not have the same advantages of its peers – and yet it’s priced like it does.
The second concern is that for Bassett, and its peers, consistency has been close to impossible to find. Ethan Allen has looked like it’s on the cusp of a sustainable turnaround off and on for years, only to disappoint just as optimism peaks. LZB has been on an outright roller-coaster for the last 13 months. BSET itself has made several big moves since early 2016.
That history, and what looks like reason for real concern in the Q3 report (and potential near-term impacts from recent storms), is why I’m surprised BSET has held up even as well as it has over the past two sessions. There’s a real case for the multiple here to drop back into the mid- to high teens plus net cash, back toward but still above ETH and LZB, and in line with Hooker Furniture (HOFT), who is performing better than Bassett for the last two quarters at least. By my numbers (adjusting out one-time factors), that puts BSET back at $31-$32.
That’s not enough downside to short, to be sure. But it does suggest more downside, possibly this week. Either way, with Q2 and Q3 both short of my expectations, and Q4 setting up to be tough, I’ve got little interest in jumping back into BSET.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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