Historically speaking, my investment calls usually turn out quite well. But just like every other investor in the world, I am not without mistakes. One of the biggest that I have made over the past few years involves the home discount retailer known as Big Lots, Inc. (NYSE:BIG). The last article that I wrote about the company was published in August 2021. In that article, citing financial performance figures and how cheap shares were, I ended up rating the company a "Strong Buy" to reflect my view that shares would be likely to outperform the broader market for the foreseeable future by a rather significant margin.
That call, unfortunately, has turned out to be awful. Since the publication of that article, shares have plunged 91.1%. This compares to the 16.7% increase seen by the S&P 500 (SP500) over the same window of time. This move lower was driven by significant top line and bottom-line deterioration in response to inflationary pressures that curbed consumer appetites for the firm's offerings. The company went from having net cash to a rather sizeable amount of net debt. And with a market capitalization of only $139 million as of this writing, it would be fair to question whether the company has a future at all.
I would like to point out that this move lower factors in the fact that shares closed up 27% on May 14th. Over the past few days, there has been a surge in many small-cap stocks that are heavily shorted. This appears to be the early stage of what I would like to call "Meme Stock Rally 2.0." Just like what was seen in 2020 and parts of 2021, speculators in the retail investing market are pushing up shares of businesses in the hopes of not only creating nice upside for themselves, but also with the hopes of sticking it to institutional investors, most notably hedge funds.
If shares continue to rise, there might be some hope that management could issue a great deal of stock to pay down debt and boost cash on hand. But absent that, I would argue that shares warrant a great deal of pessimism at this time.
Big Lots - The picture looks painful
It's rare to see a well-established company experience such a significant amount of downside pain in such a short window of time. At the end of the day, the share price declines the company has experienced up to this point have been driven by continued weakness from a fundamental perspective. Take revenue as an example. Sales during 2021 came in at $6.15 billion. By 2022, revenue had fallen to $5.47 billion. And last year, we saw a further decline to $4.72 billion. Part of this drop has been driven by a decline in store count as management shuts down locations to cut costs. The firm went from having 1,431 stores in operation in 2021 to having only 1,392 in operation by the end of the 2023 fiscal year.
Most of the drop, however, has been driven by comparable store sales declines. In 2021, comparable store sales were down only 2.5%. This number grew to 12.9% the year after, followed by an even larger decline of 13.5% last year. For 2023, management chalked this up to weak consumer demand that was attributed to macroeconomic pressures on consumers, namely impaired discretionary spending that was the result of inflation.
The biggest chunk of this pain can be attributed to furniture sales. From 2022 to 2023 alone, they plummeted from $1.41 billion to $1.18 billion. This 16.2% drop was fueled by a 17.3% plunge in comparable store sales. Seasonal product sales fell an even more significant 20.9% on a comparable basis. But with revenue of only $758.3 million in 2023, down from $961.4 million in 2022, this category accounts for a smaller portion of the firm’s overall sales.
As illustrated by the image below, every category reported a decline on a comparable sales basis from 2022 to 2023.
At this point, real disposable personal income per capita is higher than it has been at any other point in American history except for a small window of time during which government stimulus, during the COVID-19 pandemic, provided relief. This might seem to paint a picture that Big Lots should not be experiencing the kind of pain that it is. However, this only looks at the average person. It doesn't factor in that discount retailers overwhelmingly cater to low-income Americans. And by definition, low-income Americans are dealing with the greatest pains now.
According to one source, for instance, 73% of Americans with an annual household income under $50,000 were saving less money than they did previously because of inflation. This was based on a poll that was taken in December 2022. This compares to 60% for those making between $75,000 and $99,999, and 59% for those making $100,000 or more. More recently, the US Census Bureau found, in its Household Pulse Survey, that almost half of Americans report feeling "very stressed" by inflation. Another 28% said that they were moderately stressed because of it. It shouldn't be surprising, then, for there to be a decline in activity at a retailer such as Big Lots.
The decline in sales for the firm has had a major negative impact on the company's bottom line. Net profits went from $177.8 million in 2021 to negative $481.9 million last year. Operating cash flow turned from $193.8 million to negative $252 million. If we adjust for changes in working capital, we would get a decline from $650.9 million to negative $33.4 million. And lastly, EBITDA fell from $388.6 million to negative $201.5 million.
There are a couple of ways that this has impacted the stability of the company as a whole. You see, back in 2021, the company ended that year with a net cash position of $50.2 million. Today, the firm has net debt of $359.9 million. On April 14th of this year, management announced that they had entered into an agreement to increase their borrowing capacity by another $200 million in the form of a FILO (first in, last out) term loan facility. This is in addition to the $900 million worth of asset-based capacity that the firm has under its revolving loan facility.
For context, a FILO means that it is the first money in when new debt is drawn and that it is equal in seniority when it comes to other senior debts. However, in the event of default, it does take a back seat to those debts. So, it is likely the company is planning to take on even more debt in the foreseeable future. This, combined with the large losses and cash outflows, has resulted in the firm's book value dropping from $1.01 billion in 2021 to only $284.5 million at the end of 2023. That is also likely to continue falling moving forward.
This does not imply that management is not working on addressing some of its problems. For starters, the company is pushing toward its goal of making sure that 75% of its revenue, or more, comes from what it calls "bargain offerings." But of course, this will take time. The firm plans to achieve this goal this year. But by the end of the 2024 fiscal year, it had grown this figure to only 60%. So it does still have a lot of work to do.
This is also part of what management calls Project Springboard that the company launched in spring of 2023. This initiative has the stated goal of cutting costs by $200 million on an annualized basis. 40% of this is expected to come from the cost of goods sold. Another 40% is expected to come from savings involving other gross margin items. Examples include inventory optimization, marketing, pricing, and promotions. And the remaining 20% is expected to come from selling, general, and administrative costs, such as general office expenses and supply chain functionality. By the end of this year, management expects to have achieved at least $175 million worth of these savings.
Unfortunately, that alone won't be enough to fix the company's problems. And it doesn't appear to me as though the decline in revenue is going to stop in the near term. Although better than the 13.5% decline seen for the year as a whole, Big Lots still reported an 8.6% drop in comparable store sales in the final quarter of 2023. Revenue would have been worse to the tune of $66.9 million had it not been for the fact that 2023 had an extra operating week to it.
So, all things considered, the Big Lots, Inc. picture does not look positive. I would make the case that if shares can continue their ascent during this speculative move higher, there might be some opportunity for management to issue equity to reduce leverage and give the company some breathing room. But even this might be difficult considering the fact that the firm's market capitalization is only $139 million.
Takeaway
At this time, things are looking pretty bad for Big Lots. The company's fundamental condition is significantly challenged. Debt is rising and the company’s book value of equity has fallen off a cliff. Profits and cash flows are significantly negative as consumers stay away from the firm’s locations.
If inflationary pressures come down quickly, there might be some hope for the business. The same could hold true if speculation by retail investors pushes shares up enough that management could do a heavily dilutive raise. But both of these are speculative in and of themselves. Given these factors, I believe that the prudent choice is to downgrade the company to a "Sell" at this time.
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