We never bought the ‘best house on a bad street’ argument with DKS. It was a bad Street then, and it’s a bad street now. The difference, is that competitors are dropping faster than our Presidential candidates’ credibility. With the outright failure of Sports Authority (Leonard Greene dropping all support), as well as Eastern Mountain Sports and Sports Chalet, we’re looking at a 6.8% capacity reduction in Sporting Goods Retail brick & mortar. That’s 20mm feet (accurately outlined by DKS) of a sub-sector of retail that has 295mm square feet of space.
The fact that these companies went under is no revelation – we’ve all known that for a while -- so there’s no reason to make noise about it today. There are only three major new-ish pieces of information. Two are bullish for DKS. The third is a push.
1) Game, Set and Match – Ed Stack. I am so rarely impressed by a management team’s poise and thought process around a given strategic initiative. Make no mistake, TSA going Ch11 is absolutely a strategic initiative for DKS rather than a lucky coin flip, and it has been for a lot longer than most people think. This team is as prepared for both the initial promotional hit and the ensuing market share gain as any retailer I’ve seen. More than Kohl’s was with JC Penney, more than Best Buy was with Circuit, and more than Bed, Bath & Beyond was with Linens ‘n Things. Actually, we could make a rather strong argument that the bigger company in each of these categories actually put the smaller/weaker one away –Dick’s and Sports Authority included. The punchline is that DKS has every hair on TSA’s head numbered. And one thing we like about Ed Stack & Co is that they think big…they think five years out…and they don’t care if they miss a quarter or two in order to achieve these much grander goals of wealth creation. This is like the opposite of what we’re seeing out of Target right now.
2) Vendors Are Helping. There’s no doubt in my mind that the vendors, especially Nike, UnderArmour and Adidas, are helping Dick’s out. Ed Stack absolutely played this down on the conference call in answer to what was a very fair question. But the vendors would throw a fit if Stack commented on this – especially in detail – so he just dodged it. Is Dick’s getting better product? Yes. You have not seen it yet, but you will. Is Dick’s getting a better price on existing product? Probably not. But is likely to get better terms on it, which will help its cash conversion cycle. The fact that Brands are growing faster with their own Direct business is irrelevant. They need at least one strong National retailer in this space. In the end, this is a win/win for DKS.
3) That InterWeb Thing. We know the geographic overlap between DKS/TSA. Over 200 TSA stores within 5 miles of a Dick’s store, and 350 stores within 10 miles of a Dick’s. But there’s a region that we care about a lot more than So Cal or Texas. It’s this thing called the Internet – we heard a nasty rumor that a lot of business is conducted there. DKS e-commerce business grew at 15% this quarter, which is ‘respectable’ but not admirable. Will we see a pick up when it takes over full operation of its site in January? Yes, almost certainly. But while it does, there are two important trends we watch – it’s online competitive overlap with TSA – and importantly, the same metric for DKS/AMZN.
- DKS/TSA: This is interesting, to me at least. It shows that only 10.5% of Dick’s online customers currently shop online at TSA. It’s less than half the rate we expected to see – particularly given near 50% store overlap within a 5-mile radius. This rate has been trending down as TSA has weakened. All in, it’s bullish for DKS, as it suggests that it has significant upside as it takes over not only the best stores, but also the online customer relationship.
- DKS/AMZN: On the flip side, between 70-80% of DKS customers shop on AMZN. That’s simply mind-blowing. But we’re ok with that so long as DKS emerges as the best Sporting Goods-Only site and has premium product to Amazon. The only way that happens is if Dick’s maintains strict posturing with its vendors – hopefully without costing DKS much in margin or payment terms.
HERE'S A FEW MORE BASIC CALLOUTS FROM THE PRINT
SIGMA Made A Notable Positive Turn
Though it’s still in Quad3, this trajectory is one of the better SIGMAs we’ve seen this earnings season. Inventory finished up 7% yy with sales up 6%. This was significantly better on the margin vs Q4 when inventory was up 10% on a +4% sales number. 4Q was impacted by weak cold weather merchandise sales from the mild winter, and the 1Q improvement comes while DKS held onto a large portion of this cold weather inventory to sell in fall 2016.
Comps Rebound Sequentially
Brick and Mortar comp was negative again for the 7th quarter in a row. It did however improve on the margin up 360bps sequentially, returning to the rate seen in 3Q. Perhaps DKS was able to steal some Sports Authority customers with their offer for $20 reward for SA League card members to join Dick's Scorecard. Guidance implies store comp will slow again in 2Q expecting liquidations to result in temporarily lost share.
e-Commerce Needs a Jumpstart, and is Likely to Get it:
e-Commerce revenue grew 15% in the quarter, at 9.2% of sales. This was a slight acceleration on a 1 and 2 year basis, but ultimately far below the growth rate we would consider to be healthy for DKS when competitors and key vendors are growing their online banners 30-60%. When DKS takes its e-commerce business in house in 2017 it needs to see e-commerce growth accelerate materially – tough comps don’t matter. Otherwise there will have been a lot of wasted investment and asset returns will continue dropping.
Share Repo at the Peak?
DKS repurchased $50mm worth of stock in 1Q taking share count down 680k sequentially. The average repo price however, was $46.81… given that the stock barely traded above $47 at all during the quarter, we have to ask why is this so high. Perhaps there are some limitations for the buyback window, but we hope the DKS treasury department can do better than buying at quarterly highs, 7% above the average daily price.
New Store Productivity Likely Still Declining
For the first time ever, management did not mention new store productivity on the conference call. This was perhaps a clever move of using the TSA buzz to start weaning the sell-side off of a metric that is weakening and may never improve again. Our sense is that internal productivity was sequentially worse, as our model calculation implies. Gone are the days of straight-lined 90% NSP for the DKS retail model, and we think it could be only 3-4 years before store growth goes negative as the company focuses on growing e-commerce.