Nordstrom: Recession Proof But Not Weather Proof (JWN)

By Eugene Bukoveczky | October 14, 2007 AAA

For high-end department store Nordstrom (NYSE:JWN), catering to the tastes of the affluent has been the first-class ticket to retailing success, at least until now.

Over the last few years, the company has generated top-tier earnings and sales growth. Everything seemed to be on track for another good year until the company surprised analysts earlier this month by announcing that its same-store-sales growth during September came in an anemic 3.2% compared to expectations in the 5% to 6% range. The company also drastically lowered its forward guidance, now saying it expects to earn between 50 cents and 53 cents for its Q3 earnings per share (EPS), down from previous guidance of a 61 cents to 64 cents per share range.

So, what happened?

Timing Miscue Leads To Excess Inventory
With its high-end, and presumably recession-proof clientele, Nordstrom has always been billed as a relatively safe pick in the retail sector. While the basic facts do support such a generalization about the company's business, they fail to take into account the unique risk that high-end retailers also face.

Nordstrom must always keep up with the latest fashions that discriminating customers demand. Changes in the fickle world of fashion can give the company fits. Mid-market retailers like J.C. Penney (NYSE:JCP) usually don't have to deal with this problem.

The issue for this quarter had to do with timing. During September, warmer than normal weather meant customers didn't need the "must have" boots, sweaters and jackets. With total inventory levels higher as a result, and sales failing to materialize, the company is now expected to start discounting its prices to move its sizable merchandise overhang. That's going to hurt margins and dig into profits over the crucial holiday selling season.

Nordstrom shares have had to take a bit of a discount themselves, shedding about 20% since the disappointing news came out.

Selloff May Be Overdone
While it can't be disputed that the inventory problem will hurt the company over the next couple of quarters, investors shouldn't lose sight of the fact that Nordstrom's customers aren't likely to keep their pocketbooks closed for long. There's little reason for these folks to cutback on their overall spending. Life's just like that when you're wealthy. (If you don't include yourself among Nordstrom's customer base, check out Get Your Budget In Fighting Shape and Take Control Of Your Credit Cards.)

The resilience of the rich is probably why the consensus EPS forecast for Nordstrom's fiscal 2009 (ending in January 2009) is currently calling for $3.21 - a roughly 15% gain from the $2.80 expected for this year. Historically, Nordstrom shares have traded between 15-times to 20-times forward earnings. Right now, the shares are trading at only 12.5-times forward earnings.

The Bottom Line
There's no arguing that Nordstrom's inventory overhang means the company is facing short-term problems. However, from my perspective, I really can't see Nordstrom's hang-ups lasting forever. Given the relative affluence of its customer base, I have to think it will perform reasonably well over the coming years - perhaps more so than its current lowball valuations indicate.

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