Retail's Tale of the Tape So Far: Happy Holidays

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In this segment of the Motley Fool Money podcast, host Chris Hill, Million Dollar Portfolio's Matt Argersinger, David Kretzmann of Motley Fool Rule Breakers and Supernova, and Total Income's Ron Gross weigh in on how the winter shopping season looks at this point.

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E-commerce is continuing to grow, but the stronger players in the brick-and-mortar world are gaining some momentum as well, and their stock prices are reflecting that.

A full transcript follows the video.

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This video was recorded on Dec. 1, 2017.

Chris Hill: Let's start with the retail landscape. We are a week removed from Black Friday. Things have settled down. Ron, I'll start with you. I don't want to jinx us, but really does seem like things are shaping up across the board for a good month for the retail industry.

Ron Gross: I'm sure I'm going to regret this, but I think the holiday season looks pretty good, as you indicated. Black Friday and Cyber Monday were certainly solid. Online stronger than brick and mortar, not surprising, Amazon (NASDAQ: AMZN) being the biggest beneficiary of that at about half of the sales done online. Pretty incredible. But you know what? Even the department stores -- remember the department stores? I know you remember them.

Hill: Oh, yeah.

Gross: They were actually not too bad, either. So, I think there's signs of optimism, and I think it's going to carry through.

David Kretzmann: Yeah, it's interesting. When you take a step back and go back to June, when Amazon announced that it was acquiring Whole Foods, I think the market took a couple of weeks to digest, is Amazon literally swallowing up the entire retail space, and do any of these retailers have a shot? But since early July, Costco (NASDAQ: COST) is up 14%, AutoZone up 20%, Tractor Supply up 26%, Wal-Mart up 28%. So, I think people are coming to grips with the fact --

Gross: People buying tractors for the holidays?

Kretzmann: Oh, you know, got to load up. Black Friday sale, maybe a Cyber Monday sale, too. Anyway, I think it's pretty clear that if you're a quality operator in this retail environment, sure competing against Amazon is not easy, but it can be done.

Matt Argersinger: I think the market got way too pessimistic. And the stock market tends to overshoot on the upside, and it tends to overshoot on the downside, and I think that's exactly right. With the Amazon news from the summer and everything they've done in e-commerce, we got way too pessimistic and cynical about the traditional retailer. So, on any glint of positive news, which many of these retailers have had, especially, as Ron predicted, they're going to have a great holiday season, the valuations have got to a point where they're cheap, historically and absolutely. So, why not bid them higher if the news is better?

Hill: And you look at a company like Five Below (NASDAQ: FIVE), which is a discount retailer, they came out with their latest earnings report, that's a stock that in 2017 is up about 45%. Are they just doing that good a job of operating? Or is that a stock that just got way too much pessimism attached to it?

Gross: I think they're selling a wide range of products at a fair price below $5, and that's resonating with consumers. Even though the stock market is high, and even though unemployment is low, and even though we have GDP growth that appears to be above 3%, so things are kind of humming along, people still are hurting out there, people still need a bargain, like a bargain. And when you see results from Five Below, same-store sales up 8.5% for this latest quarter, very impressive.

Hill: Didn't Costco just put up same-store sales of north of that in the first time in forever?

Gross: Absolutely. They were helped a little bit by the calendar, the holiday season being in this period vs. last year, it was not. But still, that was only responsible for about 1.5% of their 11% and change same-store sales comps. Still really great numbers.

Kretzmann: Yeah, their e-commerce was up 39% as well for the month. So, Costco really clicking in a lot of different areas.

Hill: Matty, is there a limit to how much upside, how much optimism we can attach to any single quarter? I'm thinking primarily of Sears (NASDAQ: SHLD), which just lost more than $0.5 billion dollars in their latest quarter, and at least for a while in the early hours after that report came out, the stock was up, just because, even though they lost, again, more than $500 million, that was still better than expected.

Argersinger: Better than expected, that's the key. If you can do that, you'll probably get a higher bid in the market. But I think the points that Ron and David made, it's really about certain retailers who have big customer traffic and quality and specialties. Those are going to do well. The Sears of the world, the JCPenney's of the world, I think they might have a dead cat bounce here or two, but long-term there's really not a lot of hope for a lot of those companies.

Kretzmann: Over the past year, Sears has burned $2 billion in cash, and they have $4.5 billion in net debt. So, I wouldn't put them in that quality operator bucket. JCPenney is another one to probably stay away from. And even the department stores, they might be seeing a little of a resurgence, but those are companies that have been poor cash allocators. They have growing debt balances; cash production is often going down. So, those are ones that I would stay away from.

Argersinger: And I think we also have to be very careful about looking at what Wal-Mart and Costco have done in terms of e-commerce and saying, "Look at their e-commerce business." You have to remember, those are such small fractions of their overall revenue, so it's going to take a lot of continued growth, you're going to have to see 30-50% continued, year-over-year growth before it even starts to move the needle for those companies a few years from now, just given the store account and where they get most of their revenue from.

Hill: So, fast-forward about five weeks or so, in early to mid-January. We will start to get report cards for all of these companies. And of course, at that time, we'll realize, Ron Gross was right all along. It really was that great.

Gross: From your mouth.

Hill: But, what are maybe one or two metrics that we should be looking for in January, beyond just how they did over the holidays? We'll put aside Sears, and at the other end of the spectrum we'll put aside Amazon. But, for the general retailer, what should we be looking for?

Gross: For the general retailer, meaning brick and mortar, I would look for guidance as to what are they thinking in terms of, are they going to increase their store count? Are they looking optimistically toward the future and they want to build, or do they want to cut costs and close stores and contract their footprint?

Argersinger: I think a lot of these traditional retailers will succeed this holiday season because they're going to be heavily discounting a lot of things to get customers in the stores. The question is, what do their gross margins look like? If they're strong, I would say, not only their customers shop at their stores, but they didn't come for the discounts, they came because they wanted to come shop at that store. And I think that would be a strong sign of a turning point.

John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool's board of directors. Chris Hill owns shares of Amazon. David Kretzmann owns shares of Amazon, AutoZone, Costco Wholesale, and Tractor Supply. Matthew Argersinger owns shares of Amazon and has the following options: short December 2017 $900 puts on Amazon. Ron Gross owns shares of Amazon and Costco Wholesale. The Motley Fool owns shares of and recommends Amazon. The Motley Fool recommends Costco Wholesale, Five Below, and Tractor Supply. The Motley Fool has a disclosure policy.