Bonhoeffer Capital Management, a value-oriented investment management firm, published its fourth-quarter 2020 Investor Letter – a copy of which can be downloaded here. A net return of 20% was recorded by the fund for the fourth quarter of 2020, outperforming its MSCI World benchmark that delivered a 15.9% return. You can view the fund’s top 5 holdings to have a peek at their top bets for 2021.
Bonhoeffer Capital Management, in their Q4 2020 investor letter, said that At Home Group Inc. (NYSE: HOME)’s current opportunity for organic growth is high. At Home Group Inc. is a home decor company based in Plano, Texas, that offers furniture, housewares, and related materials. It currently has a $1.6 billion market capitalization. Since the beginning of the year, HOME delivered a 58.21% return, massively extending its 12-month gains to 459.73%. As of March 5, the stock closed at $24.46 per share.
Here is what Bonhoeffer Capital Management has to say about At Home Group Inc. in their Q4 2020 investor letter:
“At Home (HOME) is a home décor retailer. At Home provides home accessories (rugs, housewares, furniture, wall hangings, etc.) in a self-service format similar to Costco. The company has 219 stores in 40 states across the United States. The average size of an At Home store is 105,000 square feet offering over 50,000 SKUs. This is larger than other home décor retailer whose average store size is about 25,000 square feet. They also lease second-generation real estate resulting in a lower lease cost (average $6/ft2) than competitors. In Rochester, At Home is an old grocery location (the number two grocer in Rochester) which they have upgraded to remove the “grungy” grocer appearance.
The company’s value proposition is to provide a wide selection of goods at a low price point ($15 per item and less than $70 per basket). The stores have limited staff to support the self-service environment. In visits to local stores, At Home focuses on areas like carpets, barstools/seats, and wall decor of which other retailers have limited selections. Over 70% of the At Home merchandise is exclusive to At Home; so At Home can make both the retail and branded product margins for these products.
At Home is not the largest competitor in the home décor market. Much of home décor is sold by generalists such as Walmart, Target, Home Depot, Amazon, and Lowe’s. These firms have 35% of the home décor market. At Home is a home décor specialty store like HomeGoods (owned by TJ Maxx), Williams Sonoma, and Bed Bath & Beyond. The market is quite competitive and players who have not been able to generate profitability have gone bankrupt, including Pier 1, with 1,500 stores nationwide. At Home has also pivoted to provide “buy online, pick up in store” (BOPIS) during COVID to ensure sales
continue despite the pandemic.
Why Do Customers Keep Coming Back?
Retailers who do not have recurring revenue can create recurring revenue by ensuring customers have a reason to return to the store or website. This brings to mind a local store in Rochester, Wegmans, that makes the shopping experience pleasurable and provides a wide selection of grocery items. The wide selection brings folks in, and the experience keeps them coming back.
At Home is similar in that the selection and price (similar to Costco) bring customers in and the experience keeps them coming back. The experience is envisioning how the home décor items you’re looking at will fit into your home combined with a treasure hunt from the wide selection of specific types of merchandise (like rugs) not found at more general retailers like Walmart and Target. The envisioning experience is difficult to do online and easier to do in person. If we invert this, we can ask,“As a consumer, when will you not return?” if you have a bad experience in a store, like if the store is dirty or you receive poor customer service, when you can buy a known item online and have it delivered to you at home. At Home has primarily exclusive items which are in a category where the in-person experience is important in product selection. The At Home retail concept to date has been successful in providing above market growth rates and profitability as described in detail below.
Business and Service Analysis (The Power of Operational Efficiency)
Despite At Home’s smaller size, they have generated margins on par with HomeGoods (3x size) and Williams Sonoma (3x size). One of the reasons is the operational efficiency of At Home’s stores and logistics network. The stores are designed to minimize employee touches and maximize floor space, with a truckload-sized back room. The larger stores provide for more sales per store ($8 million) and less real estate cost per dollar of sales. Local economies of scale should also occur as the store footprint is filled in. Another reason is the high mix of store brand/exclusives (70%) which yield both retailer and product
The efficient store concept leads to high return on capital for new stores, with 40% to 150% IRRs and a two-year average payback period. The store-level EBITDA margins have also been high at 25%.
With such high IRRs, At Home has been opening new stores, with 18% sales growth and 10% unit growth over the past five years. Currently, the unit growth rate is 10% per year. Same store growth is 1% currently, with 3% to 5% potential from omnichannel sales. So the current run rate growth is 11%, with a potential of 13% to 15% growth per year.
At Home’s current store count is 219, with a potential of 600 stores (or a 37% penetration rate). At Home is still in the early growth stage of expansion, with revenue growth of 17% per year. Other concepts at this level of market penetration include Five Below and Ollie’s Bargain Outlet. Comparable firm HomeGoods, a more mature growth firm, currently has 841 stores (or a penetration rate of 61%). The current revenue growth rate of HomeGoods is 10%. Michaels, a mature firm, has 1,275 stores (or a penetration rate of 85%), with a revenue growth rate closer to the market growth rate of 1.5%.
COVID has modified At Home’s business, incorporating BOPIS as a method to sustain sales despite the COVID lockdowns. This low-cost method of delivery has made At Home cost competitive with onlineonly competitors in the SKUs it stocks. Many of the items are bulky, and the ratio of shipping cost to item cost is high. In addition, for home décor, many customers like to browse in stores and physical locations provide a valuable delivery location close to target customers.
The company has a goal of increasing inventory turns from two to three times. Returning customer cohorts spend 10% upon each return trip to the store.
Home Décor Retail Market
The home décor retail business in the US is a fragmented market, with large portions of the market controlled by retail generalists, like Walmart, Target, Home Depot, and Lowe’s. The largest six providers have a 35% market share with the next four having 11%. The US is a $169 billion addressable market. The overall home décor market growth rate is 3% per year and is expected to grow by 3.6% over the next five years. The current store penetration rate into its addressable market is estimated to be 37% according to management. The current opportunity for organic growth is high, thus the firm has reinvested cash flows into growing the store base.
More at-home time and excess cash—due to low travel/entertainment spending due to COVID—has increased demand for home décor items. Across retail in general, the value segment has been taking share from more full-priced retailers. The value segment includes retailers like Five Below, Ollie’s Bargain Outlet, Ulta Beauty, HomeGoods, Ross, and TJX, which all have above market growth rates in their respective segments.
ROI can be decomposed into two components—EBITA margins generated from selling merchandise and how many times the inventory is sold per year. Over the past three years, At Home’s EBITA margin has increased from 10.8% to 11.7% (higher than Bed Bath & Beyond and in line with HomeGoods and Williams Sonoma) and the inventory turns have increased from 2.5 to 3.7 (a larger increase than any of the competitors).
At Home also has the highest sales and earnings growth rates at 36%, and the high return on equity is in line with Michaels and Williams Sonoma. This is, in part, due to the consolidating market and the cluster strategy described above. Other comparable firms in the US (Michaels and Williams Sonoma) also have strong ROE numbers from high margins.
In the US market, At Home has less than a 1% market share, which is up 175% since 2015. Walmart is the largest firm, with an 11% market share, followed by TJX/Marshalls and HomeGoods with a 7%, Target with a 7% market share, Amazon with a 5% market share, Lowe’s/Home Depot with a 5% market share, Bed Bath & Beyond with a 5% market share, and Wayfair with a 3% market share.
If At Home’s penetration approaches Michaels’s over the next ten years (9% unit growth), and the market grows at GDP levels of 3.6% per year, then a sustainable 12-13% revenue growth is attainable in the US market. Given the economies of scale of the larger players and the addition of additional adjacent products, it’s possible to pick up some additional 2-3% growth per year resulting in a conservative tenyear growth rate of 15%.
If we look at more penetrated markets (such as Michaels), the growth rates are more dependent upon market growth versus gains in market share. Even in more penetrated markets (like Michaels), doubledigit ROEs are currently being achieved.
The short-term target is $46, which is almost double today’s price. I think the investment thesis can play out over the next three to five years. By that time, At Home’s net income and earnings should have appreciated by at least two times, and the fair multiple could double with a 5% increased growth rate. If that is the case then, At Home will attain a 4.0x return to $107 over five years. This is similar to a “Davis double,” where both underlying earnings increase along with the fair value multiple.”
Our calculations show that At Home Group Inc. (NYSE: HOME) does not belong in our list of the 30 Most Popular Stocks Among Hedge Funds. As of the end of the fourth quarter of 2020, At Home Group Inc. was in 79 hedge fund portfolios, compared to 73 funds in the third quarter.
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