Petco trades at $3.45 per share and has stayed right on track with the overall market, gaining 9.9% over the last six months. At the same time, the S&P 500 has returned 5.5%.
Is now the time to buy Petco, or should you be careful about including it in your portfolio? Get the full stock story straight from our expert analysts, it’s free.
Why Do We Think Petco Will Underperform?
We're sitting this one out for now. Here are three reasons why you should be careful with WOOF and a stock we'd rather own.
1. Flat Same-Store Sales Indicate Weak Demand
Same-store sales is an industry measure of whether revenue is growing at existing stores, and it is driven by customer visits (often called traffic) and the average spending per customer (ticket).
Petco’s demand within its existing locations has barely increased over the last two years as its same-store sales were flat.
2. EPS Trending Down
We track the long-term change in earnings per share (EPS) because it highlights whether a company’s growth is profitable.
Petco’s full-year EPS dropped significantly over the last four years. In a mature sector such as consumer retail, we tend to steer our readers away from companies with falling EPS because it could imply changing secular trends and preferences. If the tide turns unexpectedly, Petco’s low margin of safety could leave its stock price susceptible to large downswings.
3. High Debt Levels Increase Risk
Debt is a tool that can boost company returns but presents risks if used irresponsibly. As long-term investors, we aim to avoid companies taking excessive advantage of this instrument because it could lead to insolvency.
Petco’s $2.92 billion of debt exceeds the $133.3 million of cash on its balance sheet. Furthermore, its 8× net-debt-to-EBITDA ratio (based on its EBITDA of $350.3 million over the last 12 months) shows the company is overleveraged.
At this level of debt, incremental borrowing becomes increasingly expensive and credit agencies could downgrade the company’s rating if profitability falls. Petco could also be backed into a corner if the market turns unexpectedly – a situation we seek to avoid as investors in high-quality companies.
We hope Petco can improve its balance sheet and remain cautious until it increases its profitability or pays down its debt.
Final Judgment
We see the value of companies helping consumers, but in the case of Petco, we’re out. That said, the stock currently trades at 24.8× forward P/E (or $3.45 per share). While this valuation is reasonable, we don’t see a big opportunity at the moment. There are more exciting stocks to buy at the moment. Let us point you toward a fast-growing restaurant franchise with an A+ ranch dressing sauce.
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