Consumer Uncertainty Tempers Near-Term Profits at Bath & Body Works, but Long-Term Algorithm Intact

We plan to lower our $82 fair value estimate for narrow-moat Bath & Body Works by a high-single-digit rate after digesting better-than-expected fourth-quarter results but a disappointing 2023 outlook. Fourth-quarter sales fell 5% to $2.9 billion, better than the roughly high-single-digit guidance, with unspecified declines in ticket and transaction levels, although this was still a 29% increase over 2019 sales. More significantly, operating margin was crushed, down 680 basis points to 22.6%, with most of the decline stemming from gross margin compression of 480 basis points. Gross margin suffered from weaker merchandise margin performance and expense deleverage as inflationary expenses persisted. EPS from continuing operations of $1.86 bested the firm’s $1.45-$1.65 guidance, but the quarterly outperformance wasn’t enough to offset a dour 2023 outlook in our valuation. Given the recent volatility in share performance, we plan to raise our Uncertainty Rating for BBW to Very High from High, consistent with our quantitative methodology.