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We recently upgraded our recommendation on Big Lots Inc. (BIG - Analyst Report) to 'Neutral' with a price target of $32.00. Earlier, we had an 'Underperform' rating on the stock.The company is the largest broad-line closeout retailer with an annual turnover of more than $4 billion.

Big Lots buys brand merchandise at lower costs from vendors who have excess inventory and resort to a fire sale of their goods or have higher sales returns or discontinued products.The closeout format provides it an edge over traditional discount retailers as it offers merchandise assortments to customers at cheaper rates.

Consequently, the company saw a high demand for discretionary products such as furniture, home furnishings and toys during third-quarter 2010. However, this was offset by sluggish demand for consumables merchandise, the category in which the company lacks a competitive edge. Going forward, we believe that management would concentrate more on consumable items and accelerate new store openings.

Improvement in store productivity and softening of the real estate market prompted management to accelerate its store opening. Management has already opened 80 new stores in fiscal 2010, and plans to have 1,500 outlets by the end of fiscal 2012. Management opines that the company has the potential to increase store counts over 2,000.

However, what mattered most to the company was the disappointed third quarter results. The quarterly earnings of 23 cents a share missed the Zacks Consensus Estimate by a penny, and dropped 14.8% from 27 cents earned in the prior-year quarter. The quarterly earnings also missed the company’s previously provided guidance range of 25 cents to 29 cents a share.

Comparable-store sales rose marginally by 0.7% as against the growth of 2% to 4% forecasted by management. This is the second consecutive quarter  that the company has missed its own projection, prompting management to lower it.

Management expects fourth-quarter 2010 earnings between $1.36 and $1.42 per share down from $1.41 to $1.45 per share forecasted earlier. For fiscal 2010, Big Lots projected earnings in the range of $2.75 to $2.81 per share, down from its previous guidance range of $2.82 to $2.90.

Given the pros and cons we prefer to be 'Neutral' on the stock. Moreover, Big Lots, which competes with Target Corporation (TGT - Analyst Report), holds a Zacks #3 Rank, which translates into a short-term ‘Hold’ rating, and correlates with our long-term recommendation.

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