Dollar Stores are a retail growth story even in a downturn

  • By Teresa Rivas,
  • Barron's
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The economic picture is grim. The number of Covid-19 cases in the U.S. is well over three million, and even with some hopeful signs from the labor market, more than 30 million Americans are still relying on unemployment benefits.

Yet when times get tough, the dollar stores get going.

Chains like Dollar General (DG) and Dollar Tree (DLTR) are focused on value, and as a result, they are a growth story when other retailers are not.

“In a world of challenging financial straits, value reigns supreme,” says BMO Capital Markets senior analyst Simeon Siegel.

For many Americans, the more than 31,000 dollar stores nationwide are often the only option.

“Dollar stores have proven to be very resilient through recessions; there’s a big portion of the country that is still struggling, whose wallets are being pinched, and they need nondiscretionary goods,” says Clay Kirkland, lead portfolio manager at Intrepid Capital Management. “They’re not going to drive to the Target (TGT) five miles away, they’re going to drive to the dollar store a half mile away.”

No wonder that dollar stores are adding to their physical footprint, even as so many of their peers are closing locations.

“At a time when you read about how retail is doomed and there will be thousands of store closures this year, these businesses are growing their store bases,” Kirkland says.

The dollar stores have been dependable through good times and bad. Dollar General, for example, has recorded positive comparable sales for the past 30 consecutive years. Its shares are up sixfold in the past decade. Dollar Tree stock has quadrupled in that time.

The pandemic has only cemented their reputation for dependability. Many essential retailers that have stayed open throughout the crisis have been winners, and that has been true for dollar stores, especially Dollar General. It carries more food and non-discretionary items than Dollar Tree, which sells more seasonal and party items. According to data from Placer.ai, a foot-traffic analytics firm, Dollar General’s year-over-year traffic climbed by the midteens in both April and May, and crossed 20% in June.

Traffic at Dollar Tree—at its branded locations as well as at Family Dollar Stores, which it acquired in 2015 for $9 billion—has also been stronger of late. At Dollar Tree branded stores, traffic fell more than 36% in April, but notched a decline of just over 5% by June. And Family Dollar traffic turned positive last month.

Dollar General looks like the better bet, given its product mix, higher estimated long-term profit growth rate of 11%, and a return on equity of 28.7%, ahead of Dollar Tree. It also has a dividend yield of 0.8%, while Dollar Tree does not pay a dividend.

This isn’t your father’s Dollar General, says Gordon Haskett analyst Chuck Grom: It is “a strong...growth story, with a plethora of company-specific sales drivers.” He is particularly excited about a move into fresh food, which could drive comparable sales “in the coming decade similar to how the addition of coolers helped the company out in the late 1990s,” he says.

The shares, at a recent $189, trade around 21 times forward earnings. They are not cheap, but are less expensive than Walmart (WMT) at 25 times, even as their 20% year-to-date gain is almost double that of the big-box retailer.

There could also be a case for Dollar Tree, however. Many holiday celebrations, baby showers, and graduation parties were canceled by the pandemic, hurting sales.At a recent $96, its shares are up just 3% so far this year.

Even before the crisis, Dollar Tree was struggling to turn around the Family Dollar unit, and it has dealt with slower sales growth in recent years. In the most recent quarter, however, Family Dollar reported robust comparable sales growth.

And at 17 times next year’s earnings, Dollar Tree is cheaper, trading below its historical average. For the past five and 10 years, Dollar Tree has actually outpaced Dollar General in both compound annual sales growth and in earnings before interest and taxes. If the company can get Family Dollar on the right track and get closer to past levels of profitability, the stock would get a boost.

Bank of America Merrill Lynch analyst Robert Ohmes recently upgraded the stock, and thinks it can reach $115, as “Dollar Tree strategies are on track” at both divisions, helped by store remodeling and new merchandise offerings.

At a time when so many Americans have to pinch their pennies, dollar stores look like winners.

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