There are a host of companies that I think are essential to the American economy, and many of them are retail companies. In the area of retail, though, I regard dollar stores as being a fundamental piece of the American experience. There are so many Americans who need to be able to purchase essentials at that magic price point, that chains like Dollar General Corp. (NYSE:DG) are simply indispensable.
That doesn’t just mean lower-income people, either. People from all walks of life shop at dollar stores like Dollar General, especially because of the wide variety and convenience that they offer.
The dollar store concept is so important to America that there are some 30,000 of them in the country, with possibly room for another 10,000. That’s more than twice the number of McDonald’s Corporation (NYSE:MCD).
DG stock has risen about 240% over the past ten years, driven by numerous factors, not the least of which was the financial crisis, where it seemed everyone was shopping there. Thus, it should be no surprise that fiscal year 2015 was the 26th consecutive year of same-store sales growth for Dollar General, where 76% of sales are in consumables.
That’s basically shop-talk for “staples”, like packaged food, paper and cleaning products, perishables, snacks, basic health and beauty stuff, pet products, and tobacco.
By the end of 2015, the footprint for Dollar General was almost 12,500 stores. The largest concentrations by state at the time were Texas (1,300), Florida (738), Georgia (711) and Alabama (658).
The explosion in revenues didn’t stop with the financial crisis. Net sales rose from $14.8 billion to $20.4 billion between FY11 and FY15, driven by both same-store sales growth and tons of new store openings. This came even as interest expense was cut by 60%, net income grew by 50%, and net margins stayed roughly the same. Free cash flow also grew from about $500 million to $870 million.
Now, same store sales did decline from 6% in FY11 to 2.8% in FY15, but that’s to be expected, as all dollar store chains expanded and made more for competition. Sales per square foot increased, though, from $213 to $226.
In the trailing 12 months, net income has hit $1.23 billion. Free cash flow in the TTM has exploded to just over $1 billion. Debt has been paid down to $2.55 billion from $3.11 billion in just three quarters.
DG Stock Worth the Buy?
It’s difficult to find any business or stock in the market right now that has this kind of growth, this solid of financial statements and such terrific execution, which is why I think it’s a great retail stock right now.
Now, the market has been pretty unforgiving when it comes to earnings reports. In Q2, Dollar General missed by a penny and came in 2% light on revenues, and the market whacked it for an almost 30% loss.
This is where things get interesting.
Arguably, DG stock is undervalued compared to some of its peers, coming in at a P/E ratio of about 18, compared to 26 for Dollar Tree, Inc. (NASDAQ:DLTR).
However, considering net income is only growing at about 6%, trading at a P/E that high means it is way too expensive for me to get involved … unless, of course, it gets whacked again on Thursday after earnings.
Q3 target is for 93 cents per share on sales of $5.37 billion, a 6% increase.
So while I think DG is a top-10 retail stock given its macro picture, the drill-down gives me some cause for concern. It does provide a vital service to the nation. It has a huge footprint. There is competition, but there’s also consolidation. There is still room to grow. It has a solid balance sheet.
It’s too pricey at this moment, but on another 20% dive, consider diving with it.
Lawrence Meyers is the CEO of PDL Capital, and manager of the forthcoming Liberty Portfolio stock newsletter. As of this writing, he has no position in any stock mentioned. He has 22 years’ experience in the stock market, and has written more than 1,600 articles on investing. Lawrence Meyers can be reached at TheLibertyPortfolio@gmail.com.
