Dollar General Stands Up to Competition
In line with its mass market peers, the narrow-moat company continues to test smaller box formatted stores branded "DGX," which are one-half the size, and meant for urban locations.
Dollar General (DG) reported fourth-quarter results that were generally in line with our expectations. Revenue increased 13.7% in the quarter, inclusive of an extra week that added 6.5%, driven by comparable-store sales up 1.0%, which were constrained by deflation (although management commentary suggested this pressure is easing) and a reduction in Supplemental Nutrition Assistance Program benefits. Margins continued to decline, as gross profits fell 20 basis points to 31.6% and operating margins fell 30 basis points to 11.3% hindered by higher labor cost, higher markdowns, and promotional activity to clear inventory. The company anticipates raising store managers' pay, similar to other retailers, as well as improving its fresh offerings by expanding fridge counts in the 900 scheduled remodels next fiscal year to average 17 per store (up from 12). We view this as a positive move forward in an attempt to drive traffic to its stores and potentially improve its low-cost structure, which we view as its narrow source of moat. In line with its mass market peers, the company also continues to test smaller box formatted stores branded "DGX," which are one-half the size, and meant for urban locations. Guidance for fiscal 2017 calls for reported EPS of $4.25 to $4.50, which includes $0.34 of anticipated one-time charges including store manager compensation and training, which we believe will improve service levels and help its competitive position. Management expects comparable-store sales to be slightly positive to up 2% with approximately 1,000 new stores (7.5% growth) and 900 relocation/remodels, generally aligning with our expectations. We believe Dollar General should benefit from competitor store closures and remain defensible against e-commerce as shipping $1 items isn’t economical, and as such, don’t foresee a material change to our long-term outlook and plan to maintain our $78 fair value estimate.
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John Brick, CFA does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.
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