Dollar Tree Earnings: Theft, Mix Shifts Weigh on Results, and Shares Still No Bargain

Although no-moat Dollar Tree’s DLTR shares plummeted by a midteens percentage in the wake of its first-quarter (ended April 29) earnings announcement, as theft and heightened sales of less-lucrative consumables weighed on margins, we plan to reduce our $113 per share valuation by only a mid-single-digit percentage. While we believe the company’s new leadership (with Richard Dreiling becoming CEO in late January) will improve performance, we had suspected sentiment was assuming a sharp, linear turnaround, and we attribute the difference between our reaction and the shares’ trading price slide to overinflated expectations. Our long-term forecast (mid-single-digit revenue growth rates against high-single-digit operating margins over the next decade) is intact.

Same-store sales growth was solid, with a 3.4% uptick at the Dollar Tree banner and a 6.6% pickup at Family Dollar; both divisions cleared our targets (3% and 5%, respectively). However, the firm’s 6.1% adjusted operating margin lagged our 6.5% estimate. Both banners saw pressure as consumers continued to shift spending away from more lucrative discretionary items. Also, neither chain was immune to the uptick in crime that has hit several retailers’ recent results. Management reduced its full-year earnings guidance in light of soft profitability, now estimating full-year diluted EPS of $5.73 to $6.13 (previously $6.30 to $6.80), including a $0.12 first-quarter charge for a legal reserve related to a rodent-infested Arkansas distribution center. Our $6.64 estimate is likely to fall into the new range. Although we expect the company to improve on its 7% three-year adjusted operating margin by the middle of our 10-year explicit forecast, we still suggest investors avoid assuming too much profitability improvement considering intense retail competition (we expect adjusted operating margins in the midteens for the Dollar Tree banner and in the low to midsingle digits for Family Dollar).