Dollar store giant Family Dollar (click ticker for report: ) reported a mixed first quarter earlier this week. Revenue jumped 12.7% year-over-year to $2.4 billion, slightly above consensus expectations. However, earnings disappointed, increasing just a penny compared to a year ago, to $0.69 (which was well below consensus expectations).
Driving sales traffic wasn’t an issue, as same-store sales jumped 6.6% year-over-year. However, the strength was driven by lower-margin consumables, which grew 18.5% from the same period a year ago. Cigarettes were specifically identified as pressuring margins, but management remains confident that selling cigarettes is an overall positive for the business.
President and COO Michael Bloom specifically said on the conference call:
“We don’t believe that cigarettes — the fact that we’re selling cigarettes, people are trading off in other item. We don’t believe there’s[are] more smokers. We believe we’re capturing that cigarette trip from some — from another retailer that was selling tobacco. So I think — look, at the end of the day, I’d like to believe that while we’re experiencing some margin pressure, we’re generating margin dollars.”
Still, gross margins fell 120 basis points year-over-year to 34.1%, while SG&A fell 20 basis points as a percentage of sales to 28.9%. Overall, we think the company is doing a fine job controlling costs, and we aren’t particularly worried about tobacco lowering the overall gross margin mix, particularly if it drives total revenue growth.
Going forward, it looks like the firm could be in for a weak second quarter, as December same-store sales grew only 2.5%, with sales expansion again being driven by consumables. Same-store sales are expected to increase 4-5% during the second quarter, with earnings of $1.18-$1.28 per share, well below the consensus estimate of $1.39 per share.
Dollar General (click ticker for report: ) recently blamed a weak consumer environment for its weakness, so we think the problem is industry-wide. The company is also rolling out cigarettes that will hurt gross margins, but possibly increase total sales. It remains clear, in our view, that the consumer might be shifting consumption habits, focusing on core needs and spending more selectively on discretionary items. Even Target (click ticker for report: ) reported flat same-store sales growth.
Overall, the quarter wasn’t particularly strong, and we were fairly disappointed with guidance. We believe shares of the retailer are fairly valued at current levels, and it would take a meaningful improvement in its Valuentum Buying Index score (our stock-selection methodology) to add the name to the portfolio of our Best Ideas Newsletter.