Invest in Dollar Stores Instead of Wal-Mart

For the second time this year, retail giant Wal-Mart (NYSE: WMT  ) cut its full-year earnings forecast, highlighting why investors might want to own dollar stores instead of the superstore chain.

With the U.S. economy still in the doldrums, shoppers have been reticent in opening their wallets, as Social Security taxes rose, and a 16-day federal government shutdown closed purses. Despite the government getting back to work -- and federal employees getting backpay -- with people learning they're losing their health insurance because of Obamacare, and facing spikes in insurance premiums for fewer benefits or ones they won't ever need, the sticker shock will likely cause the current quarter to not pan out well, either.

Wal-Mart said U.S. same-store sales fell 0.3% in the third quarter, the third straight quarter they've declined. Although revenues were up 1.6%, to $115.7 billion -- certainly an achievement for the company given its size -- it was below analyst expectations of $116.8 billion. And though profits of $1.14 per share beat by $0.01, it caused the retailer to lower its full-year outlook to $5.11 to $5.21 per share, compared to its previously reduced forecast of $5.10 to $5.30 per share.

Wal-Mart remains under pressure from brick-and-mortar rival Target, as well as e-commerce king Amazon.com, but it's also feeling the effects of rising competition from dollar store chains, which have successfully expanded their offerings from just cheap knickknacks and tchotchkes, to greater numbers of more profitable consumables.

In its second-quarter earnings report released this past September, Dollar General (NYSE: DG  )  reported record sales, operating profits, and net income, and saw comps jump more than 5% over the year-ago period, as consumables -- including both tobacco products and perishable items -- exhibited strong growth trends. Similarly, Dollar Tree (NASDAQ: DLTR  ) witnessed a rise in revenues of 8.8% when it reported earnings in August, while per-share profits jumped almost 10%. Like the General, it saw higher traffic and average ticket sales as customers responded to the selection of consumables offered.

Wal-Mart recognizes the threat these smaller shopping venues represent, and it's been expanding its own smaller-footprint concepts with plans to roll them out at an even faster clip than its superstores. Between this year and 2014, the retailer anticipates opening 300 Neighborhood Market and Walmart Express shops that average 42,000 square feet, and 14,000 square feet, respectively, compared to the 180,000-square-foot supercenters, of which it plans on opening just 240. There's even a single convenience store-sized model it's experimenting with.

WMT Chart

WMT data by YCharts.

Over just about any time frame you want to look at, the dollar stores have been feasting on Wal-Mart's lunch, and there's nothing to indicate that, as macroeconomic trends fail to improve, they won't continue to pull up a chair at their rival's table.

If investors are looking to take a bite out of this opportunity, they should look no further than Dollar Tree and Dollar General, though the passel of other deep discounters that are growing sales and profits at Wal-Mart's expense could also represent a good chance for further profits.

Is this the end?
To learn about two retailers with especially good prospects, take a look at The Motley Fool's special free report: "The Death of Wal-Mart: The Real Cash Kings Changing the Face of Retail." In it, you'll see how these two cash kings are able to consistently outperform, and how they're planning to ride the waves of retail's changing tide. You can access it by clicking here.


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