Is Family Dollar in Trouble for 2014?

Same-store sales are declining rapidly, and the COO conveniently "departed" on the same day as the earnings call. What's going on at Family Dollar?

Feb 4, 2014 at 4:00PM

Family Dollar Stores (NYSE:FDO) has been struggling since early 2012. Most recently, in the calendar fourth quarter, the company reported a decrease in same- store sales growth of 3%. This is in sharp contrast to the 4.7% increase in 2012 and the 5.5% increase in 2011.

A decent third quarter for small-box retail
2013 was rough on large-box discount retailers for the first nine months of the year, but small-box retailers performed well. Compared with Tuesday Morning  (NASDAQ:TUES), Dollar General (NYSE:DG), and Dollar Tree Stores (NASDAQ:DLTR), Family Dollar had the lowest same-store sales growth rate at 3% for 2013, which really isn't that bad. The issue is that it was the lowest.

Dollar Tree had same-store sales growth of 3.1% for the quarter. Like other small-box retailers, Dollar Tree is relying on growth in consumables to maintain same- store sales growth.

Dollar General had a record third quarter, with same-store sales growth of 4.4%. The company credits increases in customer traffic and average transaction amount for the increase.

Tuesday Morning had same-store sales growth of 9.1% in the calendar third quarter. The increase was due to a 13.4% increase in transactions and a 4.3% decrease in price. In other words, Tuesday Morning had lots of markdowns. As a result, the company suffered from a bad case of negative earnings for most of 2013.

On Jan. 30, however, Tuesday Morning reported positive calendar fourth-quarter earnings. Comparable-store sales grew 3.1% compared to last year, which is considerably lower but commendable. The good news is the company finally posted positive earnings of $17.7 million, or $0.41 per share. Tuesday Morning is a great case study in the value of good leadership -- the new management team promised a turnaround and they delivered.

What's next for Family Dollar
Family Dollar could use some help from Tuesday Morning's management team. Same-stores sales actually declined by 3% in the calendar fourth quarter. According to the earnings release, the decrease was due to "decreased customer transactions and a slight decrease in the average customer transaction value." This is a trend among big-box discount retailers as a whole, but Family Dollar isn't a big-box retailer. 

"Sales were strongest in the [c]onsumables category, which increased 4.7% during the quarter," the company said, which sounds good. However, consumable sales averaged 17% growth last year -- that's a 12 percentage point drop in the company's largest sales category by penetration.

These issues may be deeper than the shared economic pains felt by the industry as a whole. Perhaps the company's issues are related to poor leadership.

Family isn't just in the name
Howard Levine, the current CEO, is the son of Leon Levine, the founder of the company. From 1981 to 1987 Howard Levine worked at Family Dollar in various capacities before leaving to be president of Best Price Clothing Stores, which appears to be out of business. In 1992, Levine decided to run his own investment fund as a self-employed investment manager but rejoined Family Dollar in 1996 as VP and general merchandise manager working his way up to president the following year and CEO the year after that. Howard was honored with the title chairman of the board in 2003.

As chairman of the board, Levine led the company through several years of continued success, but that started to change in 2012. Levine has blamed the bulk of the company's issues since then on Michael Bloom, the ex-president. Bloom joined the company in 2011.

Bloom has more than 32 years of experience working in small-box retail and is known for his appearance on the CBS reality series "Undercover Boss." "While we've made some progress during Mike's tenure," Levine said on the earnings call, "we weren't happy with our financial results. Ultimately, Mike and I were not aligned on our merchandising strategy and we decided to make a change."

Levine set a cautious tone on earnings guidance for next quarter, predicting earnings of between $0.85 and $0.95 per share, down from last year's earnings per share of $1.91. That's a pretty serious decline, which is why someone had to be blamed.

The larger issue, from a corporate governance standpoint, is the increase in stock buybacks. Even with declining earnings the company repurchased approximately 1.8 million shares of common stock at a cost of $125 million. It only purchased 0.4 million shares last year at a cost of $25 million. Is the company buying back stock to return value to shareholders, as is often recited, or because it wants to manage EPS in a bad quarter? When questioned about the increase by analysts, the CFO brushed it off as a timing issue.

The Foolish bottom line
The title of the last Family Dollar earnings call presentation was "Returning to Roots." When analysts asked Levine questions about the root of the company's growth issue, he blamed it on his ex-president and COO, Michael Bloom. Maybe, however, the problem is closer to home. Nobody wants to fire the founder's son, but it may be that Howard Levine is the real root of the problem.

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