The Best Dollar Store for Your Dollar

When it comes to dollar stores, Dollar General continues to lead the pack. Here's why investors should look past its current struggles to realize its greater potential.

Mar 15, 2014 at 10:30AM

Dollar stores seem to be set up perfectly right now. Their discounted goods should see high demand due to the struggling recovery in the labor market and broader economy. And yet, earnings reports from dollar stores such as Family Dollar (NYSE:FDO) have disappointed. Extremely harsh winter weather and increased promotional activity are weighing on these businesses.

As a result, picking a winner is hard to do. Your task is to go underneath the headlines of their earnings reports, which look ugly. But one discount retailer performing well is Dollar General (NYSE:DG), which continues to lead the dollar store pack.

Dollar General

Source: dollargeneral.com.

Dollar stores under attack
Despite the natural momentum that dollar stores should enjoy in a slow-growth economy, they don't seem to have much going for them at all. Family Dollar's comparable-store-sales fell by 2.8% in the first quarter. Making matters even more dubious was the ensuing management shake-up. After reporting, Family Dollar announced its President and Chief Operating Officer will leave the company to "pursue other interests."

Dollar General actually had a lot of momentum coming into its most recent quarterly reports, but its results landed with a thud. Its' same-store sales and current-quarter sales both missed estimates. Same-store sales in the fourth quarter rose just 1.3%, far below the performance from previous quarters. Dollar General attributed its current weakness to extremely poor winter weather, as there were many days with significant store closures.

This compares poorly to the previous quarter, which was quite positive. Dollar General generated 4.4% same-store-sales growth and 10.5% growth in net sales in the third quarter. Quarterly earnings increased 19%, and to celebrate its financial windfall, management announced an additional $1 billion share repurchase authorization.

Going forward, the environment remains extremely tough. Harsh weather continued in the first quarter of 2014, and intense competition is heating up from larger rivals. Wal-Mart Stores (NYSE:WMT) is preparing to launch an assault on urban locations and big cities, where dollar stores dominate. Wal-Mart has determined it needs to expand its small-store count and simultaneously increase its footprint in urban areas.

In preparation, Wal-Mart plans to boost small-store square footage within urban locations and will branch out its own Neighborhood Markets and Walmart Express stores. Wal-Mart initially tested these locations in three markets, including Chicago. Apparently, they have done well enough for Wal-Mart to add as many as 300 small stores this year. That's double the original forecast it provided last October.

Dollar General isn't worried, since it's planning an aggressive expansion of its own. It opened 650 new stores last year. And, it has even bigger plans for this year. Dollar General plans to open 700 additional stores in 2014.

Don't miss Dollar General's bigger picture
Despite weakness in the fourth quarter, you shouldn't be lured into thinking this is a poorly performing company. Dollar General is a very strong business, and proved it with outstanding results in 2013. It's important not to focus too much on one quarter's worth of information.

Its fourth-quarter disappointed, but Dollar General still grew same-store sales by 3.3% and its earnings-per-share rose 10%. Last year was a record year for Dollar General in terms of sales and profit. And, even though management expects a challenging start to 2014, it expects 3% same-store-sales growth and 9% earnings growth. As a result, Dollar General is still a strong, well-run company that generates plenty of cash flow.

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Bob Ciura has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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