Just as shareholders likely thought that it was time to call in an arborist to treat an ailing branch of Dollar Tree (NASDAQ:DLTR), the Family Dollar segment flashed signals of a resurgence in the first three months of the new fiscal year, as revealed by quarterly results released Thursday before the markets opened. Let's dive into the quarter's details below to understand the progress Dollar Tree is making in reversing the fortunes of the Family Dollar banner. Please note that all comparative numbers that follow refer to the prior-year quarter.

Dollar Tree: The raw numbers

Metric Q1 2019 Q1 2018 Change (YOY)
Revenue $5.81 billion $5.56 billion 4.5%
Net income $268.0 million $161.0 million 66.5%
Diluted EPS $1.12 $0.67 67.2%

Data source: Dollar Tree. EPS = earnings per share. YOY = year over year. 

What happened with Dollar Tree this quarter?

  • Same-store sales increased by 2.2%. Dollar Tree segment same-store sales rose 2.4%, while Family Dollar segment same-store sales rose 1.9%.
  • Management pointed out that Family Dollar notched a sequential improvement over last quarter's same-store sales growth of 1.4%, and that the 1.9% increase is the highest same-store sales result since the company began reporting Family Dollar comparable sales (the chain was acquired in 2015).
  • The company reported initial success in its effort to double down on Family Dollar store optimization in 2019. A prototype remodel of the Family Dollar store layout, dubbed "H2" by management, offers increased merchandise choices, including $1 Dollar Tree items, as well as expanded freezer and cooler doors. H2 stores are seeing higher traffic while generating an impressive average comps increase in excess of 10%. Dollar Tree increased the number of H2 stores by 350 in the first quarter to 550, and it plans to have 1,000 stores under the renovated concept by fiscal year-end.
  • Management relayed that the company is on track to close 390 underperforming Family Dollar stores this year, with the majority of closures expected in the second quarter. In addition, 200 Family Dollar stores will be rebannered to the Dollar Tree brand in fiscal 2019.
  • The company added alcoholic beverages to 45 Family Dollar stores during the quarter and plans to expand adult beverages to 1,000 Family Dollar locations by the close of the fiscal year. 
  • Dollar Tree is implementing the first phase of a test of multiple price points in its Dollar Tree branded segment (which currently maintains $1 price points throughout each location). The initiative adds items greater than $1 to existing merchandise under the newly created "Dollar Tree Plus!" label. Initial testing will expand to 100 stores this year.
  • The organization's gross margin decreased by 90 basis points to 29.7%. Management cited lower initial inventory markup at Family Dollar stores, higher distribution and freight costs, inventory shrink (i.e., theft, spoilage, and waste) in the Family Dollar segment, and the effects of a new accounting standard on occupancy costs as multiple factors behind the decline.
  • The company repurchased $100 million of its common shares during the quarter, leaving $900 million remaining on its current repurchase authorization.
Illustration of a money tree concept: multiple people care for a potted plant sprouting dollar bills and coins.

Image source: Getty Images.

What management had to say

In prepared comments issued within the company's earnings press release, CEO Gary Philbin addressed both price point testing in Dollar Tree stores and the overall effort to turn around Family Dollar's fortunes:

Dollar Tree continues to be a destination for customers looking for great values and convenience, as demonstrated by our 45th consecutive quarter of delivering an increase in same-store sales. And, we are excited to kick off the initial introduction of Dollar Tree Plus! multi-price point products into select test stores. These products are designed to provide our shoppers with More Choices, More Sizes, and More Savings. We are in the process of expanding this test to more than 100 Dollar Tree stores. Importantly, our Family Dollar turnaround is gaining traction. Our efforts to accelerate initiatives to optimize the real estate portfolio are making a difference as demonstrated by our improving same-store sales results. As previously communicated, these efforts will increase costs in the first half of fiscal 2019, and will then contribute to the opportunity for operating margin expansion as we work through the back half of this year.

Looking forward

Dollar Tree revised full-year guidance slightly alongside earnings. The company tightened its fiscal 2019 revenue expectation to a range of $23.51 billion to $23.83 billion, against a previous band of $23.45 billion to $23.87 billion. Diluted EPS is now expected to land between $4.77 and $5.07. This range is a step down from earlier guidance of $4.85 to $5.25, but it includes store closure costs and higher anticipated freight costs as a result of recent rate negotiations with shippers.

For the second quarter, Dollar Tree is aiming for revenue of $5.66 billion to $5.76 billion, based on a probable low-single-digit comps increase. Diluted EPS are slated to fall between $0.64 and $0.73, which will represent a significant decline against the $1.15 EPS booked in the second quarter of fiscal 2018. However, the second quarter will contain a number of discrete one-time costs, including the Family Dollar store closures discussed above. Thus, Dollar Tree will sacrifice some profit next quarter as an investment in a more profitable future.