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Should You Buy Dollar Tree on a Dip?

By Pearl Wang - Sep 9, 2020 at 6:25AM

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Shares traded down after the recent earnings report, but the discount retailer has tailwinds at its back given the current economic uncertainty.

Shares of Dollar Tree (DLTR 0.84%) are down over 10% after the company reported fiscal second-quarter earnings that beat on both the top and bottom lines. There's still good sales momentum at stores with the average ticket increasing 22.6% year over year during the quarter. And given the continued economic uncertainty, Dollar Tree will likely enjoy elevated traffic as consumers seek out value and savings when shopping.

Here's why Dollar Tree may be a buy.

A female shopper with a cart

Image Source: Getty Images.

Family Dollar stands out

Despite the challenges of COVID-19 restrictions and a deepening recession, Dollar Tree's comparable-store sales increased 7.2% during the quarter, a slight acceleration from the 7.0% growth reported in the previous quarter. But it was Family Dollar, a Dollar Tree subsidiary, that stood out again as the star performer in the latest quarter with comparable sales up 11.6%. CEO Mike Witynski believes customers see the chain "as a convenient, safe, local option with great values on food, essentials, household products, cleaning supplies, home decor, and much much more."

The company's merchandising strategy helped drive store traffic in both rural and urban areas. Sales in key categories increased as consumers spent more time at home. For example, outdoor grilling and lawn and garden items outperformed. Consumers also snapped up "at-home" apparel, including loungewear, athleisure, and children's clothing.

Management is taking advantage of closeout opportunities, a relatively new approach for the chain that led to strong sales for the popular Baby Yoda toy. There is likely more of this closeout inventory for the company to acquire as unsold merchandise accumulates for other retailers in this challenging sales environment.

In terms of the current quarter, Family Dollar is still showing "very solid same-store sales despite less government assistance being available than during the prior quarter," according to Witynski. Consumers are likely to favor shopping outlets where their money goes further.

Retail in the shadow of COVID-19

Given the risks around COVID-19, they're also looking for shopping experiences that help them feel safe and comfortable. Dollar Tree is providing this type of environment by investing in its employees and reducing turnover. Witynski said of these investments:

Over time, lower turnover can lead to improved shopper experience, more efficient store operations, and reduced shrink. During the quarter, one survey ranked Dollar Tree and Family Dollar first in aggregate of strongly trusted or somewhat trusted ratings of all retailers enforcing safety measures for shoppers.

Combined with value, convenience, and appealing inventory, Dollar Tree can keep customer traffic stable. The retailer continues to expand its footprint, opening 105 net new stores during the quarter.

The value retailer has outperformed in the past

Dollar Tree's track record during previous periods of economic turmoil may bode well for its performance this year and heading into 2021. During the Great Recession (Dec. 2007 to June 2009), Dollar Tree thrived. In the fiscal year ended Jan. 31, 2009, the company reported record revenue of $4.64 billion thanks to 4.1% comparable-sales growth. Earnings per share were up over 21% as well.

In that period, the company continued opening new stores and sold essential merchandise that resonated with shoppers just as it is doing in the current environment. Shareholders were certainly pleased as Dollar Tree stock handily outperformed the broad market:

DLTR Chart

Data by YCharts.

Given Dollar Tree's leadership in the discount segment, its appeal with consumers during downturns, and its momentum year to date, the recent dip could end up being a rare opportunity for investors in search of a strong retail operation.

Pearl Wang has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

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