A U.S. recession could be on the horizon -- 81% of economists are predicting that the U.S. economy will enter into a recession within the next 24 months. And with so many economists and consumers alike holding these beliefs, an economic downturn could become a self-fulfilling prophecy.
Regardless of when the next recession hits, investors would be savvy to at least begin positioning their portfolios for such an event. And seeing as consumers typically look to get more value out of their money in tough times, Dollar Tree (DLTR 0.04%) could fare well in a recession.
But is the stock a buy for growth investors? Let's dig into the fundamentals of the discount store giant and its valuation to address this question.
A quickly growing business
Dollar Tree is the holding company of two discount store brands that many Americans and Canadians may recognize: the eponymous Dollar Tree as well as Family Dollar. With more than 16,000 stores in 48 U.S. states and five Canadian provinces, Dollar Tree's reach is bested only by competitor Dollar General's 18,000-plus stores throughout 47 U.S. states.
Dollar Tree's consolidated net sales surged 8.1% higher year over year to $6.9 billion during the third quarter ended Oct. 29. What led to the large-cap company's solid top-line growth for the quarter?
Dollar Tree's total same-store sales grew 6.5% over the year-ago period. Since the company's stores are predominantly located in underserved and rural areas, persistent inflation has weighed especially heavily on the minds of consumers in these areas. This is why shoppers have been frequenting retailers that offer strong value propositions like Dollar Tree, which has been a boost to its store traffic.
Along with a 2% increase in the company's total store count to 16,293 in the quarter from new store openings, this explains the respectable net sales growth rate during the quarter.
Dollar Tree recorded $1.20 in diluted earnings per share (EPS) for the third quarter, up 25% from the year-ago period. Due to excellent cost management, the company's biggest expense category, known as cost of sales, only increased by 4.6% in the period. Because this was a slower increase than net sales, Dollar Tree's net margin expanded by nearly 50 basis points to 3.8% during the quarter. When paired with a 1.2% reduction in the company's diluted share count from share repurchases, this is how diluted EPS grew faster than net sales for the quarter.
As Dollar Tree expands into more communities and strengthens its product offerings, significant earnings growth should continue in the years ahead. In fact, analysts believe that the company will generate 20.8% annual diluted EPS growth through the next five years. This is well above the discount stores industry average growth estimate of 6.9%.
Image source: Getty Images.
The company is financially strong
A flourishing business is one thing. But without a well-positioned balance sheet, a company will have a difficult time executing on its growth ambitions. Fortunately, Dollar Tree is financially sound. The company is expected to end the current fiscal year with net debt (net cash minus long-term debt) of $2.6 billion. Compared to the $3 billion in earnings before interest, taxes, depreciation, and amortization (EBITDA) that is projected for the year, this is a net-debt-to-EBITDA ratio of less than 0.9.
This is much better than Dollar General's forecast net-debt-to-EBITDA ratio of 1.4 for its current fiscal year. That means that Dollar Tree could hypothetically repay its debt in a little more than 12 months, including interest and tax expenses. This should provide Dollar Tree with ample ability to open new stores, repurchase shares, and repay debt moving forward.
A compelling mix of value and growth
Down just 1% in 2022 thus far, Dollar Tree has fared quite well amid the Nasdaq Composite's 33% plunge during that time. And yet the stock still appears to be an attractive value.
Dollar Tree's forward price-to-earnings ratio of 17.7 is far below the discount stores industry average of 22. This is arguably a steal of a valuation for a stock whose growth prospects are superior to those of the discount stores industry -- all of which makes Dollar Tree a great defensive pick.
