Out of the three publicly traded "dollar stores," Dollar Tree (NASDAQ:DLTR) is the only pure play left. Both Dollar General (NYSE:DG) and Family Dollar Stores (UNKNOWN:FDO.DL) have long since evolved multiple price points, but Dollar Tree has been steadfast with its mantra of being "North America's leading operator of discount variety stores selling everything for $1 or less." That will eventually change, and that eventually may happen sooner than you think.
Don't get me wrong. The "everything for $1" strategy has been treating Dollar Tree well. Last quarter, sales popped 7.2%, same-store sales climbed 2%, and earnings per diluted share rose 13.6% to new records for the first quarter.
Dollar General has had similar success. Last quarter, net sales flew 6.8%, same-store sales lifted 1.5%, and diluted earnings per share jumped 7.5%.
Family Dollar Stores, along with its strategy of selling products for over $1 and even for over $5, hasn't been as fortunate. Last quarter, calendar-adjusted net sales inched up only 0.4%, same-store sales dove 3.8%, and calendar-adjusted diluted earnings per share plunged 28%. Family Dollar Stores blamed the weather for some of the earnings drop, but that was only part of the reason.
Perhaps in response to Dollar Tree's continuing improvements, Family Dollar Stores is slashing prices on more than 1,000 items. Howard Levine, chairman and CEO of Family Dollar Stores, referred to the $1 price point as "magical." Family Dollar Stores plans to return its focus to driving traffic into its stores with $1 items.
Passing the buck
In a bit of irony, while Family Dollar Stores is busy becoming more of a dollar store, Dollar Tree may be moving toward multiple price points like Dollar General. Dollar General is the least "dollar store" of the three. Pop into any Dollar General store and it can actually be a chore to find items at the $1 price point.
Eventually Dollar Tree will have to join the club with Dollar General and Family Dollar Stores and offer multiple price points simply because of inflation. Inevitably, $1 will become worth far less than it is today. You don't see five and dime stores still selling products for $0.05 and $0.10, do you?
For instance, take a look at the last reported quarter for each of the three. For Dollar Tree, pre-tax income was around 11% of sales. All other things being equal, if inflation rises 11% and all of Dollar Tree's costs also rise 11% with it (including labor, energy, etc.), then all of Dollar Tree's profits would be wiped out.
Dollar General and Family Dollar Stores have pre-tax profit margins of around 8% and 5% respectively. An 11% increase in inflation would likely result in these two chains simply raising their prices by around 11%. Dollar Tree, as of now, doesn't have that luxury for its main chain.
Dollar Tree owns a much smaller chain called Deal$0. Bob Sasser, CEO of Dollar Tree, stated on the most recent conference call that Deal$is another key component of the company's growth strategy. Deal$, like Dollar General and Family Dollar Stores, offers products at price points higher than $1. Sasser added, "By lifting the restriction of the $1 price point at Deal$, we're able to serve more customers with more products at value prices every day."
During the Q&A session, Sasser stated that Dollar Tree is focused on increasing sales per square foot at its stores. He believes the company's "growth trajectory" will be "among the highest in retail." He went on to say that Dollar Tree has "a lot of energy focus toward" the Deal$business.
Foolish final thoughts
Don't look yet, but the company will integrate Deal$into the Dollar Tree stores themselves in this Fool's opinion. That would be the perfect way to integrate it and evolve Dollar Tree toward the inevitable multiple price point model used by Family Dollar Stores and Dollar General. Expect to see separate sections in Dollar Tree stores with the Deal$label.
This is the perfect way, and the easiest one, to "increase sales per square foot" through higher-priced merchandise. At some point Dollar Tree will have to change simply due to inflation or its profit margins will shrink, its product quality will suffer greatly, or both. A Deal$integration will allow this to happen gracefully without diluting the power of the Dollar Tree brand for offering products at $1 or less for longer than others.
Nickey Friedman 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.