Collecting Dollars From The Dollar Tree

| About: Dollar Tree, (DLTR)

The dollar stores' stocks were very well pursued since the 2008 meltdown, and what many investors were waiting for in the first half of this year was a pullback. At that time, these dollar stores were trading at unrealistic multiples and were stocks I would not touch with a 10-foot pole. But presently, with the long-awaited pullback in place already, it might just be time to reconsider these dollar stores once again. In just 5 months, we had seen Dollar Tree (DLTR) fall more than 28%, Dollar General (DG) falling almost 8% and Family Dollar (FDO) down near 6%, as shown in the chart below.

Therefore, this article will be about the biggest dropper of the three, Dollar Tree, which has the backing of strong fundamentals, in my opinion, and should recover well in the future.


Dollar Tree, Inc. operates discount variety stores in the United States and Canada. Founded in 1986 and based in Virginia, its stores offer a variety of merchandise at the fixed price of $1. As of April 28, 2012, it operated 4,451 stores in 48 US states and 5 Canadian Provinces.


Price (17.11.2012) $38.82

Market Cap

Income (2011) 527.70M (Trailing P/E: 17.33)
Sales (2011) 6.97B (P/S: 1.24)
Book Value Per Share (BVPS) $6.61 (P/B: 5.87)
Return On Equity (ROE) 33.93%
Debt/Equity Ratio 0.17
EPS Growth Past 5 Years 26.72%
EPS Growth Next 5 Years (est.) 17.45%
Current Ratio 2.28

From the above snapshot, it is quite evident that the company has many merits, especially in the fundamental aspects.

1. Good Value

Dollar Tree's P/E ratio has dropped to a modest 15.59 after peaking around 25 in May 2012. Its P/E of 15.59 is also lower compared to its two main competitors: Dollar General, with a P/E of 18.66, and Family Dollar, with a P/E of 18.59. Its current P/E is also lower than its 5-year average P/E ratio of 17.04, as shown in the table below. Its P/B and P/S ratios had also declined in the same fashion over the past 5-6 months.

Month P/E
Nov. 2008 16.04
Nov. 2009 14.02
Nov. 2010 18.13
Nov. 2011 21.44
Nov. 2012 (Today) 15.59
Average 17.04

2. Impressive EPS Growth

Dollar Tree has delivered impressive earnings over the past 10 years, with EPS numbers increasing every year over the past 10 years. EPS had grown at 16.46% annually over the past 9 years and 26.72% annually over the past 5 years, which is fabulous, but this could also be attributed to the fact that the company was a small cap for a big part of the past 10 years.

As seen from the table below containing the EPS numbers over the past 10 years, Dollar Tree had made a good turnaround since posting a loss in 2002. Since then it has thrived, and I believe it will thrive in the years to come, with very good prospects.

Year EPS ($) Growth
2002 (-$0.02) -
2003 $0.51 -
2004 $0.53 3.92%
2005 $0.53 0.00%
2006 $0.62 17.0%
2007 $0.70 12.9%
2008 $0.84 20.0%
2009 $1.19 41.7%
2010 $1.55 30.3%
2011 $2.01 29.7%

I believe that Dollar Tree's EPS will continue to grow at this rate because of its business model. It is now one of the only companies in USA that is selling its goods at $1 or less. With the unfavorable economic conditions we are in now, people will try to scrimp and save for times of hardship, and therefore turn to retailers selling goods at cheaper prices - companies like Dollar Tree, Wal-Mart (WMT) or Costco (COST). This is one potential catalyst to push earnings higher in the future.

During the third quarter this year, we opened 111 new stores and relocated and expanded another 16 stores. Through three quarters of 2012, we have added 298 new stores and expanded or relocated 81 stores. Selling square footage has increased 7.1% and we ended the quarter with 4,630 stores. We are on-track with our new store opening plan for the full year 2012 which includes 315 new stores and we have surpassed our plan for 75 relocations and expansions in 2012. We now expect to complete more than 395 total projects across the US and Canada in fiscal 2012.

I am also particularly pleased by the productivity of our new stores; sustained improvement requires a coordinated effort across the organization, it requires a strategy and it requires team work between real estate, merchants, planning, stores and logistics. Our teams are concentrated on improved site selection, on right sizing our stores, expanding our assortments, improving staffing and building the bench of qualified store management and on opening new stores earlier in the year. We believe these are the key elements to increasing our new store productivity and we are having success. I am very pleased to report that average new store productivity has increased in each of the past six years and the trend has continued through the third quarter 2012.

Additionally, from its above excerpt from its Q3 2012 earnings conference call held in November 2012, its new stores had been exceptionally productive and well-received. Besides this, I like both the speed it is expanding at (slow and steady, as shown in the table below) and the careful steps the management had taken to make the most out of the newly opened stores. I believe that they are on the correct path so far and that its EPS will grow further in the years to come, not only because of the effectiveness of the management, but also for the demand I expect its goods to have, especially with an unfavorable economy at the moment.

Year Stores
2007 3,411
2008 3,591
2009 3,806
2010 4,101
2011 4,351
2012 Latest Qr. 4,630

A Clearer Picture Of Dollar Tree's Store Growth

3. Little Debt

Dollar Tree has very little debt - only $250M at the moment. It has kept its debt about this $250M mark and its debt/equity ratio below 0.3, which is fabulous in my view, and below my personal debt/equity limit of 0.5. This means that Dollar Tree is earning enough to not consistently rely on debt to expand itself. This is also evident as seen from the fact that its debt/equity number had been maintained under 0.3 for the past 10 years. This ratio shows the proportion of equity and debt the company is using to finance its assets, and the higher the ratio, the more debt, rather than equity, is financing the company. A high level of debt compared to equity can result in volatile earnings and large interest expenses. Below is a table containing Dollar Tree's debt numbers over the past 10 years.

Year Debt ($) Debt/Equity Ratio
2002 163.91M 0.04
2003 154.83M 0.17
2004 250.53M 0.23
2005 250M 0.23
2006 250M 0.23
2007 250M 0.27
2008 250M 0.21
2009 250M 0.19
2010 250M 0.18
2011 250M 0.20
2012 Latest Qr. 250M 0.17

4. Steadily Increasing BVPS

I also like their book value per share (BVPS) growth over the past few years. This number had grown very consistently over the past 10 years and I expect to grow at or close to this speed in the future. The BVPS value is determined by relating the original value of a firm's common stock adjusted for any outflow (dividends and stock buybacks) and inflow (retained earnings).

Year BVPS (Book Value Per Share, $)
2002 $2.50
2003 $2.93
2004 $3.44
2005 $3.67
2006 $3.79
2007 $3.58
2008 $4.61
2009 $5.40
2010 $5.83
2011 $5.65
2012 Latest Qr. $6.61

5. High ROE Number

Additionally, Dollar Tree's return on equity (ROE) number had been increasing very steadily over the past 10 years. It locked in an impressive 38.76% last quarter. A high ROE indicates that a company's management is using shareholders' money more effectively, which is good both for the company and its shareholders. The definition of ROE is the amount of net income returned as a percentage of shareholders' investments. This measures a corporation's profitability by revealing how much profit a company generates with the money shareholders have invested. The table below shows Dollar Tree's ROE number over the past 10 years.

Year ROE (%)
2002 18.10
2003 17.50
2004 15.50
2005 14.80
2006 16.40
2007 20.40
2008 18.30
2009 22.40
2010 27.20
2011 36.30
2012 Latest Qr. 38.76

6. Management Is Buying Back Shares

Dollar Tree's management had also been returning to shareholders by buying back shares over the past 10 years. Shares outstanding had dropped from 342.69M in 2002 to 227.21M today, representing an impressive 33.7% drop over the past 10 years. This is beneficial to shareholders as it enables them to own a larger part of the company without owning more shares. Below shows a table with the number of shares outstanding Dollar Tree has had over the past 10 years.

Year Shares Outstanding (Millions)
2002 342.69
2003 342.25
2004 339.06
2005 319.66
2006 298.99
2007 269.35
2008 272.31
2009 262.57
2010 246.79
2011 231.16
2012 Latest Qr. 227.21

At quarter end, we had $965 million remaining in our share repurchase authorization. The diluted weighted average shares outstanding for the third quarter was $230.0 million. Over the past four quarters, we have invested $535.3 million for share repurchase.

From the above excerpt from Dollar Tree's Q3 2012 conference call held in November 2012, it is evident that Dollar Tree plans to buy back more shares over this year, and they are likely to do the same in the future, as sales and business prospects have been improving.

7. Decreasing Days Inventory Number

Next, Dollar Tree's days inventory number has also been falling steadily over the past 10 years, from 88.10 in 2002 to 73.40 today, which means goods stay in the inventory for a shorter period of time. Days inventory is a measure of a company's performance that gives investors an idea of how long it takes the company to sell its goods in the inventory. This is another positive point about the company as this is a sign that sales are improving. Below shows the days inventory numbers for Dollar Tree over the past 10 years.

Year Days Inventory
2002 88.10
2003 107.0
2004 112.0
2005 94.70
2006 84.50
2007 84.10
2008 80.80
2009 73.50
2010 77.20
2011 74.50
2012 Latest Qr. 73.40

This is a measure of how long goods stay in its inventory, therefore, as sales and earnings increase, this number should, in turn, decrease.

8. Strong Balance Sheet

Before I start on anything, here is Dollar Tree's balance sheet on MSN Money.

First, Dollar Tree's assets grew faster than its liabilities over the past three years. From the year ended February 2, 2008 to the year ended January 28, 2012, Dollar Tree's total assets had increased from $1.788B to $2.329B, an increase of 30.3% over five years. On the other hand, its total liabilities had increased from $799.3M to $984.0M, an increase of only 23.1% over the past three years.

Second, Dollar Tree has more current assets than current liabilities. As of Sept. 2, 2012, it had $1.209B in current assets and $581M in current liabilities. This is a good sign as the company is able to pay off its short-term liabilities if it is obliged to pay all of them off at one time.

Third, Dollar Tree has no preferred stock, which is a good sign for the company and its shareholders -- it does not need to pay extra special dividends, which would only drain its cash reserves faster. A company that has preferred stock also shows how cash-strapped it is to have to borrow money from its shareholders, technically, at higher interests than normal (special dividends, etc.).

Key Risks/Flaws

Every company, regardless of how good is seems, is bound to have some flaws. Here, I will list some of Dollar Tree's flaws.

1. High P/B Ratio

Although Dollar Tree has good value and its book value per share (BVPS) has been increasing as shown previously, I feel that its book value as compared to its current price is still too little. Dollar Tree has a stock price of $38.82 as of November 16, 2012 and a book value of $6.61. This is a P/B (Price/Book) of 5.87. The number has dropped considerably after Dollar Tree's pullback but it is still a little too high by my standards.

2. Highly Competitive Industry

Dollar Tree operates in a highly competitive environment. In its industry, Discount, Variety Stores, it not only competes with companies like Dollar General or Family Dollar. It also competes with larger counterparts like mega discount retailers Wal-Mart and Target (TGT). These two companies had also been performing very well over the past few years, and their sizes are huge. The pair's $19.24B in income alone already overwhelms Dollar Tree's $7.09B in sales. This point is reiterated by the fact that Dollar Tree's profit margin is only 7.40%. Although this number is higher than many of its competitors, it is extremely low compared to many other industries.

3. Vulnerable Profit Margins

Another risk they have is their vulnerable profit margins. Their profit margins might be lowered due to inflation. They sell their goods at $1, and strive to do so as well in the future. But, as inflation kicks in and the cost of the goods itself, the costs of gasoline and other related costs increase, their already low (7.40%) profit margin might be squeezed even lower, and threaten the company's profitability. This is one of the most significant risks, in my opinion, with Dollar Tree.

The Takeaway

Overall, Dollar Tree is a great stock to buy over the long term. Although it has a few flaws, like any company has, I believe that all of its merits make up for it flaws and make the company a good investment over the long term. Along with the fact that it has pulled back considerably from its highs, this could just be the right time to buy its stock.

All the information in this article were sourced from Seeking Alpha, MSN Money, Gurufocus, Finviz, YCharts, Investopedia and Yahoo! Finance. All prices mentioned are based on the 16 November 2012 closing price.

Disclosure: I am long COST. I may initiate a long position in DLTR over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.