On Wednesday, June 12, I attended Dollarama's (OTC:DLMAF) annual shareholder meeting and heard the first quarter results. On June 3, I wrote an investment analysis article stating that the company was a long-term buy mostly because of the pace of store openings, great management, and superior operating metrics. That thesis has been reinforced by the release of solid first quarter results. Unfortunately, the market didn't respond positively to the results, shaving 5% off the stock after the announcement. For the first time since its IPO, Dollarama missed analysts' expectations -- mostly due to bad weather. Analysts' estimates were for $0.67 EPS, while Dollarama reported $0.62 EPS.
It does look bad on the surface. Still, I was surprised by the market's reaction considering the quality of the quarter. I believe this creates a nice opportunity to take a position. To better understand the situation and the results, I will explain the context first.
I attended the annual meeting, which was, by far, the smoothest annual meeting I have ever been to. Management was relaxed and at ease, shareholders were happy because they are making money, and the mood was jovial. Why would it not be? Dollarama has been on a tear the last couple of years, making it one of the best-performing stocks on the TSX. After management breezed through the exceptional results it was time for the shareholder question period. Instead, the question period became an open house for praising management, standing ovations, and a lot of thank you's. It was very uneventful if you were expecting something dramatic. Not a single shareholder looked disturbed by the results.
Management didn't announce any surprises, there was nothing out of the ordinary, the strategy is still on track and properly executed, the results are good, and it was business as usual. The surprise came once I left the meeting and saw that Dollarama had dropped 5% below the $70 mark. What's wrong Mr. Market? Obviously the market hadn't attended the same meeting.
The results were exceptional, but not good enough for the analysts. Over the years analysts have become very comfortable with Dollarama reporting superior results and beating their own game. Then they set the bar higher and higher -- at a level so high that if you are a degree off, then the stock falls hard. Please note that according to the financial statements we are currently in fiscal year 2014, since the end date is Jan. 31, 2014. Here are the overall results:
Click to enlarge images.
Source: Dollarama.com Q1 earnings release.
Source: Dollarama.com investor relations, Q1 earnings release.
I particularly like the table below because it gives you the bigger picture. Historically, Q4 is Dollarama's best quarter because of the holidays. You can see from the table that sales and earnings have steadily increased over time.
Source: Dollarama.com investor relations, Q1 2013 MD&A.
This is not the first time the stock has gotten hammered. It's déjà vu all over again. Here was the Globe and Mail headline on Dec. 11, 2012: "Dollar Stores: The Miracle Ends." Between November and December 2012, Dollarama fell 13% ($55.99) based on growing sales concerns and a disappointing outlook. How fast do we forget? Dollarama recovered soon afterward and climbed to a new high ($76.61).
Here are other headlines from different media regarding Dollarama's results:
- TSX: "Dollarama $DOL.CA boosts Q1 profit to $45.6M on higher sales revenue"
- Reuters: "Dollarama results disappoint, shares drop 4.5 percent"
- It was a solid quarter.
- Management renewed its share buyback program up to 5% of the shares outstanding. This is superior to the assumption used in my analysis.
- The 800-store mark was passed (806 total vs. 721 Q1 2012). At this pace it will match the 80 openings from 2012.
- Increased sales per basket.
- Items over $1 represent more than 58% of the sales, up from 51%. The $2.5 to $3 price point seems to be successful. However, management wouldn't break down the segmentation any further.
- CEO Larry Rossy stated that he easily sees 1,000-1,200 stores in the next couple of years, in line with my predictions.
- Dollarama finds that Eastern Canada is not saturated and that Ontario and Western Canada are underpenetrated.
- Transaction size was up 4.6%.
- Dollarama is rolling up a new software at the cash registers to speed up transactions. According to Rossy they are ditching the 1970s technology.
- Target (TGT) seems to benefit Dollarama. Data is limited because Target is just beginning to be rolled out in Canada, but early presence indicates that Target is increasing traffic. Also, Target is more of a direct competitor to Wal-Mart (WMT).
- Dollarama is studying to take over the lease of certain stores in difficulties such as Everything for a Dollar, Future Shop, Best Buy and Blockbuster
- The controllable part: One of the main reasons for missing analysts' expectations was store opening costs. It's expensive to open stores. Cost is up. A lot of it depends on the interpretation. Yes, store opening costs are up but Dollarama opened more stores in Q1 2013 than it did in Q1 2012. Management did state that store opening costs were a problem to address. Store opening costs are a one-time expense and are non-recurrent. It's a "good" expense because future contribution will offset current expense.
- The uncontrollable part: The second reason for missing the mark was because of the weather. Store traffic slowed down year over year because of the miserable winter we had. The truth is that last year's winter/spring was abnormal. There was no snow in January 2012 and people were golfing in March. This year's winter looked like a winter. This year kids had snow days. The other negative impact of the bad weather is that your fixed cost still exists while you are not bringing in sales. The employees still have to show up. The lights are still on. But the customers are not coming. Basically, this negative is nothing out of the ordinary.
- A 0.9% decrease in the number of transactions. This was offset by higher transaction size.
- Gross margin down to 35.9% vs. 36.3% last year. This is due to higher logistics costs with the increased pace of opening new stores. Management aims for margins between 36% and 37%.
- SG&A up to 18.8% from 18.5%, mostly due to training new staff and labor costs associated with new store openings. All the timing of costs of certain productivity initiatives occurred.
The Bottom Line
To conclude, for anyone who is a shareholder or has the intention of acquiring some shares of Dollarama, the sell-off creates a nice entry point for superior performance. The sell-off is caused by believing that the perception is worse than reality. The long-term fundamentals got stronger. If you are a long-term shareholder such as myself, Q1 results were good news. You need to see the results as if you are an owner of the company. The results were great, the business is growing, the operating metrics are good, the strategy is working, and there is a lot of room for growth. The people who are disappointed with the results are the speculators and people chasing ''miracle stocks.'' In exchange they are selling their shares at a bargain. You can give credit to the weather.