Dollar General Is An Industry Leader

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About: Dollar General Corporation (DG), Includes: DLTR
by: MontrealValue
Summary

Dollar General's recent share price slump created the perfect opportunity for investors to initiate a position.

Same-store sales should continue to grow as they have for the last 26 years.

Dollar General is a leader and will continue to outperform its industry peers.

Dollar General (NYSE:DG) is the biggest player in the specialty discount retail space in America with approximately 13,000 stores in 43 states. Their growth rate over the years has been outstanding; ~17% CAGR (including dividend) since their IPO in 2009.

Dollar General's business model is simple and easy to understand. It focuses on the sale of perishable and replaceable household goods; food, snacks, cleaning products, etc.

Dollar General's latest financial results caused the share price to get hammered over 30%. The company's comparable-store sales and profit margins only grew by 0.7% yoy in the most recent quarter but could come under pressure due to the challenging industry conditions. Expansion of small format stores by other specialty retailers, along with recent deflation in the food industry may hurt DG's same store sales growth in the near future.

However, as business recovers in the coming quarters and the commodity cycle bottoms, DG will see continued growth in this segment.

Introduction

Dollar General's recent share price slump created the perfect opportunity for investors to initiate a position.

Same-store sales should continue to grow as they have for the last 26 years.

Dollar General is a leader and will continue to outperform its industry peers.

Dollar General is the biggest player in the specialty discount retail space in America with approximately 13,000 stores in 43 states. Their growth rate over the years has been outstanding; ~17% CAGR (including dividend) since their IPO in 2009.

Dollar General's business model is simple and easy to understand. It focuses on the sale of perishable and replaceable household goods; food, snacks, cleaning products, etc.

(Source: Dollar General Corporate Presentation)

Dollar General's latest financial results caused the share price to get hammered over 30%. The company's comparable-store sales and profit margins only grew by 0.7% yoy in the most recent quarter but could come under pressure due to the challenging industry conditions. Expansion of small format stores by other specialty retailers, along with the recent deflation in the food industry may hurt DG's same store sales growth in the near future.

(Source: Dollar General Corporate Presentation)

However, as the business recovers in the coming quarters and the commodity cycle bottoms, DG will see continued growth in this segment.

Investment thesis

I believe that the 30% decline in DG's share price has created the perfect opportunity for investors to initiate a position.

Dollar General has shown significant growth since its inception and will continue to do so as its future earnings power is still strong. The deflationary environment in the food industry is only temporary and as the commodity bottoms, DG will continue on its growth path.

Dollar General's model is unique, simple and predictable; its operating efficiency has created an outstanding 18-20% IRR on new store openings. As Dollar General continues on its path to open new stores, it should achieve its goal of reaching $30 billion in annual sales by 2020.

Moreover, DG is focusing on cost cuts; it plans to reduce SG&A expenses by 15% by 2020, creating even more shareholder value.

Finally, although DG has seen weakness in its share price, primarily due to its grocery segment, its business model is intact and its future earnings power will come out unscathed.

Valuation

Dollar General currently trades at 16x trailing earnings and 9x EV/EBITDA. This is significantly lower than its closest competitor, Dollar Tree (NASDAQ:DLTR), which trades at 24x trailing earnings.

Dollar General also initiated a dividend at the end of last year, currently yielding 1.44% with a payout ratio of 22%.

(Source: Yahoo Finance)

I believe that the short-term negative outlook for Dollar General is already priced into its shares as the historical P/E of the stock is around 18.5x. 16x trailing earnings with a 22% payout ratio is much lower on historical terms as well as compared to industry peers; given this, I believe DG's shares are undervalued.

If Dollar General is able to deliver on its growth potential, investors will most definitely see a great return on investment.

Disclosure: I am/we are long DG. 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.