By Neil Saunders
Dollar Tree’s numbers this quarter cover a 13-week period compared to 14 weeks in the prior year. For this reason, total sales are down by 2.4%. The comparable sales numbers, which rose by 2.4%, provide a more balanced view of performance. They show that the company is advancing at a reasonable pace—just below overall growth in the value segment of the US retail market.
At the brand level, there is a divergence in performance. Dollar Tree’s same-store sales grew by 3.2% while Family Dollar’s expanded by a meager 1.4%. Although both brands are in positive territory, Family Dollar is underperforming, both as a division and within the wider market. Much more corrective action is needed to revive Family Dollar’s fortunes.
The continued problems at the Family Dollar division have resulted in an impairment of its brand value to the tune of $2.73 billion. This massive write-down has pushed the company to an eyewatering $2.15 billion operating loss for the quarter and a $939.5 million loss for the full financial year. Such a deterioration undermines some of the economics on which the acquisition and integration of Family Dollar were based.
Also contributing to the profit erosion, albeit in a small way compared to the impairment charges, was a decline in gross margin largely thanks to higher costs, including higher wages, and a rise in freight and shipping fees. Although some of this has been mitigated by higher volumes, we remain slightly concerned about future profitability as other negative headwinds, especially tariffs, continue to bite.
Added to these external cost pressures is the expense of revitalizing Family Dollar, which is now a key priority. As much as we applaud the program to refurbish around 1,000 stores with a new format and to close underperforming locations, the capital expense of doing this will drag down the bottom line. Fortunately, trials of the new format have shown it to have a positive impact on sales, so the company should recoup some of its investment over the medium term. There is now a solid strategy around how to shift the proposition to better cater to the needs of consumers.
The recognition of these cost pressures has led Dollar Tree to, once again, explore the potential for multi-level pricing, where it stretches some of its products above the $1 mark. This is a sensible move that will give the company significant flexibility in dealing with cost increases. It would also facilitate improvements to the range, including the introduction of more ‘premium’ items and brands. However, the move brings with it the dangers of complexity and confusion, both of which could undermine customer trust in what is currently a simple, easy-to-understand retail model, at least in the short term. Longer term, we see no reason why this move can’t work, especially since it is employed by Dollar General and other value players.
Looking ahead, we see both positive and negatives on the horizon. The negatives come in the form of higher costs, a focus on correcting issues rather than driving new growth, and a more competitive value segment. The positives arise from a slightly tighter consumer economy in which people will seek value, and a gentle improvement from Family Dollar. Taken together, these things mean that the outlook for Dollar Tree remains fairly neutral. We expect 2019 to be a year of some progress, but the company will be held back by both internal and external issues.
Neil Saunders is managing director of research firm GlobalData Retail.