Family Dollar and the Fastest Growing Type of Retail

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Family Dollar (NYSE: FDO) is a chain of retail discount stores currently operating about 7,500 locations in 45 states.  The stores carry a variety of products priced from under $1 to $10, and the stores use very little advertising or promotional activities.  Combined with very low product costs, this allows the company to sell deeply discounted merchandise.

The company has done very well lately, with same-store sales rising 4.7% in fiscal year 2012.  Family Dollar attributes a lot of the increase in business to middle-income customers switching from higher-priced retailers for their everyday basics.  The company describes its average customer as a mid-40’s woman who is the head of her household and has an average income of under $30,000.  Obviously, this leaves a vast majority of consumers that the company could potentially capitalize on.

Family Dollar is one of the fastest growing retail chains in the U.S.  The relatively small size of the company’s stores make expansion more practical in smaller markets than it would be for, say, Target.  The company has implemented five major growth strategies over the past several years:

1.)    They are actively expanding their food offerings by installing refrigerated food coolers in stores since FY 2005, as well as expanding their shelf-stable food offerings.  This enables Family Dollar to increase store traffic by meeting the food needs of its customers between trips to the supermarket.  In addition, the coolers allow the stores to qualify for the federal food stamp program, creating an entirely new source of revenue for the company.

2.)    Second, in what the company refers to as its “Treasure Hunt Strategy," the company has started integrating unexpected, limited-time offerings to its usual assortment of products.  This is advertised using circulars to bring in traffic, and is intended to create customer excitement and differentiate the company from its competition.

3.)    The company is upgrading systems within its existing stores in order to enable faster checkout, credit card acceptance (Family Dollar was cash-only for most of its history), and to allow the use of food stamps.

4.)    The company’s “Project Accelerate” is intended to help improve price optimization, category management, space planning, assortment planning, and merchandise financial planning.

5.)    Last, the company created a “Concept Renewal Lab” to test new store layouts and designs before implementing changes in the stores.

With the company due to report earnings on Thursday, Jan. 3, investors should listen for any progress updates with any of these initiatives.

As a company, Family Dollar appears to be very attractively valued.  For fiscal year 2012 (which ended in August), the company earned $3.64 per share, meaning that the company trades at 17.3 times earnings.  However, earnings per share are expected to grow at a very nice rate, with consensus estimates calling for earnings of $4.24, $4.82, and $5.70 in fiscal years 2013, 2014, and 2015, respectively.  This means analysts are projecting 16% average annual earnings growth over the next 3 years, more than justifying the slightly above average multiple.

To put this in perspective, let’s evaluate some of the competition.   Family Dollar’s closest competitors, by business structure, are Dollar Tree (NASDAQ: DLTR), and Dollar General (NYSE: DG).  According to consensus estimates, Dollar Tree’s earnings are expected to average a slightly higher 17.8% growth rate; however, the stock trades at 19.8 times the past fiscal year’s earnings.  Dollar General is expected to grow at 17.7% and trades at an 18.3 P/E ratio. 

So, all three seem to be similarly valued, and the general consensus seems to be that the “dollar store” concept will flourish in the years ahead.  If this growth is further confirmed by the earnings report next week, these companies, and Family Dollar in particular, are all worth serious consideration.

KWMatt82 has no positions in the stocks mentioned above. The Motley Fool has no positions in the stocks mentioned above. 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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