The Tax Bite Won't Last At These Retailers

By Reuben Brewer - February 26, 2013 | Tickers: DG, DLTR, WMT | 0 Comments

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Excerpts from an internal email at Wal-Mart (NYSE: WMT) put a real-world face on the impact of the 2-percentage-point increase in the Social Security tax. In an excerpt recently published in Bloomberg, one of the retailer's executives was quoted as calling sales a “disaster.” That's likely to be the case at more than just Wal-Mart, at least for now.

Helping the Little People

The U.S. government decided to help workers in 2011 and 2012 by reducing the amount of Social Security taxes that get withheld from their salaries. While the benefit only amounts to around $100 a month for a person earning $50,000 a year, that relatively small amount can be the difference between eating out or staying at home, or buying a new outfit or living with what's in the closet. Now that those two percentage points are again being collected, any benefit that customers may have felt is gone.

Wal-Mart Sees the Hit

The excerpt from Jerry Murray, Wal-Mart’s vice president of finance and logistics, wasn't pretty. “In case you haven’t seen a sales report these days, February MTD sales are a total disaster. The worst start to a month I have seen in my ~7 years with the company.” Ouch! There are other factors involved, of course, but the tax hit was likely a notable contributor.

While everyone loves low prices, Wal-Mart caters to the lower rungs of the socioeconomic spectrum. Its shoppers were hard hit by the 2007-2009 recession and the subsequent slow recovery. Since the company sells basic necessities, like groceries, toiletries, and clothing, Wal-Mart initially benefited from people trading down and trying to save money. So did deeper-discount stores Dollar General (NYSE: DG) and Dollar Tree (NASDAQ: DLTR).

However, now that those two percentage points are being taken again, the company's customers have had to regroup. Clearly, as Mr. Murray said, it hasn't been easy.

Shouldn't Be a Lasting Impact

Companies catering to the less wealthy, however, shouldn't suffer from this tax change for too long. All of these companies sell necessities that people can't simply do without. Wal-Mart, meanwhile, takes that a step further by adding such things as drugs and perishable foods. These types of staple items bring customers through the doors again and again.

So there is a base level of sales that Wal-Mart and the dollar stores can expect. The revenue lost, then, is most likely from the extra items that make it into the cart during a regular trip. That can be a pretty big deal for these companies, however, since the regularly purchased items are usually low margined.

Despite the near-term impact on the extras, it's key that Wal-Mart, Dollar Tree, and Family Dollar customers are going to keep shopping at these stores. The one thing that is amazingly consistent about U.S. shoppers is that, well, they like to shop.

So, as long as customers keep coming in, they will eventually adapt to their new income level. When they do, which shouldn't take long, they will again start spending on non-necessities. Maybe not at the same level as before, but the spending won't just disappear forever.

Small may be Better

The dollar stores may actually be better positioned than Wal-Mart in this regard. Generally speaking, Wal-Marts are destination stores, with locations that are not centrally located. This means a Wal-Mart trip is often a big deal.Dollar Tree and Dollar General, on the other hand, tend to have smaller store formats that fit easily into local strip malls and other very accessible areas.

This means that customers can easily drop in and buy the necessities they need as they need. Such trips might actually be made instead of going to Wal-Mart for the express purpose of avoiding the temptation of spending on non-necessities. Still, the dollar stores have plenty of cheap extras -- those “this is totally worth a dollar” items that one can't help but put into a cart. And with such a low price point, it's hard to not splurge just a little. 

Groceries Less of a Differentiator

The big benefit that Wal-Mart has is its push into the grocery isle. That tends to bring people back at least once a week. However, the dollar stores have also been bringing food into their stores. So, this might not be as notable a benefit as Wal-Mart might like. That said, the food products in dollar stores tend to be less perishable and more convenience oriented.

People Like to Shop

If the recent history of this country has shown anything, it's that U.S. consumers like to shop. While short-term changes in income can have a notable impact, people adapt. Once that happens, look for sales to begin rebounding at these companies. Any near-term price weakness could be a buying opportunity.

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