Family Dollar Meets, Profit Rises

Zacks

The economic recovery is still patchy, and bargain hunters are going from one shop to another to grab the best deal, with their primary focus being on consumable items, and Family Dollar Stores Inc. (FDO), the operator of self-service retail discount store chains, remains successful in luring cautious consumers amid a fragile economic recovery.

This was quite evident from the company’s fourth-quarter 2012 results. The quarterly earnings of 75 cents a share came in line with the Zacks Consensus Estimate but jumped 13.6% from 66 cents earned in the prior-year quarter on the heels of healthy sales witnessed in the Consumables and Seasonal & Electronics categories.

The company had earlier guided earnings in the range of 71 cents to 81 cents a share for the quarter. Management now expects earnings between 69 cents and 78 cents for the first quarter and in the band of $4.10 to $4.40 per share for fiscal 2013.

The current Zacks Consensus Estimates for the first quarter and fiscal 2013 are 78 cents and $4.22 per share, respectively.

We observe that Family Dollar’s strategic initiatives to improve merchandising and store operations have aided top and bottom line growth. Management’s 3 to 5 years growth target includes double-digit bottom-line growth.

Let’s Unveil the Picture

Family Dollar posted a 10.8% increase in revenue to $2,364.1 million from the prior-year quarter, and reflected sales growth across Consumables (up 16.1%) and Seasonal & Electronics (up 4.8%) partially mitigated by Apparel and Accessories (down 6.7%) and Home Products (down 1.4%). However, total revenue fell short of the Zacks Consensus Estimate of $2,367 million.

Family Dollar, which faces stiff competition from Wal-Mart Stores Inc. (WMT) and Dollar General Corporation (DG), brought in new categories such as magazines, tobacco and gift cards, and introduced new offerings in consumable businesses such as food and health and beauty aids. We believe effective pricing and inventory management, private label offering, expanded operating hours and merchandise initiatives should drive sales.

The company’s point-of-sale technology and store realignment initiatives better position it to drive traffic, meet customer-oriented demand and improve in-store shopping experience. Consumers with lower disposable incomes are now prioritizing their purchases and looking for low-priced options. The company trades in merchandise generally priced under $10.

Based in Matthews, North Carolina, Family Dollar hinted that comparable-stores sales are on the rise on improved traffic count and increase in average consumer transaction value. Deeper focus on consumables helped Family Dollar to drive business from budget-constrained consumers.

Comps jumped 5.4% in the quarter compared with a growth of 5.6% in the prior-year quarter. Management expects both the first quarter and fiscal 2013 comparable-store sales to increase between 4% and 6%. For the next 3 to 5 years, management expects mid-single-digit jump in comparable-store sales.

The sales in the quarter were driven by the lower-margin Consumables category that registered double-digit sales growth. Given the dismal economy, consumers remain focused on basic necessities, such as food, and with Family Dollar offering low cost options, it remains the choice of shoppers.

The company’s gross margin contracted 20 basis points to 33.8%, whereas operating margin shriveled 140 basis points to 6.1%.

Other Financial Details

Family Dollar ended fiscal 2012 with cash and cash equivalents of $92.3 million, total long-term debt of $532.5 million, reflecting a total debt-to-capitalization ratio of 29.1%, and shareholders’ equity of $1,297.6 million. Capital expenditures for fiscal 2012 were $603.3 million. Management now anticipates capital expenditures between $600 and $650 million for fiscal 2013.

During fiscal 2012, the company repurchased 3.2 million shares, aggregating approximately $191.6 million and paid $91.4 million in dividends. As of August 25, 2012, the company still had $145.7 million at its disposal under its share repurchase program.

Stores Update

During fiscal 2012, Family Dollar opened 475 stores, including 41 outlets in California and closed 56 taking the total store count to 7,442. The company also renovated, expanded, or relocated 854 stores. Through fiscal 2013, the retailer plans to open about 500 new stores and close 70 to 90 stores. The company projects store count to increase at a rate of 5% to 7% over the next 3 to 5 years.

Closing Comment

The economy is still not completely out of hibernation and consumers will remain cautious on their spending, buying only those things that fulfill their basic needs. Consequently, we could see more competitive pricing and new products to attract shoppers.

A price war would definitely eat away margins, which in turn would affect the company’s results. In order to remain competitive, it would be better to try out innovative ways to win the heart of target consumers.

Currently, we maintain our long-term Neutral recommendation on the stock. Moreover, Family Dollar shares maintain a Zacks #3 Rank that translates into a short-term Hold rating.

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