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Edited Transcript of DOL.TO earnings conference call or presentation 30-Mar-17 2:30pm GMT

Thomson Reuters StreetEvents

Q4 2017 Dollarama Inc Earnings Call

MONTREAL Mar 30, 2017 (Thomson StreetEvents) -- Edited Transcript of Dollarama Inc earnings conference call or presentation Thursday, March 30, 2017 at 2:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Michael Ross

Dollarama Inc. - CFO

* Neil Rossy

Dollarama Inc. - CEO, President and Director

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Conference Call Participants

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* Anthony Bonadio

* Brian Morrison

TD Securities Equity Research - Research Analyst

* Christopher Li

BofA Merrill Lynch, Research Division - Director

* Derek Dley

Canaccord Genuity Limited, Research Division - MD and Consumer Products Analyst

* Irene Ora Nattel

RBC Capital Markets, LLC, Research Division - MD of Global Equity Research

* James Durran

Barclays PLC, Research Division - MD, Head of Canadian Equity Research, and Senior Analyst

* Jennifer L. Panes

BMO Capital Markets Equity Research - Associate

* Keith Howlett

Desjardins Securities Inc., Research Division - Consumer Products & Merchandising analyst

* Kenric Saen Tyghe

Raymond James Ltd., Research Division - SVP

* Mark Petrie

CIBC World Markets Inc., Research Division - Research Analyst

* Tal Woolley

Eight Capital, Research Division - MD of Equity Research

* Vishal Shreedhar

National Bank Financial, Inc., Research Division - Analyst

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Presentation

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Operator [1]

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Good morning, and welcome to the Dollarama conference call for the fourth quarter and fiscal 2017 year-end results. Mr. Neil Rossy, President and Chief Executive Officer; and Mr. Michael Ross, Chief Financial Officer, will make a short presentation, which will be followed by a question-and-answer period open exclusively to investors and financial analysts.

For your convenience, the press release, along with the year-end financial statements and management's discussion and analysis, are available at dollarama.com in the Investor Relations section and on SEDAR.

Before we start, I have been asked by Dollarama to read the following message regarding forward-looking statements. Dollarama's remarks today may contain forward-looking statements about its current and future plans, expectations, intentions, results, levels of activity, performance, goals or achievements, or any other future events or developments. Forward-looking statements are based on information currently available to management and on estimates and assumptions made based on factors that management believes are appropriate and reasonable in the circumstances.

However, there can be no assurance that such estimates and assumptions will prove to be correct. Many factors could cause actual results, levels of activity, performance, achievements, future events or developments to differ materially from those expressed or implied by the forward-looking statements. As a result, Dollarama cannot guarantee that any forward-looking statement will materialize, and you're cautioned not to place undue reliance on these forward-looking statements.

For additional information on the assumptions and risks, please consult the cautionary statement regarding forward-looking statements contained in Dollarama's MD&A dated March 30, 2017, available at www.sedar.com. The forward-looking statements represent management's expectations as of March 30, 2017. And except as may be required by law, Dollarama has no intention and undertakes no obligation to update or revise any forward-looking statement whether as a result of new information, future events or otherwise.

I would like to turn the conference call over to Mr. Neil Rossy. Please go ahead.

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Neil Rossy, Dollarama Inc. - CEO, President and Director [2]

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Thank you, operator, and good morning, everyone. The Q4 and fiscal 2017 financial and operating results we reported this morning reflect the strength of our business strategy and our execution. We continue to see growth across all key metrics and realized a particularly strong fourth quarter with strong same-store sales and gross margin coming in ahead of guidance.

These strong results are especially notable given that we were comparing ourselves to an equally strong Q4 in the prior year. In addition, our operational and real estate teams opened 26 net new stores during the quarter. We further expanded our store network, both in mature markets in Canada and increased our penetration in markets in Western Canada. The total number of net new stores opened in fiscal 2017 was 65, and our total store count at year-end stood at 1,095. We expect to open another 60 to 70 new stores across Canada in fiscal 2018.

For Q4, sales growth was stimulated not only by store network expansion but also by same-store sales. We were very pleased with our sales results this quarter given the strong comps reported over the last 2 consecutive years. SSS increased by 5.8% over and above SSS of 7.9% and 8.5% reported in the same quarters of the last 2 years. Average basket size increased by 7.8% while the number of transactions was down 1.9%. A dip in transaction numbers was expected due to the tough comps with 2 very strong consecutive years of transaction growth at 4.2% last year and 3.6% 2 years ago.

Of note, holiday sales were strong with consumers responding positively to our compelling value and the breadth of our offering. Our holiday offering included a selection of products in the $3.50 and $4 price points that provided a greater variety to our customers. Although favorably impacting sales, these items only represented a small percentage of total sales for the quarter.

We're also pleased with the completion of the construction of our new 500,000 square foot warehouse on time and under budget. This new warehouse in the Montreal area is basically up and running now and provides the additional capacity needed to support our continued expansion.

Speaking of expansion, we recently completed the reevaluation of the market potential for Dollarama stores across Canada, which as you may recall, we previously estimated at up to 1,400 stores. Following market studies, we have revised this figure. The result of this new study include the revised 2016 census data and other factors which will be described in more detail by Michael, support management's confidence that the market in Canada could in fact accommodate up to 1,700 Dollarama stores. This provides us with a comfortable runway for continued organic growth in Canada, consistent with the current store formats, real estate quality and capital payback periods.

Finally, we have completed our credit card pilot testing, and we are pleased to announce that we will begin to accept Visa, MasterCard and American Express credit cards in all of our stores across Canada by the end of the second quarter of fiscal 2018. The pilot studies concluded that the incremental impact of increased sales offsets the additional costs of the credit card fees. Although we believe the financial impact to be neutral, this additional payment method will provide our customers with additional convenience.

Before transferring the call over to Michael, I would like to mention that these excellent results reflect the constant commitment of all of our employees to improving our business year-after-year. Our buyers are constantly reevaluating the products we sell to ensure that they provide the compelling value our customers expect. Our operating teams are working together to continually identify new opportunities to operate more efficiently. And of course, our store employees work every day to ensure that our customers are well served.

I'll now pass it over to Michael.

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Michael Ross, Dollarama Inc. - CFO [3]

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All right. Thank you, Neil, and good morning, everyone. So our strong financial performance in the fourth quarter was driven by continued improvements across all key financial and operating metrics.

Total sales were up 11.5% at $855 million. Same-store sales increased by 5.8% over and above the 7.9% increase reported in Q4 last year. Gross margin was very strong at 41.4% of sales compared to 40.8% of sales last year, benefiting from slightly higher product margins and positive impact on strong sales and lower logistics costs.

EBITDA is up 19.1% at $226.2 million, representing 26.5% of sales. Net earnings for the quarter is $146.1 million, a 17% improvement over the prior year. And EPS is up 24% to $1.24, also benefiting from the accretive effect of the share buyback program. CapEx increased from $31.3 million in Q4 F '16 to $37.5 million in Q4 F '17. This increase is mainly attributable to the warehouse construction cost.

We also continue to repurchase shares under our share buyback program. We bought back 2.28 million shares during Q4 at a weighted average share price of $98.32 for a total consideration of $224.1 million.

Looking now at full year results. Overall, we are very pleased with our progress over and above the strong results reported last year. Sales increased by 11.8% to 2 million 963 billion dollars (sic) [ $2,963.2 million ]. As mentioned by Neil, we opened 65 net new stores, bringing our total to 1,895 -- 1,095 across Canada. Same-store sales was 5.8% over and above the 7.3% reported last year.

We maintained gross margins at 39.2% compared to 39% last year. EBITDA as a percentage of sales improved 22.5% to 23.7% as a result of store-level cost control initiatives as well as positive scaling impact of strong top line growth. Net earnings were up 15.7% to $445.6 million while EPS increased by almost 24% to $3.71 per share, reflecting the improved earnings and positive impact of our share buyback program.

In fiscal 2017, we continued our rollout of technological initiative to further improve store productivity. WiFi was rolled out so that new processes could be put in place. New handheld mobile scanners were introduced in all stores to more efficiently count inventory and feed replenishment systems, reducing inventory in our stores and further improving labor productivity by eliminating manual activities. This infrastructure will also allow us to roll out other initiatives aimed at enhancing in-store efficiency, reducing costs and improving customer service.

We continue to generate excess free cash flow well above our investment needs. Our healthy balance sheet and strong free cash flow support the board's decision to increase the quarterly dividend by 10% to $0.11 per common share. Furthermore, we repurchased 7.42 million shares for a total of $705.4 million at a weighted average price of $95.07 per share for the full fiscal year.

On March 16, we issued senior unsecured notes in aggregate principal amount of $225 million, bearing interest at a floating rate of BAs plus 0.59%. The notes have a 3-year term. These new notes were given a rating of BBB with a stable trend by DBRS. Net proceeds of the offering were used to repay variable rate indebtedness outstanding under our credit facility as the rate on the notes is lower than we pay on our revolving credit facility.

Now looking at our outlook for fiscal 2018. As mentioned by Neil, we maintained our 60 to 70 net new-store target for the fiscal year and increased our targeted total stores in Canada to 1,700 based on a new study completed in March 2017. We revaluated the market potential for Dollarama stores in Canada by taking into account population demographics and growth based on the 2016 census and household income data, the current retail competitive landscape in all markets across Canada, the rates per capita store penetration, the performance of comparable and new stores, as well as the targeted payback period expected by Dollarama on new-store openings. We will continue to focus on opening new stores in locations and markets across Canada where we can achieve our targeted return on investment.

We are also increasing the fiscal 2018 guidance on gross margins to a range of 37.5% to 38.5%. Gross margin in Q4 benefited from better-than-anticipated market conditions and the positive scaling impact on higher-than-expected sales. Our current margins on open orders also reflect these improving market conditions. We are comfortable with the strong operating margins that have been generated by the business as we continue to maintain a strong value proposition by offering our customers great products at compelling price.

SG&A for fiscal '17 represented 15.5% of sales compared to 16.4% last year. This improvement reflects the positive impact of store labor productivity initiatives, the benefits of certain cost-reduction initiatives at store level and the positive scaling impact of higher sales. For fiscal 2018, we are maintaining our outlook on SG&A in the range of 15% to 15.5%. At the EBITDA level, guidance is now in the range of 22% to 23.5%, which was increased as a result of the increase on gross margins guidance.

All of these guidance ranges are based on a number of assumptions as described in the press release, including the assumption that same-store sales will be in the range of 4% to 5% for fiscal 2018. Finally, CapEx for fiscal 2018 is unchanged in the range of $90 million to $100 million.

That wraps up our formal remarks. I will now turn it over to the operator to take questions from the analysts. Thank you.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question is from Mark Petrie from CIBC.

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Mark Petrie, CIBC World Markets Inc., Research Division - Research Analyst [2]

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As you went through your review of the marketplace to arrive at your updated store potential figure, did you adjust your parameters or assumptions at all from what you previously assumed around store performance? Or was it all driven -- was the increase driven predominantly by the updated census data and then your view on the competitive landscape?

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Michael Ross, Dollarama Inc. - CFO [3]

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Yes. Well, it's -- Mark, so it's all of the above. So in other words, we used, first of all, the census, which are recent -- which is recent information to -- including population size, household spend and retail activity, competitive landscape. We assumed it's a competitive dynamics in all regions. And the -- for the payback economics, we look at -- we update it obviously from our current store performance and essentially are looking for stores that have similar-performing numbers. And so that we -- as you know, we've been trending to-date with the 2-year payback stores. However, as you move up in time and open up more and more stores, you have to have factored in more cannibalization, which impacts the -- your store payback period. And so all of that is factored into the equation. We -- once we've looked at and as you well know that we deal with -- or use the help of external consultants to help us map out, but we also check in with the real estate team and to confirm or corroborate the information. Now just so that we're clear, and it's always been the case, the visibility -- the certainty, there's none, no certainty. But there's certain visibility, one, starting with our current store pipeline. And so we've given you the target for this year, 60 to 70. But as you move out in time, obviously, that clarity and certainty disappears. And so it's based on the certain assumptions and projections that we put into the model. But essentially, to answer your question on store performance, we're assuming 2 to -- between 2- and 3-year payback type of returns for the locations that we hope to get.

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Mark Petrie, CIBC World Markets Inc., Research Division - Research Analyst [4]

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And sorry, just to clarify, that payback is the same as what you've been assuming before? Or it's extended?

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Michael Ross, Dollarama Inc. - CFO [5]

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What do you mean by -- it's extended. In other words, I'm hoping that my 1,700th store pays back within 2 to 3 years, most likely not -- maybe not 200 -- 2 years in -- when we're at that store count, but the -- it's a range.

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Mark Petrie, CIBC World Markets Inc., Research Division - Research Analyst [6]

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Right. Okay, that's helpful. And as you do map that store count out -- that store network out, have you learned anything different? Or have you had a different view in terms of where those stores are located either sort of urban, suburban, rural or in various regions of the country?

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Michael Ross, Dollarama Inc. - CFO [7]

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It's -- first of all, yes, it's -- in all provinces, there's potential. And it's rural, urban, suburban. And it's going to be malls, strips, street. So it's -- but again, as you're further and further out in time, it gets harder to pinpoint, obviously.

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Operator [8]

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The next question is from Irene Nattel from RBC Capital Markets.

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Irene Ora Nattel, RBC Capital Markets, LLC, Research Division - MD of Global Equity Research [9]

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Just wanted to shift the discussion a little bit, if I might, to the Q4 same-store sales number. Basket growth of 7.8%, very, very impressive and clearly a step-up from the trend rate. Can you talk about what the -- qualitatively, of course, unless you want to give it to us more specifically, what the drivers were of that higher basket value?

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Michael Ross, Dollarama Inc. - CFO [10]

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Okay. So maybe I'll start, and Neil, you can jump in. But essentially, so our -- the number, per se, we've got higher penetration -- penetration of higher price point continues to increase. That's one factor. Two, we introduced, as you know, the $3.50, $4. The number of SKUs wasn't that much, but the impact was better -- much better than we had anticipated. So that's factored in. And what we noticed, too, is higher basket -- so people -- our customers seemed to have bought much more, but the frequency of their visit was lower. And so that would explain the 7.8% or the higher basket size numbers that you see. And obviously, the traffic, as we have announced to you back in Q3, because we're comping against such strong traffic in Q4 last year and the Q4 the year before, that number was absolutely expected.

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Irene Ora Nattel, RBC Capital Markets, LLC, Research Division - MD of Global Equity Research [11]

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So if I -- what I heard you say is that the basket growth both reflected perhaps at unit count as well as unit value growth.

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Michael Ross, Dollarama Inc. - CFO [12]

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Yes. Well, Irene, as you know, we don't disclose in that detail. But all I can say is that people just shopped more at a given time but didn't come as often.

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Irene Ora Nattel, RBC Capital Markets, LLC, Research Division - MD of Global Equity Research [13]

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Okay. And just kind of thinking that through -- and I'm asking these questions in part because of the credit card issue. But presumably, if I'm shopping less often but I'm buying more at any given shop, that's a better net share of my wallet than if I shop less frequently -- shop more frequently at a lower price because every time I spend money, it costs you guys money, correct.

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Michael Ross, Dollarama Inc. - CFO [14]

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Yes.

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Irene Ora Nattel, RBC Capital Markets, LLC, Research Division - MD of Global Equity Research [15]

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Okay. So if we're thinking about what -- credit cards and if, in fact, they're going to drive a larger basket size, shall we be thinking more about basket growth than traffic growth on a go-forward basis? And how should we be thinking about SG&A?

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Michael Ross, Dollarama Inc. - CFO [16]

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Okay. So first, just want to be clear, with the pilot we did, we don't have -- we do have enough to satisfy ourselves that the extra basket offsets the additional cost. But it was 1 province for a year and the 2 other province for -- 1 for 6 months and the other for less than 3 months. So we don't have that much information to -- and not enough transaction to say that was the cause in Q4. However, what we noticed and to give you a bit of color, our debit transactions are still double that of the cash transaction. Credit transaction, therefore, if we were telling you that the cost is offset by higher basket, it would give you something in the same range. So as your credit card and debit card penetrations grow, obviously, because the basket is higher at that given time, we would expect that. Although we don't measure it specifically, we would just expect that to be the case to affect the because people are buying more at a given time. But that's not -- we don't interview every customer, and we don't have that specific information. It's just our judgment of it or the -- our reading of it.

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Irene Ora Nattel, RBC Capital Markets, LLC, Research Division - MD of Global Equity Research [17]

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That's very helpful. And just finally, and then I'll pass it on to someone else, in terms of, I guess, category basket composition, are you seeing any shift among your categories? Or was it pretty similar Q4, the mix of sales was very similar to prior years?

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Neil Rossy, Dollarama Inc. - CEO, President and Director [18]

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Very similar to prior years, Irene.

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Operator [19]

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The next question is from Kenric Tyghe from Raymond James.

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Kenric Saen Tyghe, Raymond James Ltd., Research Division - SVP [20]

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Michael, if I could just follow up on the credit card and credit card acceptance. Is there not also perhaps a scaling effect here as you accept it in all stores across the country? And where I'm going with that is simply that the -- on a constant acceptance basis, there is a cost to accepting cash. And with you accepting in all stores across the country, is there not perhaps a balancing out here as you roll it through all of your stores, and as such, there's a less cost or perhaps a bigger benefit to the credit card acceptance story as we look perhaps through 2018 and perhaps your pilot program would have had you -- have you thinking currently or perhaps there's a bigger tailwind here as we go through fiscal '18 and beyond?

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Michael Ross, Dollarama Inc. - CFO [21]

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Yes. I wouldn't expect -- obviously, your revenues are impacted positively to offset the additional cost. But we're more on the neutral basis, as we said, then are creating material value from that introduction. So until we go through the next year -- again, the pilot, although it allows us to conclude on whether or not we're covering our costs, doesn't necessarily give us the overall picture. So we'll see at the end of F '18 whether there's any material impact. But for the moment, we only see a slight increase, obviously, a slight scaling to be able to offset the additional cost. But to say that, that will have a major impact on our same-store sales, I don't know. And whether or not we will see some scaling and better than just covering our costs, we'll see in a year. Right now it's too early to say.

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Kenric Saen Tyghe, Raymond James Ltd., Research Division - SVP [22]

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Fair enough. And then perhaps just switching gears. If we could just speak to the impact on margins specifically in the new higher price point introduction. I know you had said that you didn't expect a material impact in this sort of first full quarter. But could you sort of speak to the performance and traction of those new higher price points and the impact in quarter?

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Michael Ross, Dollarama Inc. - CFO [23]

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Yes. So the 3 -- since the -- I mean, obviously, Q4 was a fantastic quarter. The Christmas season was very strong. And we were comping not just against 1 strong year last year. We comped against 2 strong years. And so needless to say, the Christmas season did extremely well. Our $3.50, $4 price point did much better than we anticipated, which contributed to the basket size increase you see and to the great SSS you've seen. Otherwise, penetration of the other price points continues its slow-moving upwards increase. And so nothing special going on in that -- on that side, but all to say that we're kind of surprised that the $3.50, $4 did so well during that period. And now again, on the -- even though the percentage margins are still very strong, usually when you introduce higher price points the -- and it depends on which items, but usually the percentage is lower because you don't have the benefit of volume or quantity. But it was still very strong, which also contributed to the strong Q4 gross margin.

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Neil Rossy, Dollarama Inc. - CEO, President and Director [24]

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And I'll also add that even though the acceptance of $3.50 and $4 price points has been better than expected, the buying group is still fully focused on the $1 and $1.25 price points as much as possible. The higher price points, particularly on the highest end, are really just to round up the assortment in items where the buyers cannot buy that category of goods or that specific item at a lower price point. So we still are fully focused on the $1 and $1.25 price points. It's still the core of our business. And as much as possible, the buyers are always encouraged to keep us at the lowest end of the price point range where they can.

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Kenric Saen Tyghe, Raymond James Ltd., Research Division - SVP [25]

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And just, Neil, a follow-up to that. How many of the items or SKUs are the $3.50 and $4 price point did you have a warm start or a running start on? I mean, how many of these SKUs here were items that you previously carried but with the input cost inflation or cost pressures were items that were -- went away and you've brought back for want of a better way to put it. So you had thought of a pretty good idea perhaps of how they would perform when you brought them back.

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Neil Rossy, Dollarama Inc. - CEO, President and Director [26]

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So obviously, some of the items that were at the $3 price point that we could no longer support because of cost restraints moved to our new price point range. But as Michael clearly indicates to me all the time, this is not information that we can disclose.

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Michael Ross, Dollarama Inc. - CFO [27]

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Sorry. I'm the party pooper here, Kenric. But I mean, obviously, it was -- we had some good -- yes, so we -- yes, so I think Neil answered it very well.

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Operator [28]

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The next question is from Jim Durran from Barclays.

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James Durran, Barclays PLC, Research Division - MD, Head of Canadian Equity Research, and Senior Analyst [29]

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A couple of questions. Just staying focused on the comp store sales number for Q4. You didn't increase your guidance on comp store sales for fiscal '18. Are there elements about the Q4 number of 7.8% that you wouldn't be comfortable expecting to replicate as we move into the first half of this year so that we don't get ahead of you guys?

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Michael Ross, Dollarama Inc. - CFO [30]

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Yes -- no. So the -- I know we told you 4% to 5% this year, and we ended up the year at 5.8%. But again, you have to -- I'll be -- sorry, I keep my credibility here is if you look at Q4, I mean, we -- which is the biggest quarter of the year, and we finished at -- so it's weight is strong on total sales. We finished at 5.8% over 7.9% last year and 8.5% the year before. I mean -- so what I'm going to tell you right now is that for F '18, I'm having a hard time convincing myself that we could go anywhere higher than 4% to 5% for -- this would be that we're entering the fourth year, and I just don't see how we could sustain that type of growth. So we're -- already 4% to 5% is, in my mind, an extremely reasonable growth, and so we'll see. Obviously, when we get to Q4 fiscal 2018, we're going to be comping not just 2 strong years, we'll be comping 3 strong years. So understand that, I think, 4% to 5% will be a good objective in front of us.

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James Durran, Barclays PLC, Research Division - MD, Head of Canadian Equity Research, and Senior Analyst [31]

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And I guess, with respect to the surprise revenue contribution of the $3.50 and $4 items, like was it a lot of toy product that when we get into the next round of seasonal merchandise, you're not going to be saying, hey, we might get the same kind of contribution from that price point in future quarters. We're just going to have to wait and see.

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Neil Rossy, Dollarama Inc. - CEO, President and Director [32]

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No. In fact, the $3.50 and $4 were sprinkled amongst all categories all year, holiday seasons and really weren't concentrated in any particular category. So we don't expect that to be the case.

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James Durran, Barclays PLC, Research Division - MD, Head of Canadian Equity Research, and Senior Analyst [33]

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So 2 quick questions. First of all, with the new store growth target now at 1,700 -- or so, the total store growth target at 1,700, is that going to have any effect on your view about the Latin American market in terms of where it needs to be before you stick your toe in more meaningfully?

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Neil Rossy, Dollarama Inc. - CEO, President and Director [34]

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Not at all. The Central and South American markets are side projects that have nothing to do with our internal growth. Our Canadian growth remains our 99% sole priority, and the other project is something that we're using to learn many things in our business about how to handle international expansion in a extraordinarily conservative way. So it's bringing other values to our business, but Canada remains our one and only priority.

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James Durran, Barclays PLC, Research Division - MD, Head of Canadian Equity Research, and Senior Analyst [35]

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Okay. And then sort of a carry-on from credit card, where are you at in your thinking about e-commerce?

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Neil Rossy, Dollarama Inc. - CEO, President and Director [36]

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So as mentioned in the past, we are in the midst of building a B2B e-commerce platform, where we'll be able to service our customers by the case and not by the unit in a limited assortment that reflects merchandise that's normally purchased in larger quantities. And it's in production and being refined. And when it's finished, the market will receive it, but we're still so early in the process that I'm not comfortable giving a date.

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James Durran, Barclays PLC, Research Division - MD, Head of Canadian Equity Research, and Senior Analyst [37]

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And do you see e-commerce as your biggest competitive threat down the road from alternative suppliers of that type of merchandise?

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Neil Rossy, Dollarama Inc. - CEO, President and Director [38]

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Truthfully, I do not. I think the nature of Dollarama's goods is somewhat different from the traditional e-commerce platform merchandise, which tends to be fashion or more current items like books and movies, et cetera, our type of -- at a higher cost, of course. Our type of merchandise tends to be more of an in-store shopping experience, I think. And because our platform is currently so many locations and our concept is convenience, we feel that, that sort of offsets the lack of convenience that people go to the Internet for. And so we're going to address the digital need and see if we can use that platform to augment our current sales by using it in a way that satisfies a different customer than the customer we currently serve with our stores. The customer that comes into our store and cannot buy as many as any given item as they want to buy and instead of having that customer go store to store to store, which is obviously very impractical and frustrating for them, they'll be able to buy those items in bulk, by the case, delivered to their home or to another location by using our digital platform.

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Operator [39]

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The next question is from Peter Sklar from BMO Capital Markets.

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Jennifer L. Panes, BMO Capital Markets Equity Research - Associate [40]

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This is Jennifer filling in for Peter. I just have one really quick question. I was just wondering, I know you touched on it briefly, but could you just provide a little bit more insight into the performance of the Dollar City stores and how many stores you have open now?

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Michael Ross, Dollarama Inc. - CFO [41]

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This is Michael. No, we don't -- I mean, things are moving along. Again, it's -- we don't want to disclose information that doesn't need to be disclosed. We've got an NDA. What we've disclosed to you to-date is that things are moving right along. We're still seeing -- we told you that we were -- stepped into Colombia, opened 3 stores, and that's as far as we're going right now. And so we still have a lot of homework and due diligencing work in Colombia. And although things worked well in El Salvador and Guatemala, the countries are so different that you still need to do a complete due diligence again. So for the time being, that's all we can say.

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Operator [42]

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The following question is from Derek Dley from Canaccord Genuity.

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Derek Dley, Canaccord Genuity Limited, Research Division - MD and Consumer Products Analyst [43]

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Just a question on your capital allocation plans going forward. I mean, given the strong guidance, the updated or upwardly revised guidance and your lower year-over-year CapEx, obviously, not having a warehouse this year, what are your priorities for capital over the course of the next 12 to 18 months?

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Michael Ross, Dollarama Inc. - CFO [44]

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Okay. So obviously, at some point in time, we're going to have to look at the DC to -- so we're analyzing the capacity there to meet the store growth. And so that's priority number -- that would eventually come in. And then you've got the share buy -- I mean, the excess cash flow. As we've always done, we will continue favor share buyback. And in fact, with the new refinancing, we've lowered our after-tax cost of debt from 1.74% to 1.65%, so making it even more accretive, if you want. So certainly, we will continue working and doing some share buyback.

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Derek Dley, Canaccord Genuity Limited, Research Division - MD and Consumer Products Analyst [45]

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Okay, great. That's kind of what I was getting at there. Perfect. In terms of the DC you're discussing, is this the Western -- potential Western Canadian DC? Or is this additional capacity in your current facility?

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Michael Ross, Dollarama Inc. - CFO [46]

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As we hinted in the past that we're -- for the time being -- and we haven't finished the analysis, so there's still some work to do. So everything is being looked at. But hopefully, the conclusion is closer here, which we would think would be more efficient than having 2 sites. But if the business case favors the Western, then we'd go there.

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Derek Dley, Canaccord Genuity Limited, Research Division - MD and Consumer Products Analyst [47]

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Okay, perfect. And then just switching gears if I might. Just in terms of the gross margin strength that we've seen here in the back half of the year. Can you just give us a little bit more color on what's driving that? Is it the slowdown in China allowing you guys to have some more favorable pricing economics there? And in terms of your commentary on lower logistics costs, is that predominantly related to fuel? Or is it related to the warehouse? Or a combination of both?

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Neil Rossy, Dollarama Inc. - CEO, President and Director [48]

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So I'll give you a little color on the gross margin percentage. And I think your assumption or your conclusion are dead on, which is a slightly soft Chinese market allowed us to improve our margin percentage slightly over the quarter. And we don't expect that to necessarily be the case going forward. There are other challenges at the moment with increased cost of paper, some other raw materials. But it explains our past number.

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Michael Ross, Dollarama Inc. - CFO [49]

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And on the logistics side, Derek, there's the -- you're right, fuel surcharge was down this year a bit and basic cost, too. So -- and we also had some productivity initiatives, obviously, that helped out.

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Operator [50]

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The next question is from Brian Morrison from TD Securities.

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Brian Morrison, TD Securities Equity Research - Research Analyst [51]

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What's the ballpark cost of the new DC -- upfront cost of the new DC or expansion of the current facility?

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Michael Ross, Dollarama Inc. - CFO [52]

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Yes. We don't know. It depends on many factors. So we're not ready to disclose that.

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Brian Morrison, TD Securities Equity Research - Research Analyst [53]

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Okay. And then, Michael, I appreciate your earlier commentary on the payback period being currently 2 years, and it could possibly be extended as you move out to the new 1,700-store target. When I look at the 2-year payback period, the components are essentially unchanged, whether that be revenue per store, the upfront investment over the past 5 years, yet you've had a significant improvement in economics over that time, whether it be the new price points, whether it be gross margin, SG&A. I'm just wondering if you can reconcile why that payback period hasn't declined. Is that just simply upfront cannibalization? Because I would have thought that you would have seen that payback period closer to maybe 1.5 years now.

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Michael Ross, Dollarama Inc. - CFO [54]

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Yes. I'd say the more recent cohorts are showing signs of that because we have to wait 2 years. So my F '14 cohort is the most recent full 2 years that I got. Now we're working on F '15. In F '14, if you recall, we had that Q4 weather, the storm in Q4 where we had the negative traffic. And so those cohorts that touched that were hit negatively on the payback side; whereas, F '16, F '17, we expect to be better. Now as we move up in time, I factor and expect to have more and more cannibalization, which is also used in -- when we talked to you about the 2-year payback, we factor a certain cannibalization number. And so obviously, it's an assumption. It's estimated but -- so that should be some headwind on your 2-year payback calculation. So that's how we're seeing. But you're right in assuming because the cost to open up a store, including inventory, at the IPO was $600,000. Today, it's $650,000. So the costs haven't gone up that much over the period, and yet our average shelf have improved every year, but cannibalization has increased every year also. So factoring all that stuff, that's how we get to the situation we are today.

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Brian Morrison, TD Securities Equity Research - Research Analyst [55]

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Okay. And then just in terms of the mature store economics, coming at it another way, clearly, that's significantly improved over the last, say, 5 years. Is it fair to say that the duration of maturity, it's increased from, call it, 2 to 3 years to, say, 4-plus years? Can you just clarify that? And do you see that being extended further if and when you approach your new-store target?

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Michael Ross, Dollarama Inc. - CFO [56]

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Okay. So the last -- if you take F '16, which is the most recent information we have on the sales in the first year, we're up again to $2.1 million, where we were at -- we were talking to you about $1.9 million in the past. And the second year is -- will be most likely higher. We don't have that yet because we are just starting the second year. So usually, by the end of the second year, you're close to maturity. In other words, your year 3 and 4 would be more mature stores moving -- and then -- and you can sustain that good performance. And we see it by analyzing our cohorts every year that the older cohorts are still performing extremely well in the chain.

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Operator [57]

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The following question is from Edward Kelly from Credit Suisse.

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Anthony Bonadio, [58]

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This is actually Anthony Bonadio on for Ed Kelly. Just one quick on SG&A margin guidance. Seems to imply a little more leverage here at the midpoint. Was wondering if you might be able to give us any more color on additional productivity initiatives in the pipeline. Or is this mostly positive scaling?

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Michael Ross, Dollarama Inc. - CFO [59]

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Okay. So thanks, Anthony. So it's both. So you have -- we definitely continue to work very hard and have a lot of initiatives underway. Obviously, the lower-hanging fruits are behind us when we introduced POS [ph], Kronos and labor scheduling and all that. Now we've brought it down more to store-specific initiatives. We still have logistics initiatives.

But for the store-specific ones, it continues to be store labor productivity but also looking at loss prevention, reducing shrink. We're looking at maintenance, floor cleaning, windows, waste management. There are a whole lot of different items that we always look into to improve. And hopefully, -- and that's why in our outlook, we have us with the possibility of improving by 50 bps our G&A. If we do it at we're within the 4% to 5% same-store sales range and our initiatives will account well, we should be able to generate that. If our same-store sales would happen to be higher, then obviously scaling will be a factor. Or if it's lower than 4% to 5%, then it will be reverse scaling, and that would have an effect.

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Operator [60]

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The following question is from Vishal Shreedhar from National Bank.

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Vishal Shreedhar, National Bank Financial, Inc., Research Division - Analyst [61]

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Just on the buybacks and the debt to EBITDAR threshold. Just wondering where you're at, and can you remind us what your threshold is again?

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Michael Ross, Dollarama Inc. - CFO [62]

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Yes. So we're at -- we're around 2.7x adjusted debt to EBITDAR using a factor of 6 to capitalize operating leases. And our intentions are always to stay below that mark. We want to remain investment grade and to benefit from the favorable interest rates that we're getting. And as I told you, we've just reduced that rate, so that the accretion gets better. And yes, so that's our capital structure direction.

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Vishal Shreedhar, National Bank Financial, Inc., Research Division - Analyst [63]

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Okay. Am I mistaken if I said that the threshold was 2.5x with a 6 capitalization factor?

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Michael Ross, Dollarama Inc. - CFO [64]

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Yes. Before, initially, when DBRS came out, they told us that the maximum levels could be -- would be 2.5x at -- using a factor of 5. But then a few quarters later, they came out and increased that given our great results.

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Vishal Shreedhar, National Bank Financial, Inc., Research Division - Analyst [65]

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Okay. So 2.7x is now the threshold?

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Michael Ross, Dollarama Inc. - CFO [66]

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Well, 2.75x, sorry.

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Vishal Shreedhar, National Bank Financial, Inc., Research Division - Analyst [67]

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2.75x. And would you go above that temporarily? Or are you just pretty much going to stick to that? Like would you go to 2.9x?

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Michael Ross, Dollarama Inc. - CFO [68]

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Well, what we -- if we did -- yes, well, I'm not to say that we'd never go above it. But if we did, it would need to be very temporary. It's because the next quarter, you've got the cash coming in and bringing it back down. But we would not go beyond that level.

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Vishal Shreedhar, National Bank Financial, Inc., Research Division - Analyst [69]

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Okay, understood. The new stores that you're putting in, are they getting larger?

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Michael Ross, Dollarama Inc. - CFO [70]

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No. Well, you've seen -- the most efficient store size for us is 10,000 square foot -- feet. And so yes, the average went up a bit, but it fluctuates from year-to-year depending on where you're opening up. But essentially the format -- typical format is 10,000 square feet.

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Vishal Shreedhar, National Bank Financial, Inc., Research Division - Analyst [71]

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And just lastly, when you did your new-store penetration analysis, did you assume your store -- your price points going up from before? Or did you just hold them static?

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Neil Rossy, Dollarama Inc. - CEO, President and Director [72]

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I'm sorry. Could you repeat that, Vishal?

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Vishal Shreedhar, National Bank Financial, Inc., Research Division - Analyst [73]

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Oh, sorry, when you did your analysis for the long-term stores penetration, did you hold your price points at the store at $4? Or did you increase them?

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Michael Ross, Dollarama Inc. - CFO [74]

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Yes. No, no, we held them at $4.

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Operator [75]

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The next question is from Tal Woolley from Eight Capital.

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Tal Woolley, Eight Capital, Research Division - MD of Equity Research [76]

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Just wanted to talk a bit about the transaction count. I just noticed going through the stores, like when you look at some of the higher price point goods, they're a little bit more, what I'd call, like durable in nature, like you have that big wall of like Betty Crocker utensils. And even a bad chef like me doesn't need a new spatula every 6 months. But I'm wondering, does that have an impact going forward? And also does it mean that maybe some of these higher-priced categories are something you need to remerchandise more frequently in order to drive visits?

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Neil Rossy, Dollarama Inc. - CEO, President and Director [77]

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We're too early into the process to have the answers to your questions. But so far, the answer has been no, but it may turn out that the answer will be yes. But based on our sales and returns and velocities on these higher price point items for the moment, we have not had to do that. But I would guess, if I was a betting man, that your theory that a higher-priced item might need to be refreshed more often in certain categories will be the case, and it's the buyers' jobs to keep an eye on those items and make sure that, that happens if that's what's necessary.

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Tal Woolley, Eight Capital, Research Division - MD of Equity Research [78]

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Okay. And then just to pivot back to the store count for a second, too. You talked a little bit about -- you took the competitive landscape into account when establishing that target. Can you talk a little bit more explicitly about what the assumptions you made about the competitive landscape were?

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Michael Ross, Dollarama Inc. - CFO [79]

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Well, I think what you're getting at maybe and that's the only thing is -- we -- yes, we factor that. Pure play, for example, continues to grow every year that the -- we're not grabbing 100% of the market growth expected in our model. So we are assuming some pure play continued growth. And if it's not the names that you see out there right now in Canada, we assume it's someone else. So it's not just putting the name. Although we do use the names for the current store base, but we do assume that there's a competitive dynamic that we see today that would continue on.

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Operator [80]

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The next question is from Keith Howlett from Desjardins Securities.

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Keith Howlett, Desjardins Securities Inc., Research Division - Consumer Products & Merchandising analyst [81]

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Yes. I had a question on the same-store sales in the quarter. There are a few factors. I wonder if you could indicate what their impact broadly or quantitatively was. And one was the shift of Halloween. The second is the mobile terminals that you're using in high-volume stores during the quarter. And the third is the confectionery layout leading into the cash, whether that's having a measurable impact.

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Michael Ross, Dollarama Inc. - CFO [82]

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Okay. So the Halloween day did help out Q4. But it has more of an impact in Q3 because in Q4, the seasonal sales is -- and the total quarter sales are much higher, so that the impact doesn't stand out that much but it did help for sure. For the mobile devices, as we said in the past, the mobile devices -- although the mobile devices are in all the stores, they're not necessarily used as a mobile cash device in all the stores. We had maybe 100-or-so stores in Q4 that used the mobile device as a -- also as a cash register, and so that went very well. And the last question, Keith, the last part...

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Keith Howlett, Desjardins Securities Inc., Research Division - Consumer Products & Merchandising analyst [83]

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On the confectionery.

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Michael Ross, Dollarama Inc. - CFO [84]

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On the confectionery?

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Keith Howlett, Desjardins Securities Inc., Research Division - Consumer Products & Merchandising analyst [85]

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In the layout to the cash...

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Neil Rossy, Dollarama Inc. - CEO, President and Director [86]

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Yes. I think your -- is your question on the confectionery or the actual layout of the cashout line?

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Keith Howlett, Desjardins Securities Inc., Research Division - Consumer Products & Merchandising analyst [87]

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It was more on the impulse buy, whether you're seeing a measurable impact on basket from the sort of walk through the confectionery...

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Neil Rossy, Dollarama Inc. - CEO, President and Director [88]

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Yes. So we're not seeing a measurable impact on the actual products and the sales of those products. But we are seeing a measurable happiness from our customers that the cashout process is more controlled and there's a better flow. And so there's more satisfaction from our customers that the cashout processes is a more efficient one than it has been with our prior setup.

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Keith Howlett, Desjardins Securities Inc., Research Division - Consumer Products & Merchandising analyst [89]

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I see. You don't have to guess which is the right line. Is that the idea?

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Neil Rossy, Dollarama Inc. - CEO, President and Director [90]

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Correct. Correct. There's an obvious flow, a controlled flow. And we're eliminating some of the lineups from the aisles of our shopping into a more controlled area that doesn't impact the flow of customers in the store.

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Keith Howlett, Desjardins Securities Inc., Research Division - Consumer Products & Merchandising analyst [91]

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And just one question on the credit card. Are you able to -- or are you willing to disclose where the credit card usage mostly comes from debit or cash?

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Neil Rossy, Dollarama Inc. - CEO, President and Director [92]

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No, we're not. Sorry, Keith.

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Operator [93]

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The next question is from Chris Li from Bank of America.

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Christopher Li, BofA Merrill Lynch, Research Division - Director [94]

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Hopefully, a few quick ones left from me. First on the SG&A margin, it does seem a little bit conservative given that you're already -- we're at your high end of your margin for F '17. And you mentioned a few initiatives that you're working on. I'm just curious to see is your SG&A margin forecast for this year, is it a bit conservative? Or is that reflecting some of the incremental expenses like credit card fees or if other expense pressure that you see materializing this year?

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Michael Ross, Dollarama Inc. - CFO [95]

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Yes. I hope and that in the past it's conservative, but we're not planning it that way. And the following sense is that when you -- obviously, the annualization of this year's initiatives will help next year. But the fact is we're always introducing new initiatives. And the cost of those new initiatives, depending on the timing of them and the initiative, offset some of the benefits of the productivity initiative. So what you want is over a longer period of time to have enough initiative to offset the headwinds -- the natural headwinds, which are wage increases, and working harder to generate additional savings that would improve it. But the reason that it might seem conservative is that we're investing time, money, resources and other initiative that we'll be introducing in the future.

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Christopher Li, BofA Merrill Lynch, Research Division - Director [96]

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Okay, that's helpful. And my other question, just going back to on transaction count. If we kind of take a longer-term view of, let's say, fast-forward a year or 2 years from now, you would have all the stores offering credit card payments. You'll see more cannibalization from new store growth. If you kind of factor all those into account, what would you say would be an acceptable same-store transaction growth for the company as a whole? Would it be stable? Or do you still expect to be a bit negative because of all the cannibalization and other pressures that might be creeping up?

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Michael Ross, Dollarama Inc. - CFO [97]

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Chris, that's too far. I mean, just a year from now, we're guessing, right. We're saying 4% to 5%. We'd be disappointed if we could not generate it given everything that we've been doing and how well the teams have been performing. But to go beyond that is just pure speculation. And I'm not ready to go there.

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Christopher Li, BofA Merrill Lynch, Research Division - Director [98]

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Okay. That's fair. And my last question is could you remind us roughly how many stores can your current DC capacity accommodate right now?

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Neil Rossy, Dollarama Inc. - CEO, President and Director [99]

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Our current capacity is somewhere between 1,200 and 1,400 stores, depending on how tight we want to run that ship. But it's certainly a project that we're in the midst of working on to make sure that we have bandwidth in the future.

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Operator [100]

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Thank you. This concludes the question-and-answer session as well as today's conference call. Please disconnect your line at this time, and we thank you for your participation.