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Retail-Discount Stores Outlook: Prospects Look Promising

Sumit Singh

The Zacks Retail – Discount Stores industry comprises companies that offer apparel, accessories, footwear, beauty products, personal and baby care products, cleaning products, pet supplies, and food and beverage products. The companies also provide home textiles, home furnishings, housewares, toys and seasonal décor products. They sell their products either through stores or digital channels or both. Some of the companies operate membership shopping warehouse clubs offering branded and private-label products in a range of merchandise categories. Some of the prominent names in the industry are Dollar Tree, Inc. (DLTR), Ross Stores, Inc. (ROST) and The TJX Companies, Inc. (TJX).

Let’s take a look at the industry’s three major themes:

  • The industry’s prospects are correlated with the purchasing power of consumers. For now, consumers are in good shape, courtesy of a solid job market as evident from the 50-year low unemployment rate of 3.5% in September and decent wage growth. These are working in favor of industry participants. Also, the strategy to sell products at discounted prices has helped industry players expand their customer base, which comprises low to middle income groups. Moreover, a differentiated product range in sync with customers’ spending habits enables the companies to enrich the shopping experience, resulting in market share gains and higher sales per square foot.
     
  • Players in the industry are steadily developing omni-channel capabilities, which include technological updates and store remodels. They are undertaking brand enhancement efforts with off-price models and innovative customer-friendly approach such as same-day delivery options to make the most of the upcoming holiday season. These along with a compelling store growth story at convenient locations and focus on demand-driven products lend support. Better pricing, effective inventory management, and merchandise and operational initiatives should boost revenues of the industry constituents in the festive period.
     
  • The companies in the industry are vying for a bigger share on attributes such as price, products and speed to market. Also, the increasing dominance of Amazon (AMZN) has made the retail-discount space highly competitive. This has compelled a number of players to strengthen their digital ecosystem and boost shipping and delivery capabilities. While these endeavors drive sales, they entail high costs. Apart from these, any deleverage in SG&A rate, higher labor and occupancy costs, and increased marketing and other store-related expenses might also compress margins. Nonetheless, companies are resorting to cost containment. Again, imposition of trade tariffs due to the U.S.-China trade war might affect near-term results of some companies in this industry.

Zacks Industry Rank Indicates Bright Prospects

The Zacks Retail – Discount Stores industry is housed within the broader Zacks Retail – Wholesale sector. The industry currently carries a Zacks Industry Rank #13, which places it in the top 5% of more than 250 Zacks industries.

The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates bright near-term prospects. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

The industry’s position in the top 50% of the Zacks-ranked industries is a result of positive earnings outlook for the constituent companies in aggregate. Looking at the aggregate earnings estimate revisions, it appears that analysts are gradually becoming hopeful of this group’s earnings growth. Since the beginning of March, the industry’s earnings estimate for the current year has increased approximately 4.8%.

We will present a few stocks that have the potential to outperform the market based on a strong earnings outlook. But it’s worth taking a look at the industry’s shareholder returns and current valuation first.

Industry vs. Broader Market

The Zacks Retail – Discount Stores industry has outperformed both the broader Retail – Wholesale Sector and the Zacks S&P 500 composite over the past year.

Stocks in this industry have collectively advanced 27.7% compared with the Zacks S&P 500 Composite’s increase of 7.2% and the Zacks Retail – Wholesale sector’s gain of 10.1% in the said time frame.

One-Year Price Performance



Industry’s Current Valuation

On the basis of forward 12-month price-to-earnings (P/E) ratio, which is commonly used for valuing retail stocks, the industry is currently trading at 23.7 compared with the S&P 500’s 17.08 and the sector’s 23.66.

Over the last five years, the industry has traded as high as 23.7X, as low as 17.95X and at the median of 20X, as the chart below shows.

Price-to-Earnings Ratio (Past 5 Years)



Bottom Line

Discount retailers have successfully created a niche despite the rising popularity of online retailers that has impacted many traditional operators. Discount retailers are largely thriving on investments, focus on cost savings and introduction of loyalty and marketing programs. However, costs associated with promotional activities and an aggressive pricing strategy on account of stiff competition are major deterrents.

That said, we are presenting four stocks from the Retail – Discount Stores industry which carry a Zacks Rank #2 (Buy) and are well positioned to capitalize on the opportunities. You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Dollar General Corporation (DG): For this discount retailer, the consensus EPS estimate for the current fiscal year has moved up by a penny over the past 30 days. Moreover, the company’s bottom line has outperformed the Zacks Consensus Estimate by an average of 3.6% in the trailing four quarters. The stock, which has rallied roughly 51% year to date, has an estimated long-term earnings growth rate of 9.6%.

Price and Consensus: DG

    
 

Costco Wholesale Corporation (COST): For this operator of membership warehouses, the consensus EPS estimate for the current fiscal year has risen by 9 cents over the past 30 days. Moreover, the company’s bottom line has outperformed the Zacks Consensus Estimate by an average of 7.2% in the trailing four quarters. The stock, which has gained roughly 49% so far in the year, has an estimated long-term earnings growth rate of 8.5%.

Price and Consensus: COST

 


Target Corporation (TGT): Shares of this general merchandise retailer have gained approximately 71% year to date. The Zacks Consensus Estimate for the company’s current-fiscal EPS has risen by a couple of cents in the past 30 days. The company has an estimated long-term earnings growth rate of 7.1%. The company delivered an average positive earnings surprise of 4.6% in the trailing four quarters.

Price and Consensus: TGT

 

Burlington Stores, Inc. (BURL): Shares of this retailer of branded apparel products have climbed about 25% so far in the year. The Zacks Consensus Estimate for the company’s current-fiscal EPS has been stable in the past 30 days. The company has an estimated long-term earnings growth rate of 15.9%. It has an average positive earnings surprise of 8.7% for the trailing four quarters.

Price and Consensus: BURL

 

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