Sad but true, Dollar Tree confirms a growing trend in the retail world. Theft, euphemistically known as shrinkage, is on the rise and cutting into earnings, and this isn’t the 1st company to say so. Target (NYSE: TGT) has mentioned a growing problem with shrinkage for the last 2 quarters, and there are others. What this means for Dollar Tree is a downgrade to guidance. The company narrowed its revenue range and trimmed the earnings target due to expected shrinkage, so the stock is down double-digits. However, trading at the new low, the stock becomes attractive again because of the turn-around efforts.
Dollar Tree has been investing in efficiency and customer acquisition, and the efforts are working. Traffic and comp sales are up across the network, driving improvement in results despite the Q1 weakness and revised guidance. The takeaway is that increased traffic and market share is a lever for growth that will drive shareholder value over the long term.
“We are rapidly executing on a multi-faceted plan to fundamentally transform and improve the operating performance of Dollar Tree and Family Dollar for the long-term,” said CEO Rick Dreiling.
Dollar Tree Has Solid Quarter, Trims Guidance
Dollar Tree had a solid quarter despite the impact of shrinkage. The company reported $7.33 billion in revenue for a gain of 6.2% compared to last year. The gain was driven by an increase in traffic offset by a decline in average tickets as habits shifted from merchandise to consumables. On a segment basis, the core DLTR segment grew by 3.4% and was outpaced by a 6.6% gain at Family Dollar. Enterprise sales grew by 4.8%.
The margin news is also a drag on the share price. The margins were expected to contract, but the impact of shrinkage amplified pricing and product-mix headwinds to shave 340 bps off the gross margin. SG&A also increased, primarily due to a legal reserve build, to leave operating income and EPS down by double digits. The bad news is that the adjusted $1.47 missed the consensus by $0.07 and sparked a market re-evaluation.
The guidance amplified the re-evaluation. The company narrowed revenue guidance but trimmed the EPS outlook because of shrinkage. Execs expect shrinkage to shave $0.40 to $0.80 off the Marketbeat.com consensus estimate or 600 to 1200 basis points. The risk is that shrinkage will be worse than anticipated and may lead to increased security spending by the company.
Capital Returns Are Safe
Dollar Tree doesn’t pay dividends but repurchases shares, which should continue in 2023. The company’s earnings were impacted by shrinkage, but the FCF is up YOY, and the balance sheet is in good shape. The company repurchased $151 million worth of shares in Q2, about 1 million shares, or roughly 0.5% of the shares outstanding.
Dollar Tree shares may fall further, but the floor is in sight. The stock has a firm floor at the $125 level, which should keep the stock from falling further. Assuming that is the case, DLTR shares should continue to move sideways within their trading range.