Why Dollar General’s Earnings Miss May Be a Sign of Better Times to Come

Shares of Dollar General Corp. (DG) took a nosedive on Thursday after the company released its fourth-quarter earnings report. While the discount retailer missed on the bottom line, investors largely reacted to the disappointing 2019 outlook, which indicated higher costs that may lead to lower profits than initially anticipated.

Despite the mixed financials, Dollar General remains a resilient competitor among the increasingly bleak – and therefore increasingly competitive – retail landscape. Its underrated size and scope has made investors ponder the company’s longevity, particularly since it’s far less recognized than larger competitors like Walmart Inc. (WMT). 

Let’s take a closer look at Dollar General’s earnings – and why the weak numbers may just be a necessary evil in the grand scheme of the company’s growth strategy…

The News

Dollar General posted mixed earnings Thursday, as it slightly surpassed expectations on the top line but solidly missed on the bottom line for its fiscal Q4 (December 1 – February 1) period. The firm also issued a disappointing profit forecast for full-year 2019, missing analyst estimates by an even stronger margin.

The company earned $1.84 per share during its fiscal Q4 period, down more than 30% from the $2.63 reported a year earlier and missing Wall Street’s $1.88 estimate by 2.1%. Revenue was a marginal bright spot as it grew 8.5% year-over-year from $6.13 billion to $6.65 billion and beat the $6.6 billion estimate by 0.75%. Same-store sales were far brighter, with the 4% year-over-year growth rate beating analyst estimates of just 2.6% thanks to what the firm cited as an earlier-than-usual issue of food stamps.

But the report’s major weak spot was its fiscal 2019 earnings forecast. Dollar General said it expects full-year earnings per share (EPS) to range between $6.30 and $6.50, below the average Wall Street estimate of $6.65. Furthermore, the firm said same-store sales growth would fall to 2.5% in 2019, slightly missing analysts’ expected 2.6% growth rate.

How Investors Reacted

DG stock sold off in response to Thursday’s news, falling 7.5% on the day from $120.68 at Wednesday’s close to $111.64 per share. Thursday’s performance marked a quick reversal of fortune, as the stock dropped from an all-time high to a more than two-month low over the course of the single session. Shares are now up only 3.6% since Dec. 31, down from the 11.7% year-to-date gains they had before Thursday’s session.

The Bigger Picture

When investors talk about the brick-and-mortar retail market, they often immediately think of enormous chains like Walmart. After all, Walmart operates nearly 7,000 stores nationwide, with the firm reporting that 90% of all U.S. residents living within 10 miles of a location.

But what Dollar General lacks in strong brand recognition, it makes up for in a threatening and formidable nationwide presence. Despite being smaller and offering less goods, Dollar General’s 15,370 locations more than double Walmart’s locations, and the firm hopes to open 975 more locations this year alone. Even more surprising is how Dollar General and Dollar Tree Inc. (DLTR) – the two largest dollar store chains in the United States – together boast more locations than the top six U.S. retailers – Walmart, Kroger Co. (KR), Costco Wholesales Corp. (COST), Home Depot Inc. (HD), CVS Health Corp. (CVS), and Walgreens Boots Alliance Inc. (WBA) – combined.

That’s a staggering statistic when investors consider the reputation dollar stores have in the public consciousness. However, Dollar General thrives in low-income areas of the country, where, according to Forbes contributor Warren Shoulberg, “you can’t go more than a few miles without tripping over a store with the word ‘dollar’ over its front door.” Shoulberg also hyperbolically noted how the dollar-store locations typically cluster near each other “like scavengers feasting on the carcasses of the dead.”

Another key aspect of Dollar General’s strategy to stay relevant is its increased spending on grocery options. Dubbed DG Fresh, the new initiative to sell more fresh and frozen goods – which Dollar General plans to increase spending on, hence the bleak earnings forecast – will allow the company to expand its brand name into an increasingly competitive space. That broader appeal in lower-income areas where dollar stores already reign king can only lead to bigger earnings boosts in 2020 and beyond.

And from an investing perspective, the pervasive presence of dollar chains like Dollar General make the company all the more valuable when market participants consider just how undervalued the stock is compared to brand-name giants like Walmart. DG’s price-to earnings (P/E) ratio sits at a reasonable 16.48, compared to Walmart’s 43.46. That means Dollar General’s share price is more undervalued to its earnings than Walmart’s share price is to its own earnings.

Looking Ahead

While the saying “quality over quantity” can often entice, the opposite is more enticing in the case of Dollar General. Walmart’s massive revenue stream and great strides in building out its e-commerce infrastructure ensure the firm is built to last, but there’s no denying the fact that Dollar General boasts power in numbers.

Furthermore, any value investor with a keen eye on the retail sector can see that Dollar General is grossly underpriced compared to its competitors. Investors may want to consider Thursday’s drop to more than two-month lows a prime opportunity to invest long term in one of America’s most underrated and misrepresented retail chains.