Discounts Continue To Prosper

By Sham Gad | April 09, 2010 AAA

Ultra discount retailer Family Dollar (NYSE:FDO) continued a trend of solid results with another quality quarterly performance. For the fiscal 2010 second quarter, net income per diluted share increased 35.0% to 81 cents compared with 60 cents for the second quarter of fiscal 2009. The strong increase in profitability came against another solid top-line performance in the form of a 5% sales increase. More importantly, same-store sales, the sales number that really counts in retailing, was up nearly 4%.

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A Value-Conscious Society
Despite the jubilant mood that the stock market has bestowed on the economy, many average Americans are still very value conscious after the drubbing their net worth took in 2008. The proof is in the numbers of retailers with names like Family Dollar, Big Lots (NYSE:BIG), and Dollar General (NYSE:DG). All of these companies sell a cornucopia of household items at rock-bottom prices. While many companies have been struggling to keep sales afloat over the past two years, Dollar General has seen sales grow from $9.5 billion at the end of fiscal 2008 to $11.8 billion at the end of fiscal 2010. Over the same fiscal period, Family Dollar's sales have risen from $6.8 billion to $7.4 billion. Over the same time, net income grew from $242 million to $290 million.

Be Careful What You Wish For
While frugality doesn't appear to be fading anytime soon, above average rates of growth can not last long. And if they do last, Mr. Market begins to have even bigger expectations. Dollar General, with its exceptional growth over the past couple of years trades at nearly 26 times earnings. Family Dollar shares still remain at an acceptable 18 times earnings. In the ultra discount space, Big Lots appears the better value on a P/E basis with a ratio of 16 times earnings. (For more, see Analyzing Retail Stocks.)

A Better Deal?
Nevertheless, these retailers have gotten plenty of attention recently. And with attention usually comes a full price. And of course, there's always Wal-Mart (NYSE:WMT), which has the might to compete with them all. Trading at 15 times earnings with a dividend of 2%, Wal-Mart shares are just as attractive as these dollar stores if not a better value. Despite Wal-Mart's large size preventing it from growing at rates available at the smaller players, it's size also has great advantages, namely economies of scale. (For more, see What Are Economies Of Scale?)

No Letting Up
I would expect continued growth in the segment for the time being. Consumers will remain frugal as long as jobs remain scarce. That could lead to further upside despite the full valuations. Nevertheless, without a margin of safety, sitting still is not a bad idea.

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