Dollar General (NYSE:DG) is a specialty retailer that sells discount consumer goods for a price generally between $1 and $10 per item. Its focus is on "everyday necessities" such as national brands in the consumable, seasonal, home products, and apparel product categories. Another important company distinction is that 70% of its store base exists in rural towns with a population of 20,000 or less. Even more importantly, the stock recently caught the attention of Warren Buffett's Berkshire Hathaway. (For other Buffett investments, read Warren Buffett's Best Buys.)
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Second Quarter Recap
Total sales advanced 11.2% to $3.6 billion on the back of impressive comparable store sales growth of 5.9% and new store openings. For the first two quarters of its fiscal year, it opened a net new 269 stores for a total store count of 9,641. By product category, consumables grew 13.7% to account for 73% of total sales. Seasonal (14% of total sales) and home products (7%) grew at 6.7% and 6%, respectively, while apparel (6%) improved a modest 1.2%.

Cost controls on the operating side helped push operating income up 16% to about $350 million. However, a big jump in other expense lowered net income growth to only 3%. Earnings came in at $146 million while diluted earnings grew only 2% to 42 cents per share as shares outstanding increased slightly.

Full-Year Outlook
Dollar General projects sales growth of 12% to 14% for the entire fiscal year. Analysts currently expect sales growth of 12.3% and total sales of $14.6 billion. Management guided earnings between $2.20 and $2.34 per diluted share that would represent year-over-year growth of 22 to 26%.

The Bottom Line
In its most recent annual filing with the Securities and Exchange Commission, Dollar General stated that it believes it can double its store count from current levels. These aggressive expansion goals will be needed because, at a forward P/E of around 16, the market is already discounting at least another decade of double-digit profit growth.

Dollar General competes in an extremely competitive market for general merchandise. It considers Family Dollar (NYSE:FDO), Rite Aid (NYSE:RAD) and CVS (NYSE:CVS) direct rivals given their smaller-store formats, but also counts Wal-Mart (NYSE:WMT) as a key competitor. However, its rural focus is a key competitive advantage and keeps it out of the path of larger rivals that can better compete on price due to their buying power.

This advantage and a high degree of recession-resistance are likely two qualities that stood out to Berkshire. The buy is being attributed to Todd Combs, Buffett's younger protégé, but the fact that it showed up in Berkshire's portfolio during the second quarter suggest it also received Buffett's seal of approval.

The share price has jumped roughly 20% since Berkshire's position became known. This means the risk-reward tradeoff is less favorable for prospective investors, but shareholders should be able to count on annual returns around 10% as this represents the company's likely annual operating growth potential over the long haul. (For more on Buffett's investment strategies, see Warren Buffett's Bear Market Maneuvers.)

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