What is the stock?
Dollar General (DG)
What do you like about it?
DG is a discount general merchandise retailer operating in small town USA and generating roughly 40% of its sales from food. Since opening its first store in 1955, DG has grown to over 14,000 stores.
Some of the reasons we invested in DG:
- Evidence that it is a highly capable operator – DG has grown same-store sales for the last 27 years in a row.
- Growth outlook – under its current projections, DG will double its store base over the next 8-10 years and its revenue is expected to grow between 7-10% p.a. over the medium to long term.
- Structural tailwinds – real wages in the US have been declining and there is a growing rich-poor divide. DG serves lower demographics, and in this environment, its core customer base is growing.
- Attractive economics – DG stores have an attractive cost structure as it costs less than $0.25 million to open a new store (including inventory) resulting in new stores having a payback period of less than two years.
- Strong balance sheet – DG has low levels of debt and good profitability.
- Valuation – we invested in DG after its share price declined 25% over the prior year, largely due to market’s fear of the Amazon threat. The company’s share price has subsequently performed strongly (+25% over the past year), but it remains on reasonable valuation multiples (~5% FCF yield and 16x PER) given the quality of the business and growth outlook.
How long have you held the stock?
The assumption that Amazon will sweep away all retailers that stand before it has resulted in many US retailers being sold down, creating some interesting opportunities in that space. Dollar General is one of those opportunities that we have acted upon, and it is a top ten position in our funds.
How is it better than its competitors?
We believe that DG has been caught up in the broader Amazon hysteria. We believe the threat is not the same for all retail business models and that DG is better placed than most other retailers.
Our thinking is premised on the following:
- Approximately 70% of DG’s sales are from stores in small rural towns with populations of less than 20,000. Same day delivery of groceries does not make economic sense for an operator like Amazon in these regions due to the remoteness of the towns and the small populations.
- The majority of DG’s customers live within three to five miles or a 10-minute drive to a DG store and parking is typically not an issue at these stores. This means shopping at a DG store is convenient and there is less impetus to shop online.
- The average DG household spends approximately 10% of its wallet at DG, which is a relatively large figure that points to a high level of customer loyalty. While we certainly don’t dismiss the Amazon threat, our analysis points to DG being one of the US retailers most insulated from the threat of Amazon.
How much has it added (subtracted) to your overall portfolio over the last 12 months?
It was one of the three biggest contributors to a monthly performance of 2.5% in January.
Where do you see the value?
Taken together, DG is a high-quality retailer that became available at an attractive valuation due to hysteria regarding Amazon. Our analysis points to this threat being over-stated and the company’s outlook is good. On the balance of risk and reward, we think DG is a prudent investment.
Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.