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How Low-Cost Basics Boost Neighborhood Dollar General

The “dollar” retail format is simple: small, convenient locations that sell low-cost, basic, everyday merchandise to a mass market audience.

Image via Ildar Sagdejev/Wikimedia

The “dollar” retail format is simple: small, convenient locations that sell low-cost, basic, everyday merchandise to a mass market audience. From one store in 1939, Dollar General (DG) has grown to 14,609 locations across 44 states, suggests Doug Gerlach, editor of Investor Advisory Service.

In 2018, the company expects to open an additional 900 stores. Often, stores are in small towns where other shopping alternatives may be limited.

The firm’s strategy targets repeat customers by providing convenient locations, low prices, and a time-saving store design. Dollar General competes effectively against mass merchants, grocery, and drug stores by varying price and convenience. Compared to grocery or drug stores, Dollar General’s prices are as much as 30% lower.

Dollar General prides itself on its long track record of same-store sales growth which reached 28 consecutive years in 2017. This is a testament to the company’s compelling value and convenience proposition.

Dollar General expects to grow its sales 7% to 10% annually. Cash flow from operations less capital expenditures leaves the equivalent of 5% to 6% of sales available for shareholders. The company has committed to returning this cash to shareholders through dividends and share buybacks.

Over the past five years, Dollar General has shrunk its share count by about 4% per year. Expected annual EPS growth of 10% is achievable when combining sales growth, steady margins and share buybacks before one takes into account the benefit from tax reform.

Consistent with management expectations for sales growth, an expectation the company will be able to maintain current margins, and typical share repurchases, we believe the company will be able to grow EPS at an average rate of 10% annually excluding the impact of tax reform.

Accounting for the incremental benefit from tax reform, we anticipate average EPS growth of 14% annually over the next five years. Over the past year Dollar General earned $4.51.

Applying a low P/E of 14.7 to that figure generates a potential low price of 66. Five years of 14% EPS growth, multiplied by a high P/E of 21.3 generates a potential total return of 13% to a high price of 185.

Based on an average P/E of 18.0 and a 1.1% dividend yield, the projected average total return is 12%. We model the upside/downside ratio as 3.3 to 1.

Doug Gerlach is editor of Investors Advisory Service.

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