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TheStreet Open House

What a Monster Dollar General-Family Dollar Deal Says About Retail

Stocks in this article: EBAY UPS FDX DG FDO

NEW YORK (TheStreet) -- The battle lines between Dollar General (DG - Get Report)  and Dollar Tree (DLTR)  to buy out Family Dollar (FDO - Get Report) have been drawn. But what's going unwritten in the term sheets are the important clues being offered about the next generation of retailing.

In a proposed all-cash deal that values Family Dollar at $78.50 a share, or $9.7 billion, Dollar General has made a major play for its smaller rival. The transaction price trumps the $74.50 a share cash-and-stock deal, or $8.5 billion in total consideration, put forth by Dollar Tree on July 28 for Family Dollar. A combined Dollar General-Family Dollar would operate more than 20,000 stores compared to 13,000 for a Dollar Tree-Family Dollar tie-up.

Read More: Walmart Is in BIG Trouble as Family Dollar and Dollar Tree Merge

The burning desire to merge in the dollar-store sector sheds a spotlight on the ongoing upheaval in the retail sector, which is being caused primarily by increasing mobile consumption. With more heads of household buying food and other daily staples online from Walmart (WMT)  and Amazon (AMZN)  due to ease of use and instant price transparency, many retailers, not just the dollar stores, are realizing they must consolidate store networks, people and supply chains to drive longer-term profitable returns for shareholders.

According to Bloomberg, year-over-year sales growth at non-store retailers, excluding fuel service stations, which captures online sales, have accelerated for five straight months, reaching a 10.1% clip in June, quicker than the 8.7% rate in May. Sales growth at non-store retailers ranged from a low point of 3.1% in June 2014 to a high water mark of 13.2% last July, and continue to outpace sales growth at traditional brick-and-mortar locations.

Watch More: Walmart's Financial Problems Revealed in 5 Photos and One Vine Video

For a married Dollar General and Family Dollar, the opportunities to extract efficiencies that enhance the bottom line are far reaching, and start with shuttering those underperforming stores in similar geographic zones. According to data from Bloomberg, 85% of Family Dollar stores are in a city with at least one Dollar General. That figure is 71% for Dollar Tree when juxtaposing it with the Family Dollar store base.

From a supplier perspective, Dollar General and Family Dollar count Pepsi (PEP) and Procter & Gamble (PG)  as two of their top-three product vendors. Dollar General gets 7.03% of its cost of goods sold and 1.3% of its revenue from Pepsi. For Family Dollar, those totals are 3.16% and 0.36%, respectively. Approximately 8.09% of Dollar General's cost of goods sold and 1.18% of its revenue are derived from Procter & Gamble vs. respective statistics of 0.31% and 3.55% for Family Dollar.

Restructuring entire operations, merging with competitors, and investing in new capabilities to better serve emerging customer needs are themes unfolding in sectors outside of dollar stores. In fact, transformation initiatives by retailers are not solely domestic-based, they span international operations as well. Investors should expect continued fundamental transformation in retail looking out five to 10 years, perhaps including specialty apparel retailers such as Gap (GPS) , Abercrombie & Fitch (ANF) , and Aeropostale (ARO) re-entering the sales floors of major department stores. One example of this already happening are Finish Line (FINL)  sneaker shops continuing to be rolled out at Macy's (M) .

Read More: Why Target's New Comments Should Worry Investors

Here are the latest examples of fundamental changes in retail sourced from second-quarter earnings calls:

  • Walmart China has introduced a home-delivery service in 383 stores. According to Walmart, "average ticket for home-delivery was significantly higher than the average store visit for the quarter."
  • Kohl's (KSS) is now testing "buy online, pickup in store" shopping for merchandise in 100 stores. By the end of 2015, Kohl's will also have new beauty shop presentations in 900 stores. The company noted on its earnings call that it's experiencing a "2% volume lift" in those stores with the new layout.
  • All 650 full-line Macy's stores now have the capability to ship merchandise from its stores for online orders. In its 2013 annual report, Macy's noted that this store fulfillment initiative has been spurred by "emerging customer shopping preferences." The department store retailer, according to various media reports, has begun testing same-day deliver services in partnership with eBay (EBAY) , UPS (UPS) , FedEx (FDX)   and local delivery companies in select markets earlier this year.

-- By Brian Sozzi CEO of Belus Capital Advisors, analyst to TheStreet. This article represents the opinion of a contributor and not necessarily that of TheStreet or its editorial staff.

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