Discount retailers have been one of the best performing sectors in the market during what's been a disappointing 2008 for investors.
With that in mind, I was surprised to see that
was upgraded from neutral to overweight Monday by JPMorgan. The stock closed Wednesday at $35.63, up some 32.5% year-to-date.
The analyst cited the company's above-average same-store sales growth trends and solid balance sheet. Even so, Wall Street has a lukewarm attitude toward the stock, with just six Buy ratings compared with six Holds, according to Bloomberg.
With that in mind, I'm here to answer readers' questions: Should you buy it? Is it too late to get into the game with Dollar Tree, or can the stock continue to move higher?
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The retailer operated about 3,500 stores across 48 states as of the fiscal second quarter (ended July). Year-to-date, the company' s square footage is up 7.3%, as Dollar Tree is trying to take advantage of the fact that consumers are trading down, especially for food and personal care items.
This spending shift was apparent in the company's fiscal second-quarter results, posted Aug. 27. Dollar Tree earned 42 cents, which was a penny ahead of the consensus analyst estimate. Revenue grew 12.5% from the previous year, matching expectations.
And management is plowing these higher profits back into the business, with plans to add 242 new stores, and remodel another 90 locations in the current fiscal year (ending January 2009). In addition, to meet consumer demand for more food items, the company is installing coolers and freezer cases in 150 stores.
That said, I believe it will be difficult for any retailer to expand in the current environment. And Dollar Tree isn't alone in the industry competing head-to-head with other sizable chains with
99 Cents Only
and the privately held Dollar General.
Dollar Tree has outperformed both of its publicly-traded competitors year-to-date, and with a 25% total debt/common equity ratio, the company also utilizes more financial leverage that either of its peers.
At current levels, Dollar Tree is valued at 14.7 times expected full-year earnings of $2.43 a share. While this represents a 22% premium to the benchmark S&P 500 index, the stock is trading below its own historical average valuation over the past year.
At the end of the day, I believe that readers should avoid shares of Dollar Tree at current levels, though the stock would look more attractive on a pullback below $30. The company is taking a big risk both investing in infrastructure and continuing to grow its store base in this economic environment.That's because even though the company and its peers are seeing consumers trade down for food and personal items, I believe that marketing spending could increase in the coming quarters, especially if Wal-Mart (WMT:NYSE) decides to throw its weight around and move even lower down the pricing scale.
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David Peltier is a research associate at TheStreet.com. In keeping with TSC's editorial policy, he doesn't own or short individual stocks. He also doesn't invest in hedge funds or other private investment partnerships. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Peltier appreciates your feedback;
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