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Dollar General is a ‘fantastic retailer’ but ‘not always the best stock’: Analyst

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Bernstein Analyst Brandon Fletcher argues the Dollar General retailer may not be the best investment option, despite its expansion through pricier Popshelf stores.

Video transcript

ZACK GUZMAN: Welcome back to Yahoo Finance Live. We are watching shares of Dollar General here under pressure, off by about 3% after the company reported earnings. And there have been a lot of interested viewers in the dollar store space after we saw Dollar Tree raise their prices from $1 to 1.25. But for the metrics that Dollar General reported, interesting to see the numbers come in a bit higher than analyst forecasts, but below what we saw Dollar General report last year. Revenue rising 3.9% to $8.52 billion. Adjusted earnings per share also came in ahead of forecast. Same store sales, though, in the quarter fell by 0.6% versus analysts that were expecting about a 5% drop here.

And for more on what it means for Dollar General as they look to lean into, very interestingly, that $5 price range in an offshoot of one of its stores in terms of its brands, I want to bring on Bernstein analyst, Brendan Fletcher, who joins us now. And Mr. Fletcher, when we're looking at the results, I mean, as I read them off, stronger than I think a lot of the Street's expectations were there. So what did you make of the quarter and why we're seeing, I guess, shares under pressure today?

BRENDAN FLETCHER: Yeah, it's a fair point. You know, we think Dollar General is just an absolutely fantastic retailer. The challenge is, it's not always the best stock. One of the challenges is that because they have done such a great job for so many years with the rural expansion and were absolutely critical for consumers in the pandemic, the expectations, frankly, just got much richer.

And there are two sets of expectations that always happen in a stock. One is the ticky tacky detail of what happens in a quarter, and the other is kind of the future-looking expectation for how much you can expect them to continue to outperform. And I think the concerns are more related to whether or not Dollar General is not going to have a little bit of not challenge, but maybe uncertainty in terms of the rollout of their popshelf format, which is kind of like a Dollar Tree with higher price points, as well as the addition of food, and not just Hostess snacks but actual produce, which many other retailers have tried to have small box with more grocery and failed.

AKIKO FUJITA: So do you think those concerns are justified, if, in fact, the stock is moving on that?

BRENDAN FLETCHER: Yeah, so, again, we were-- I think Dollar General was our top pick for four or five years. We finally backed off of that and have a neutral rating on the stock because we think most of the fantastic news that was created by their rural expansion, where they would literally build stores where you couldn't see a house from the store that was built, but 1,000 people had to drive past that intersection of a farm to market road to get to anywhere, and that play is essentially done. And what they're telling us is that the plays that are left are things that could work out really well, but we don't have as much evidence.

The one challenge with the popshelf format, in addition to it just being somewhat new, is that it does come into the heart of suburban America. And there are plenty of Dollar General's, but that's not their core territory. And once you're in the heart of suburban America, you're competing with Five Below, and Aldi has sufficient private label. And Walmart and Target are better at private label. And Dollar Tree is expanding its price points. So it's kind of walking away from being essentially a monopoly in the small town into a competitive format.

And if you start adding food in rural markets, there's a reason that most mom and pop grocery stores in rural America closed down years ago. It's very difficult to make the economics work. So that's why we're a little bit more sanguine about the opportunities inside of Dollar General. Again, a fantastic team. Absolutely think it's reasonable for people to have this a part of their portfolio. We just don't think it's as likely to outperform as it was in the last four or five years.

ZACK GUZMAN: Yeah, and I guess when you look at maybe some of the other drivers there, too, not just the popshelf expansion, but international expansion as well, adding stores in Mexico, I mean, what does that unlock? The other thing, too, I was surprised to see shares down off of their-- they improved the lower end of their guidance as well. So I mean, how do you maybe mix in some of the international opportunities there as they look abroad to maybe start to build out some of their footprint?

BRENDAN FLETCHER: Yeah, so I think international would have normally been a very exciting process, because for many years, there had been a little bit of consideration from analysts that Dollar General could expand further. I mean, you know, Dollar General had states left to expand in the United States, yet alone to move abroad. So I think that's encouraging. We think about that as a positive option.

But as you're looking at their kind of earnings number, which they narrowed the guidance for, but didn't really raise the high end, if you think about the company making $10 roughly, and you give them kind of a $20 multiple, which is relatively rich for retail-- not rich in the current marketplace, but retail would normally trade at about 16 times in ordinary conditions-- then that's a pretty well-rewarded retailer. So you start to go, eh, kind of fairly valued at $200, $215 maybe or so. We are a little bit more bearish than that. We're at $190, but I think that's why you can have that, hey, the earnings are really fine. What's wrong with you? Expectations are just a little bit higher.

And I think the reason international didn't give them the lift that it might have in the past is that Mexico is a tricky market. Walmex is the most powerful, arguably, part of Walmart that exists. They have 40% market share. They run in multiple formats. The small format competitor in Mexico called Oxxo is very sophisticated. And so I'm not sure there's nearly as easy of a play into Mexico. So it's a wait and see conversation. And I think that's why we didn't get kind of the bullish follow-through we normally expect after a Dollar General report.

ZACK GUZMAN: Well, thank you for explaining perhaps why we're seeing that move lower because, as I said, a lot of people were looking at the results and kind of confused. But Brendan Fletcher, Bernstein analyst, bringing us the latest there. Appreciate it.

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