Yahoo Finance Dollar Tree, Inc. (NASDAQ:DLTR) Q3 2023 Earnings Call Transcript
Dollar Tree, Inc. (NASDAQ:DLTR) Q3 2023 Earnings Call Transcript November 29, 2023
Dollar Tree, Inc. beats earnings expectations. Reported EPS is $1.02, expectations were $1.01.
Operator: Hello and welcome to the Dollar Tree Third Quarter 2023 Earnings Call and Webcast. [Operator Instructions] A question-and-answer session will follow the formal presentation. We ask you please limit yourselves to one question. [Operator Instructions] As a reminder, this conference is being recorded. It's now my pleasure to turn the conference over to Bob LaFleur, Senior Vice President, Invest Relations. Please go ahead, sir.
Bob LaFleur: Good morning, and thank you for joining us today to discuss Dollar Tree's third quarter results. With me today are Dollar Tree's Chairman and CEO, Rick Dreiling, and CFO, Jeff Davis. Before we begin, I would like to remind everyone that some of the remarks that we will make today about the company's expectations, plans, and future prospects are considered forward-looking statements under the safe harbor provision of the Private Securities Litigation Reform Act of 1995. These statements are subject to risks and uncertainties which could cause actual results to differ materially from those contemplated by our forward-looking statements. For information on the risks and uncertainties that could affect our actual results, please see the risk factors, business, and management's discussion and analysis of financial conditions and results of operations sections in our annual report on Form 10-K, filed on March 10, 2023, our Form 10-Q for the most recently ended fiscal quarter, our most recent press release, and Form 8-K, and other filings with the SEC.
We caution against reliance on any forward-looking statements made today, and we disclaim any obligation to update any forward-looking statements except as required by law. Also during this call, we will discuss certain non-GAAP financial measures. Reconciliations of these non-GAAP items to the most directly comparable GAAP financial measures are provided in today's earnings release, available on the IR section of our website. These non-GAAP measures are not intended to be a substitute for GAAP results. Unless otherwise stated, we will refer to our financial results on a GAAP basis. Additionally, unless otherwise stated, all comparisons discussed today are for the third quarter of fiscal 2023 and are against the same period a year ago. Please note that a supplemental slide deck outlining selected operating metrics is available on the IR section of our website.
Following our prepared remarks, Rick and Jeff will take your questions. Given the number of callers who would like to participate in today's session, we ask that you limit yourself to one question. And now I'd like to turn the call over to Rick.
Rick Dreiling : Thanks Bob. I'd like to welcome everyone joining us on the call today. In brief, thanks to the dedication and hard work of our teams and continued execution towards our business transformation, third quarter results were well within our expected range. In a challenging retail environment where the accumulating pressures of inflation, reduced government benefits, and depleted savings have negatively affected lower income consumers, our top-line performance outpaced most of our peers. We accomplished this by taking market share in both segments, which we believe reflects the initial impact of our investments and transformation initiatives. Despite Family Dollar's softer comps and $0.05 per share of unexpected costs from the previously announced voluntary recall of OTC and other products, we delivered $0.97 of EPS.
Our sales momentum continues to be mostly traffic-driven as we attract new customers and gain both unit and dollar market share. In the last 12 months, we've added 4.3 million new customers at Dollar Tree and 2.3 million new customers at Family Dollar. Importantly, most of these first-time customers come back to shop with us multiple times after their first visit. In fact, our loyal customers are now the third largest retail customer base in the United States. As importantly, Dollar Tree is attracting customers from a broader range of income levels. Most of our new customers over the past year have household incomes over $125,000, and this income demographic was a significant contributor to Dollar Tree's quarter three comp growth. At Family Dollar, our price value perception remained strong after last year's price investments, which we cycled in July.
That said, Family Dollar fell short of our quarter three comp expectations. Similar to what other retailers have reported, we experienced softening trends throughout the quarter, particularly in October, as lower income consumers responded to the accumulated impact of inflation and reduced government benefits, we saw a notable pullback in spending, particularly in higher margin discretionary categories. I will now review some of our third quarter highlights. For the third quarter, on a consolidated basis, we delivered a 5.4% increase in our net sales to $7.3 billion. This was driven by comp growth of 3.9%, with traffic up 4.7% and average ticket down a little less than 1%. Operating income came in at $301.7 million, which resulted in EPS of $0.97, including the negative $0.05 impact from the OTC recall.
In the Dollar Tree segment, our comp was up 5.4%, with traffic increasing by 7% and average ticket decreasing by 1.5%. We are especially pleased with these results as they come on top of an 8.6% comp last year. Our consumable comp was up 11.1% and discretionary was up 1.1%. We believe the consumable strength at Dollar Tree this quarter, as well as our strong multi-year discretionary comp, shows customers are embracing our compelling value proposition in this strained economic environment. According to Nielsen, Dollar Tree gained an impressive 30 basis points of consumables market share in the third quarter as our unit volume grew 6% while market unit volume declined. In the Family Dollar segment, our comp was up 2% with traffic increasing 1.4% and average ticket increasing 0.7%.
Our consumable comp was especially strong at 6.2%, while discretionary was down meaningfully at 12.5%, particularly in categories like home decor, electronics, and toys. In our view, these trends underscore how lower income households are under increasing financial stress and directing their spending towards needs-based goods. While traffic and ticket were both positive for the quarter, results did soften substantially as we moved through the quarter, with average ticket turning negative in October, as our customers pulled back and we realized the adverse impact of the OTC recall. Even with these external challenges, Family Dollar grew market share in consumables with both unit and dollar growth exceeding the market by wide margins. Although our low prices enable us to operate from a position of strength in consumables, our lower-income customers at Family Dollar have been especially pressured by reductions in government SNAP benefits.
Nationwide, third quarter SNAP benefits were down 23% on a year-over-year basis, which was much more than the 5% reduction in quarter one or the 16% reduction in quarter two. Timing wise, the month-by-month deceleration in our quarter three comps matched the progressive reductions in national SNAP payments throughout the quarter. In addition to pressure from lower SNAP payments, Family Dollar’s comps were negatively affected by lower tax refunds this year. That said, I believe that the wide range of growth initiatives we have in place will help us maintain our momentum relative to the competition. As a value retailer, we're uniquely positioned to meet customers' needs in a challenging economic environment. We remain focused on the factors that we can control and will continue to navigate as best we can around those that we don't.
Now let me take a few minutes to update you on our transformation journey. Our merchandising, IT and supply chain initiatives are on time and on budget, and we are pleased with our progress to date. At Dollar Tree, we're ahead of schedule on our multi-price journey. Our Dollar Tree PLUS assortment is now available in 4,500 stores, and we are on track to finish the year with more than 4,900. Our Dollar Tree frozen and refrigerated assortments are now in 6,500 stores, significantly ahead of our original year-end target of 5,500. Customers are clearly responding to our expanded multi-price assortment as our research shows us that 17% percent of US households have purchased a multi-price product from a Dollar Tree store at least once in the past 12 months.
Importantly, these customers are adding multi-price products on top of their traditional baskets. For example, in quarter three, the average multi-price basket included 2.3 multi-priced items and 11.6 traditional $1.25 items. At Family Dollar, we completed our planogram resets by November as scheduled, improving and expanding our product assortment while increasing our shelf profile and merchandising to 78 inches across the portfolio. We're on track to renovate more than 1,000 Family Dollar stores by year end. We have now upgraded 1,600 Family Dollar stores to our H2.5 rural and extra small box formats. In quarter three, private brand penetration at Family Dollar reached 14%, a quarter ahead of schedule, and we are in pace to hit our 20% target by 2026.
We're also on track to add over 70 new SKUs to our family wellness product line and more than 100 new private brand SKUs in total by the end of December. Within that same time frame, we also expect to complete our conversion of 300 control brands to private brands. In real estate, we opened 197 new stores in quarter three and we are on track to meet our target of 600 to 650 new stores this year. In supply chain, we are preparing to implement our streamlined delivery process for stores serviced by our Matthews, North Carolina distribution center with roto-carts and liftgate trailers starting next month. We have been testing our roto-carts and the feedback has been extremely positive. We remain on schedule for all of our distribution centers to be using roto-carts by the end of 2027.
Across our teams, the investments we've made in our people, including increased wages in key markets, simplified work at the store level, and increased communication throughout the company are driving meaningful improvements in store turnover and associate satisfaction. Additionally, as we prepared for our busiest season of the year, I am proud to report that our annual National Hiring Day in mid-October was a huge success. We hired nearly 14,000 part-time associates to work in our stores for the current holiday season, an all-time record for this event. While we still have a lot of work to do in this transformational journey, I am pleased with what we've accomplished to date. We are focused on our plans to accelerate sales and grow earnings, and I remain confident in our ability to execute this ambitious undertaking.
That said, this journey also needs to be dynamic and adapt to changing market conditions and our learnings along the way. We believe being thoughtful about our store portfolio will help enhance our results. To maximize value creation, we need to periodically re-evaluate our portfolio in terms of current market conditions, individual store performance, and overall portfolio considerations. To this end, we have initiated a comprehensive review of our Family Dollar portfolio to address underperforming stores that are not aligned with our transformative vision for the company. This will involve, among other things, identifying stores as candidates for closure, re-bannering or relocation with the goal of assuring that each asset under the Family Dollar banner is delivering its full value for our shareholders on a sustainable basis.
I am a strong believer in the Family Dollar brand and what it means to our customers and associates in thousands of communities across the country. Going forward, we need to ensure that the Family Dollar portfolio is well positioned for success and meets the financial and operating objectives of our organization and the expectations of our valued customers and associates. We believe that this action will fortify our base, strengthen our brand, and allow Family Dollar to achieve its full growth potential. Jeff will now review our financial results and outlook for the remainder of the year.
Jeff Davis: Thank you, Rick, and good morning, everyone. In the third quarter, our Dollar Tree and Family Dollar segments both generated higher levels of customer traffic, unit volume, and increased market share. Overall, we generated 5% more gross profit dollars in the third quarter than we did last year as consumers continue to respond positively to our growth initiatives. Consistent with prior quarter trends, sales mix continued to shift towards consumables. This trend was more pronounced at Family Dollar where our third quarter consumables mix reached an all-time high of 82%. Looking at the business on a consolidated basis, net sales increased 5.4% to $7.3 billion. Operating income declined 20.9% to $301.7 million. Operating margin compressed 140 basis points, which was a substantial trend improvement versus the first two quarters of the year.
The contraction in Q3 operating margin was driven by a 15 basis point decrease in gross margin and a 125 basis point increase in SG&A rate. Gross margin contracted primarily from higher shrink, unfavorable product mix, increased distribution cost, and markdowns from the OTC recall. This was partially offset by lower freight cost. While still elevated across both banners, shrink results were mostly in line with our expectations. We have now completed physical inventory checks across more than 90% of our stores, with the balance set for completion in January. SG&A expenses expanded primarily from ongoing labor investments in our stores, IT costs, depreciation, and facility costs. Our effective tax rate was 21.8% versus 23.4%. Our tax rate was favorable versus expectations as higher work opportunity tax credits and lower net state taxes were partially offset by higher non-deductible expenses.
Net income was $212 million and diluted EPS was $0.97 versus $1.20. The net impact of the OTC recall was approximately $0.05 per share. At the business segment level, Dollar Tree's net sales increased by 6.6% to $4 billion. Operating income declined 3.4% to $482.7 million. And operating margin compressed approximately 125 basis points, driven by a 55 basis point decrease in gross margin and a 70 basis point increase in SG&A rate. Gross margin contracted primarily from higher product costs, distribution center costs, and shrink. These were partially offset by lower freight and sales leverage and occupancy costs. SG&A expenses expanded principally from store labor investments, minimum wage increases, and facility costs. These were partially offset by sales leverage.
Family Dollar’s net sales increased by 3.9% to $3.3 billion. Operating income declined $47.9 million to a loss of $66.3 million. Operating margin compressed 140 basis points on a 20 basis point increase in gross margin and a 160 basis point increase in SG&A rate. Gross margin increased primarily from lower freight, partially offset by higher shrink, markdowns related to the OTC recall, and sales mix. SG&A expenses increased primarily from store labor investments, minimum wage increases, facility costs, costs related to the OTC recall, and depreciation. Moving on to the balance sheet and free cash flow. As a reminder, my comments reflect balance sheet comparisons between Q3 2023 and Q3 2022. Inventory decreased by 2.5%. As we work through our shipments of seasonal imports, we expect a meaningful improvement in our inventory position by year-end.
Third quarter capital expenditures were $541.4 million versus $391.2 million, reflecting elevated investments in new store openings, renovations, supply chain, and IT. Free cash flow improved $142.1 million versus the third quarter last year. This improvement comes despite a challenging macroeconomic environment and the accelerated investments to support our multi-year growth strategy. For the nine months of 2023, free cash flow improved $299.1 million versus the same period last year, led largely by lower merchandise inventories with a partial offset from lower net income adjusted for non-cash items, increased CapEx, and the timing of accounts payable. In the third quarter, we repurchased approximately 2.2 million shares for $252.3 million, including applicable excise tax.
At quarter-end, we had $1.35 billion remaining under our share repurchase authorization. Cash and cash equivalents totaled $444.6 million, compared to $439 million. You'll recall last quarter, we announced our new commercial paper program as an additional source of liquidity to manage our working capital needs. At quarter-end, we had $230 million outstanding under this program. During the third quarter, we also implemented a new supply chain finance program. Participation in this program is voluntary for our suppliers and provides them with additional flexibility to finance payments due from Dollar Tree. This process will be managed by a third-party financial institution. At quarter-end, our leverage, as defined under our revolving credit agreement, was 2.53 times.
Now let me provide some perspective into our sales and EPS expectations for the fourth quarter and its impact on our full-year outlook. Our outlook takes into consideration the following factors and expectations. Consistent with our prior expectations and the patterns we have seen throughout the year, we expect shrink trends will remain unfavorable in the fourth quarter. Family Dollar comps are expected to remain soft, reflecting the unfavorable macro environment for low-income households, continued discretionary weakness, and elevated promotional activity in the market. On the plus side, we expect continued strength at the Dollar Tree banner as consumers embrace our compelling value proposition and multi-price strategy in addition to incremental freight savings.
With that background, we expect net sales for the fourth quarter will be in the range of $8.6 billion to $8.8 billion, based on low single-digit increase in comp store sales for the enterprise, supported by a mid-single-digit increase at Dollar Tree and a minus 1% to plus 1% comp at Family Dollar. As a reminder, last year's Family Dollar comps accelerated meaningfully throughout the year, most notably in the back half, as we began our price and labor investments and launched our transformation initiatives. Our Family Dollar Comp results for Q3 and outlook for Q4 reflect these tougher comparisons. We estimate Fourth quarter diluted EPS will be in the range of $2.58 to $2.78. For the fiscal year, which includes a 53rd week, we expect sales in the range of $30.5 billion to $30.7 billion, driven by a mid-single-digit increase in comp store sales at the enterprise level, supported by a mid-single-digit comp at Dollar Tree and a low-single-digit comp at Family Dollar.
With respect to EPS, we believe that higher sales at Dollar Tree, incremental savings in freight, and proactive expense controls will allow us to offset lower revenue expectations at Family Dollar. We are tightening our full year gap EPS outlook to a range of $5.81 to $6.01, including the $0.12 legal reserve we took in the first quarter. We still expect selling square footage to grow by 3% to 3.5% for the year and new store growth to be back-end weighted. Other considerations in our 2023 outlook include the following. No incremental share repurchases. Depreciation and amortization should be in the range of $840 million to $845 million. Net interest expense should be approximately $30 million for the fourth quarter or approximately $110 million for the full year.
We are assuming an effective tax rate of approximately 24% for the fourth quarter and approximately 23.5% for the full year. We expect 218.4 million diluted shares for the fourth quarter and 220 million diluted shares for the full year. We expect capital expenditures will total approximately $2 billion, with approximately 40% allocated toward maintenance capex and the balance toward growth initiatives. Finally, our Q4 and full-year outlook does not include any potential impact from the optimization review of the Family Dollar portfolio that Rick outlined in his remarks. We expect the review process will take several months, and we will update you on our progress no later than our Q4 call in March. Now, I'll turn the call back over to Rick for closing remarks.
Rick Dreiling: Thank you, Jeff. Similar to other retailers you've heard from this earnings season, we are seeing more macro pressures than we did earlier in the year, particularly among our lower income consumers. Nonetheless, I'm encouraged by our market share momentum and am confident in our outlook for the balance of the year. Across our enterprise, we are making good progress on our transformation initiatives. As I've said before, we benchmark our operating performance on growing traffic, units, and sales per square foot. All three of these metrics are heading in the right direction. With the steps we're taking to optimize our Family Dollar portfolio, we want to be better positioned to meet the financial and operating objectives of our organization and the expectations of our valued customers and associates.
Relative to our competition, we want to operate from a position of strength at both banners. I look forward to updating you on our continued progress in the months ahead. And since we're in the midst of the important holiday season, I also want to take this opportunity to thank our more than 200,000 associates for their dedication and support of our continued growth as an organization. Operator, with that, Jeff and I are now ready to take questions.
Operator: Thank you. We'll now be conducting a question-and-answer session. [Operator Instructions] Our first question is coming from Michael Lasser from UBS. Your line is now live.
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