Forget all that market chatter about impending inflation and higher interest rates ahead of the new Trump administration, US discount stores still have to contend with deflationary pressures. Dollar General, the chain from Tennessee, reported its second consecutive quarter of earnings below analysts’ expectations. It also said it expected full-year profits to rise only at the low end of its target range. The company needs to balance its growth ambitions with the pressure on its profitability.
Management cites deflationary pricing pressures as being partially responsible. But the results also highlight that its typical consumer is in declining health and facing increasing housing and healthcare expenses. About 56 per cent of stores are in locations where food stamp benefits were cut during 2016. Dollar General estimates that price deflation and the reduction in benefit programmes contributed to 1.5 per cent lower year-on-year growth in same-store sales, resulting in a slight fall overall this quarter over last year.
Total revenues rose 5 per cent, the second slowest quarter since mid-2008. The impact of pricing pressure and promotions caused gross margins to decline below 30 per cent for the first time since May 2009. Overheads were at the high end of the past five years. Costs may still increase after new rules relating to the Fair Labor Standards Act come into effect in December.
The company maintains that its strategy of reducing prices started to show results during the quarter. Once prices increase in the wider economy, the incremental benefits earned by this strategy should boost earnings momentum during the recovery. That is the plan, at least.
Nice in theory, but Dollar General’s expansion cannot continue regardless of margins. The company plans to add roughly 1,000 stores next year. But pushing to increase sales while margins decline is a risky path to follow.
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