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Family Dollar Stores - The Need for Clean Pants

April 02, 2010 | About:
wax

wax

Author's Website
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We read an article last week on the CNN Money site last week that reinforced why we think the markets are creating another stock bubble.

Then yesterday we noticed an article at the New York Times site that talked about the excessive risks that have been taken, and are still being taken, by Wall Street. "The fact is that Wall Street has always been - and remains - very much a Boys Club.", the article said.

Which brings us to Family Dollar Stores, Inc. (NYSE: FDO). The stock price has increased 25% since the beginning of the year, and was up 11% in March alone.

At first we were confused about the reason for the run up in the stock price. Certainly economic conditions are playing a role, but then we found that Credit Suisse, Goldman Sachs, and Merrill Lynch, all have the stock listed as either Buy or Market Outperform, making us wonder just who is going to benefit when the stock price finally rolls over.

Basis

Financial information related to Family Dollar Stores, Inc., contained in this report, is based on the company's most recent SEC Form 10-K filing for fiscal year ending August 29, 2009, as filed with the Securities and Exchange Commission on October 27, 2009.

What They Do

Family Dollar Stores operates a chain of more than 6,600 general merchandise retail discount stores in 44 states, providing primarily low to middle income consumers with a selection of competitively-priced merchandise in convenient neighborhood stores.

The company's merchandise includes consumables, home products, apparel and accessories, and seasonal and electronics, sold at prices that generally range from less than $1 to $10.

The first Family Dollar store was opened in Charlotte, North Carolina, in 1959, and in subsequent years, additional stores were opened with separate corporations established to operate these stores.

The company was incorporated in Delaware in 1969, with all of the then existing corporate entities, becoming wholly-owned subsidiaries of Family Dollar Stores, Inc.

Short-Term Investment

Let's see if we can put this in perspective for the average short-term investor that does not have 897 supercomputers executing trades.

The stock closed recently at $37.00 which is almost 2% above its 13 day moving average, and almost 9% above its 50 day moving average.

The stock also has resistance at $37.20, its 52 week high and a 1% increase from a recent close, and finds first support at its 50 day moving average of $33.51, a 9% decline from a recent close.

Should the stock price break through first support, the next support it will find is the 200 day moving average of $30.24, an 18% decline from a recent close.

Long-Term (5 Year Hold) Investment

We are going to say this as simply as we can. Sell this stock.

The company spends more on dividends and stock repurchases than on debt reduction, almost 2.5:1 more. The company has a current ratio of 1.5, an acid test ratio of 0.43, and a cash ratio of 0.42, none of which are investment quality in our opinion.

We would have been amazed had it been any other way, but the company's receivables are outstanding on average, less than one day, while it's payables are outstanding an average of 41 days. While we are all in favor of free money, we wonder how this screw might turn in the coming months, should the economy continue to deteriorate?

The company does have very good free cash flow at $2.75 per share, and a very healthy return on invested capital at 33%, both very positive signs. Which makes us wonder just why management isn't spending come of the company's cash to reduce debt, instead of paying dividends and buying back company stock.

Final Thoughts

We think a risk adjusted entry target for the stock is $22-$25, a price range that our very preliminary research seems to support.

Coupling that with the ratings from the Boys Club elite and the tremendous increase in the stock price since the first of the year, we have to wonder if folks investing in this stock at current levels, won't once again be left with skid marks on their underwear.

Wax

To download the Wax Ink Family Dollar Stores Raw Value Worksheet, please click here.

About the author:

wax
Wax Ink is a baseline equity research company not licensed or registered with any government agency

Visit wax's Website


Rating: 3.0/5 (5 votes)

Comments

forexnutca
Forexnutca - 4 years ago
I think short term FDO will pull back, but I can only see increasing taxes or increasing foreign population as a resolution to America's debt problem. I think FDO will bank off this scenario as the general population will become more prudent in their spending habits. With a P/S ratio of .69, and trading around 17x earnings (13x forward), I don't think FDO will pull back any more than 10-15%. I personally love this stock because it doesn't really trend with the index's, and is a good play on the current U.S. debt burden.
Ranni
Ranni - 4 years ago
This area of retailing (dollar & value) is very crowded and hot bet for institutions nowadays, no doubt about that. One of the ugliest examples of overvaluation and Mr Markets miscalculation is Dollar General. Who would like to hold bags, When Kravis and guys from Goldman are cashing out?

Per share basis Dollar General

25$ Price

13$ Debt

38$ EV

~1.3$ FCF

Record profits and company is trading ~3,5-4,5% owner’s earnings.

Background:

It was early 2007 when these PE guys (KKR & Goldman) bought DG private with 7.3Billion deal ( 33% premium).

Today market place is ready to pay $12.5B, about double for that what it was trading in market place 3 years ago.

Is that because Kravis & co added some “hidden value” (debt) on books, and that would justify kind of premium? ;)

Disclosure: No position, but I would like to short this one, right after B. Bernanke is ready to cool down printing presses.

kbodawala
Kbodawala - 4 years ago
No one has address the 800 pound gorilla-China. I assume since this is a dollar store majority of their products are imported from China. What will the impact on this and other dollar stores be when China eventually re-prices their currency? The impact will be that the cost of all their goods will go up. They no longer will seem a good place to shop for debt ridden consumers as American made goods will be as competitively prices as those from China. I agree with the thesis sell this one!!!!

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