Since the company went public in late 2009, it’s been good to be a Dollarama Inc. (TSX:DOL) shareholder.
Shares have soared, climbing from a split adjusted level of less than $10 per share to today’s price of nearly $72 each. Or, to put it in percentage terms, the company is up 639% since its IPO, not even including dividends. In comparison, the TSX Composite is only up 32%.
To say that’s a pretty solid performance is an understatement. The company’s shares have crushed just about every competing stock.
But with the company’s store count bumping up against 1,000 and the stock trading at more than 32 times earnings, naysayers may be onto something when they say there’s no way the company can continue its explosive growth. Let’s take a closer look at this retail behemoth to see whether the future still looks bright.
Potential market
It’s not so much that dollar stores have surged in popularity. They’ve just become the poster child of the discount trend.
Think of it this way: in Canada the closing of retail stores has dominated the headlines over recent months. Companies like Target, Sony, Best Buy, and others have completely shut down Canadian operations, while many Canadian-centric retailers have also called it quits.
You’ll quickly notice something in common with all of these retailers: none of them are the price leaders in their industry. Future Shop—Best Buy’s Canadian subsidiary—tended to be more expensive than Wal-Mart or Amazon. Target was dominated by both Wal-Mart and Loblaw in terms of price and selection.
Are you beginning to see a pattern yet? Ever since the Great Recession of 2009, Canadians have flocked to discount retailers. And what screams discount more than dollar stores?
The trend looks poised to continue. Management told analysts during the company’s most recent conference call that they think Canada can support up to 1,400 stores, which still leaves the company with the opportunity to increase its footprint another 50%.
Recent results
Over the last few years, shoppers have probably noticed Dollarama focusing more on items worth $2 or $3. Currently more than 70% of sales are at these higher price points.
That’s led to terrific results. In the most recent quarter, the company earned 76 cents per share compared with analysts’ expectations of 71 cents per share. It also handily beat the previous year’s earnings, which came in at 59 cents per share. Sales grew by more than 15%, including same-store sales surging by more than 8%.
In the Canadian retail world, it doesn’t get much better than those numbers.
But is it too expensive?
With those kinds of results, it’s easy to see why investors are excited about the stock. But are they a little too excited?
As previously mentioned, shares currently trade hands at more than 32 times trailing earnings. On a forward basis, the company is expected to earn $2.60 per share in the next year, which puts it at nearly 28 times forward earnings. No matter how much growth you might expect, that’s an expensive multiple.
There isn’t much support from the dividend either. Shares yield just 0.5%, which is pretty much just an afterthought. Oftentimes, a generous dividend can act as a support mechanism, with investors loading up on shares once they hit a certain yield.
When paying more than 30 times earnings for a stock, investors are pricing in a lot of good news. Essentially, it’s a bet that the company’s blistering growth will continue. At this point, that bet looks like a pretty secure one, but all it takes is one bad quarter to send shares tumbling. We’ve seen it happen countless times in the past.
When I invest, I’m looking for great companies at fair valuations. Dollarama certainly qualifies as a great company, I’m just not sure about the fair valuation part. For that reason, I’d probably be cautious on the company’s shares.
