The Motley Fool

Why the Dollarama (DOL) Stock Price Fell 12.5% in February

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The Dollarama Inc. (TSX:DOL) stock price has been a highly volatile one. February was no exception, with Dollarama stock price falling 12.5% — more than double the fall of the TSX Composite Index. It is a sign of trouble.

With a drop of this magnitude, it is a good exercise to review and reconsider the stock. This is an important exercise for those stocks that are in your portfolio and for those on your watch list. These drops in market value often create buying opportunities.

Let’s review the reasons for Dollarama’s lacklustre February performance. Let’s also review whether this drop has created a buying opportunity.

Dollarama stock price falls on coronavirus fears

It’s a familiar narrative. All stocks have fallen on coronavirus fears, and as the virus spreads, there will be more pressure coming. Some of the stocks that have fallen have done so from justified fears. Others, not so much.

In the case of Dollarama, the stock’s weakness appears justified. Dollarama sources the bulk of its product from China, the epicentre of the coronavirus.

China has been and will likely remain the hardest hit. As a retailer that depends on China, Dollarama will be directly affected by coronavirus-related disruptions there.

Dollarama stock price has been falling even before the coronavirus

To be fair, Dollarama stock price was falling even before the coronavirus scare. Concerns over valuation, competition, and escalating costs have dominated the conversation.

As a result, Dollarama stock has fallen almost 30% since its highs of 2018. Let’s tackle these issues and try to determine whether there is more downside to come.

Dollarama’s stock is currently valued at 24 times earnings. While this is on the high end for a cyclical retailer, this is significantly below Dollarama’s valuations of the past.

A more fearful market won’t support high valuations, so this remains a concern. Another issue is increasing competition. Dollarama is seeing increased competition from the likes of Dollar Tree Inc, making price increases more difficult.

Price increases were once the cornerstone of Dollarama’s strategy and now it has hit its limit. Consumers are reacting negatively to recent price increases.

Finally, escalating shipping costs are proving to be a headwind for Dollarama. The retailer was already facing these headwinds. The coronavirus will escalate all of this already existing pressure. Therefore, there appears to be more downside in Dollarama stock.

Foolish bottom line

Dollarama stock fell sharply in February as the retailer reacted to coronavirus fears. But this is not Dollarama’s only problem. The retailer faces many headwinds, as discussed in this article. Therefore, I don’t see current weakness as a buying opportunity.

In closing, I would like to remind Foolish investors of our belief in holding great businesses for the long term. But remember, short-term stock price movements often create opportunities to create wealth.

We therefore need to blend this long-term focus with an eye for short-term stock mispricings. Only then can we use both strategies in harmony, and our quest for financial freedom can be fulfilled.

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This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Karen Thomas has no position in any of the stocks mentioned.

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