Several countries, including Canada, are wrestling with elevated inflation levels, resulting in a cost-of-living crisis for households and individuals. In a sluggish macro environment, companies across sectors are likely to suffer from tepid revenue growth and falling profit margins.
These headwinds have driven the valuations of several TSX stocks lower since the start of 2022. So, where do you invest right now, given there is a threat of an economic recession looming over our heads? At a time when consumer spending will shift towards non-discretionary items, it makes sense to gain exposure to recession-resistant discount retailers such as Dollarama (TSX:DOL).
Why Dollarama stock is a buy in 2023
A Canadian retail giant, Dollarama is valued at a market cap of $23.8 billion. It ended fiscal 2023 with 1,486 stores in Canada. The company opened 65 net new stores in fiscal 2023 (ended in January).
Dollarama offers a wide assortment of consumable products and general merchandise items at compelling prices. Its merchandise is sold at select, fixed price points of up to $5. Each Dollarama store is company operated, allowing it to provide a consistent shopping experience to customers.
The expansion of retail outlets located in high-traffic areas across Canada has enabled Dollarama to consistently grow sales, operating income, earnings, and cash flows over time.
Dollarama also has a 50.1% equity interest in Dollarcity, a Latin American value retailer, providing the company with access to a faster-growing region. Dollarcity has 440 outlets in 261 locations in El Salvador, Guatemala, Peru, and Columbia.
In December 2022, Dollarama took possession of a 500,000 square feet facility in Quebec, increasing its warehousing capacity to meet robust demand. It also entered into a long-term agreement to acquire three industrial properties in Quebec for an investment of $87.3 million.
How did the company perform in Q4?
In the fiscal fourth quarter (Q4) of 2022, Dollarama increased sales by 20.3% year over year to $1.43 billion. Its comparable store sales were up 16%, showcasing the resiliency of its business model. The rest of the top-line growth can be attributed to new store openings, which stood at 24 in the quarter that ended in January.
However, rising costs and inflation resulted in narrower gross margins of 44.6%, compared to 45.2% in the year-ago period. Its EBITDA (earnings before interest, tax, depreciation, and amortization) rose 18.8% to $467.7 million, indicating a margin of 31.7%.
Is Dollarama stock undervalued?
Dollarama went public in October 2009 and has since returned an astonishing 2,630% to shareholders. Since its initial public offering, indices such as the S&P 500 and TSX have returned 422% and 168%, respectively, after adjusting for dividends.
Despite these outsized gains, DOL stock is priced at 27 times forward earnings, which is reasonable, given its adjusted earnings are forecast to expand by 18.6% annually in the next five years.
Dollarama pays shareholders an annual dividend of $0.28 per share, translating to a yield of just 0.34%. However, with a payout ratio of less than 10%, it can easily increase dividends significantly in the future. Dollarama has increased dividends by 15% annually in the last 12 years.
Analysts tracking Dollarama stock remain bullish and expect shares to rise over 8% in the next 12 months.