CHESAPEAKE, VA — Dollar Tree, Inc. (NASDAQ: DLTR), operator of Dollar Tree and Family Dollar discount stores, reported financial results for its fourth quarter and fiscal year ended February 2, 2019.
“Sales for the quarter were strong,” stated Gary Philbin, President and Chief Executive Officer. “Our results demonstrate the increasing strength of the Dollar Tree brand, and accelerated progress on the Family Dollar turnaround, as Family Dollar delivered its strongest quarterly same-store sales growth of the year.”
Philbin continued, “We are confident in our progress and we have good momentum. Our merchants at both banners have delivered a 2019 plan that we believe overcomes most of the effect of tariffs at the 25% level, and provides opportunity for margin improvements if tariffs are not increased. We moved aggressively in the fourth quarter to optimize Family Dollar’s performance, including closing 84 stores and announcing plans to renovate at least 1,000 stores in 2019. The renovated stores will include new $1.00 Dollar Tree merchandise sections. Approximately 200 Family Dollar stores will be re-bannered to Dollar Tree, and we plan to close as many as 390 Family Dollar stores this year. We also recorded an inventory reserve in part because of the different inventory needs of this new optimized store base. Excluding this markdown and the non-cash goodwill impairment charge related to Family Dollar, the combined companies performed well in the quarter.”
Fourth Quarter Results
In the fourth quarter, the Company incurred several discrete charges, as described below:
- Based on the Company’s strategic and operational reassessment of the Family Dollar segment, management determined there were indicators that the goodwill of the business may be impaired. Accordingly, a goodwill impairment test was performed in the fourth quarter of fiscal 2018. The results of the impairment test showed that the fair value of the Family Dollar business was lower than the carrying value resulting in a $2.73 billion non-cash pre-tax and after-tax goodwill impairment charge.
- $40.0 million SKU rationalization markdown reserve related to the Family Dollar segment.
- $13.0 million non-cash impairment of certain store assets.
- $1.5 million acceleration in non-cash deferred financing costs associated with the prepayment of the Company’s $782 million term loan facility.
Discrete items, or adjustments, for fiscal 2018 and 2017 are included in the Reconciliation of Non-GAAP Financial Measures within the tables of this earnings release.
For the fourth quarter, including the impact of each of the items listed above, the Company reported a GAAP loss per share of $9.66. Adjusted earnings per share for the quarter, excluding the impact of the identified items, was $1.93, near the high end of the Company’s guidance range.
Consolidated net sales for the thirteen-week fourth quarter 2018 were $6.21 billion, compared to $6.36 billion in the prior year’s fourth quarter, which included fourteen weeks. Excluding $406.6 million of sales from the extra week in the prior year’s quarter, consolidated net sales increased 4.2%. On a constant currency basis, enterprise same-store sales increased 2.4% (or 2.3% when adjusted to include the impact of Canadian currency fluctuations). Same-store sales for the Dollar Tree banner increased 3.2% on a constant currency basis (or 3.1% when adjusted to include the impact of Canadian currency fluctuations). Same-store sales for the Family Dollar banner increased 1.4%.
Gross profit for the quarter was $1.91 billion, compared to $2.10 billion in the prior year’s fourteen-week quarter. As a percentage of sales, gross margin decreased to 30.8% compared to 33.0% in the prior year. The decline was driven primarily by higher markdowns, including a $40.0 million SKU rationalization markdown reserve at Family Dollar, domestic freight, shrink, distribution costs, and occupancy costs which de-levered due to cycling the extra week in the prior year’s fourth quarter, partially offset by lower merchandise costs.
Selling, general and administrative expenses for the quarter, including discrete charges, were 65.4% of sales compared to 21.0% of sales in the prior year’s fourth quarter. Excluding the discrete charges from the current year’s quarter and the receivable recovery and workers compensation reserve from the prior year’s quarter, selling, general and administrative expenses were flat at 21.3% of sales for the current and prior year’s quarters.
Including discrete charges, operating loss for the quarter was $2.15 billion compared with operating income of $765.6 million in the same period last year. Excluding the discrete charges from the current year’s quarter and the receivable recovery and workers compensation reserve from the prior year’s quarter, operating income for the quarter was $632.6 million compared with $743.2 million in the same period last year and adjusted operating income margin was 10.2% in the current quarter compared to 11.7% of sales in last year’s fourteen-week quarter.
The Company’s effective tax rate for the quarter was 5.1% compared to a benefit of 50.4% in the prior year period. The rate in 2018 is the result of the goodwill impairment charge not being tax deductible. The prior year benefit was the result of the Tax Cuts and Jobs Act (“TCJA”). Among other changes to existing tax laws, the TCJA reduced the federal corporate tax rate from 35% to 21% effective January 1, 2018. The effective tax rate for the prior year’s quarter included a $562.0 million non-cash benefit resulting from the re-measurement of the Company’s net deferred tax liabilities to reflect the lower statutory rate of 21%. The total benefit from the TCJA for the fourth quarter of fiscal 2017 was $583.7 million.
Net loss for the quarter, including discrete charges, was $2.31 billion and GAAP diluted loss per share was $9.66 compared to diluted earnings per share of $4.37 in the prior year’s quarter. On an adjusted basis, diluted earnings per share increased 2.1% to $1.93 compared to an adjusted $1.89 in the prior year’s fourteen week-quarter. The extra week in the fourth quarter of 2017 contributed $0.21 to earnings. On a comparable 13-week basis, adjusted diluted earnings per share increased 14.9%.
During the quarter, the Company opened 143 stores, expanded or relocated 14 stores, and closed 84 Family Dollar stores and 10 Dollar Tree stores. Additionally, the Company opened five Dollar Tree stores that were re-bannered from Family Dollar. Retail selling square footage at quarter end was approximately 120.1 million square feet.
Full Year Results
Consolidated net sales for the 52-week fiscal 2018 increased 2.6% to $22.82 billion from $22.25 billion in the 53-week fiscal 2017. Excluding $406.6 million of sales from the prior year’s 53rd week, consolidated net sales increased 4.5%. Enterprise same-store sales increased 1.7%. Same-store sales for the Dollar Tree banner increased 3.3%. Same-store sales for the Family Dollar banner increased 0.1%.
Gross profit decreased by $74.4 million to $6.95 billion in fiscal 2018 compared to $7.02 billion in the prior year’s 53-week period. As a percentage of sales, gross margin decreased to 30.4% from 31.6% in the prior year.
Selling, general and administrative expenses, including discrete charges, were 34.5% of sales compared to 22.6% of sales in the prior year. Excluding adjustments in both periods, selling, general and administrative expenses were 22.6% of sales for fiscal 2018 and 22.4% of sales for fiscal 2017.
GAAP operating loss in fiscal 2018 was $939.5 million compared to operating income of $2.00 billion in fiscal 2017. Excluding the discrete charges from the current year and the net receivable recovery and workers compensation reserve from the prior year, adjusted operating income was $1.84 billion in fiscal 2018 compared with $2.03 billion in fiscal 2017 and adjusted operating income margin was 8.1% in fiscal 2018 compared to 9.1% of sales in the 53-week fiscal 2017.
Net interest expense was $370.0 million in fiscal 2018 compared to $301.8 million in the prior year. The increase is due to the prepayment premiums paid during the first quarter of 2018 of $107.8 million and $6.5 million related to the redemption of the 5.75% Senior Notes due 2023 and Term Loan B-2, respectively. Also, in connection with the debt refinancing in the first quarter of 2018, the expensing of approximately $41.2 million of amortizable non-cash deferred financing costs was accelerated and with the early payment of the $782.0 million term loan facility in the fourth quarter of 2018, the expensing of an additional $1.5 million in deferred financing costs was accelerated in fiscal 2018. These increases were partially offset by lower interest expense, subsequent to the refinancing, in the second, third and fourth quarters of fiscal 2018.
The Company’s effective tax rate for the year was 21.5% compared to a benefit of 0.6% in the prior year. The rate in 2018 is the result of the goodwill impairment charge not being tax deductible. The prior year benefit was the result of the TCJA.
Net loss, including discrete charges, for fiscal 2018 was $1.59 billion and GAAP diluted loss per share was $6.66 compared to diluted earnings per share of $7.21 in the prior year. On an adjusted basis, diluted earnings per share increased 12.1% to $5.45 compared to an adjusted $4.86 in the 53-week fiscal 2017. Please see the Reconciliation of Non-GAAP Financial Measures for the detail on adjustments.
Family Dollar Update
Philbin added, “Since the merger, we have prepaid $4.3 billion dollars of debt, captured significant synergies in both brands, and fully integrated most systems, functions and departments across banners. By July, we will complete the most important phase: unifying our headquarters under one roof in Virginia. With these improvements behind us coupled with an investment grade debt rating and expected operating cash flow, before capital expenditures, of approximately $2.0 billion in 2019, we are in an ideal spot to accelerate our initiatives to position the Family Dollar and Dollar Tree banners for success.”
2019 Store Optimization Program
- After continued development, experimentation and testing, the Company is very pleased to roll out a new model for both new and renovated Family Dollar stores internally known as H2. This new H2 model has significantly improved merchandise offerings, including Dollar Tree$1.00 merchandise, throughout the store. H2 has produced increased traffic and provided an average comparable store sales lift in excess of 10% over control stores. H2 performs well in a variety of locations, and especially in locations where Family Dollar has in the past been the most challenged. The Company plans to renovate at least 1,000 of these stores this year and will pursue an accelerated renovation schedule in future years.
- The Company closed 84 under-performing stores in the fourth quarter – closing 37 more than originally planned for the year. In fiscal 2019, the Company is seeking to obtain material rent concessions from landlords on under-performing stores. Without such concessions, the Company expects to accelerate its pace of store closings to as many as 390 stores in fiscal 2019 (compared to the banner’s normal annual closing cadence of approximately 75 stores).
- The Company plans to re-banner approximately 200 Family Dollar stores to the Dollar Tree banner in 2019.
- Additionally, the Company plans to install adult beverages in approximately 1,000 stores and expand freezers and coolers in approximately 400 stores.
The actions taken in 2019 under the Store Optimization Program alone are expected to provide a comparable store sales lift of up to 1.5% once they have been implemented by the end of fiscal 2019.
Nearly all systems, functions and departments at Family Dollar and Dollar Tree have been substantially integrated with the primary exceptions of merchandising, store operations, and loss prevention. Real estate, supply chain, strategic planning, global sourcing, information technology, store development, finance, human resources, inventory management, and legal have been integrated to a significant degree. These integrations have resulted in annual savings exceeding $50 million, with another $15 million in expected annual savings upon completion of campus consolidation.
The acquisition of Family Dollar has contributed significantly to the Dollar Tree banner’s increasing profitability. The re-bannered Family Dollar stores have improved Dollar Tree’s profitability by more than $55 million per year, which we expect to increase as more Family Dollar stores are re-bannered. The Dollar Tree banner has benefitted from combining its purchasing power with Family Dollar. Annual savings for the Dollar Tree banner are estimated to be more than $60 million in indirect procurement (including capital expenditures), and more than $70 million in initial merchandise cost. The Company expects to benefit from future savings as well as from other ongoing initiatives and business improvements. These savings have helped to offset investments in the business, such as improved merchandise values and increased store labor, and cost increases such as wage rates, fuel costs, and freight charges due to the driver shortage, which also impact Family Dollar and the retail sector more broadly.
As part of Dollar Tree, the Family Dollar banner has benefited from more than $145 million in estimated annual savings for indirect procurement (including capital expenditures) and more than $100 million in initial merchandise cost. As a percentage of sales, Family Dollar has decreased its initial merchandise cost by approximately 1.53% from fiscal 2015 to fiscal 2018. The Company has reinvested much of these savings into the business through price reductions at stores, increased merchandise value, and increased staffing. The savings have also been offset by higher costs of items included in the gross margin calculation, such as distribution, shrink, freight and fuel. The Company expects the merger to result in continued savings in the future.
Dollar Tree Price Test
The Company continues to believe that the Dollar Tree banner has one of the most unique, differentiated and defensible brand concepts in all of value retail. The one-dollar fixed-price point has been a critical element of Dollar Tree’s success, generating deep customer loyalty and strong historical performance. While the Company will not undermine this important value proposition for customers, testing new initiatives is an essential component of the Company’s ability to evolve and provide the best customer experience, including multi-price point testing, which has been done on prior occasions.
The ability to test multi-price points is enhanced by Family Dollar. The merchandise team at Family Dollar has the expertise and purchasing power to purchase high value multi-price merchandise for these test stores.
In fiscal 2019, the Company will be accelerating its store optimization program, and currently expects to renovate at least 1,000 Family Dollar stores. The Company plans to open 350 new Dollar Tree and 200 new Family Dollar stores, as well as re-bannering an additional 200 Family Dollar stores to Dollar Tree stores. The Company also expects to accelerate its pace of Family Dollar store closings by closing as many as 390 additional under-performing stores. The total number of stores closed may change depending on the Company’s ability to achieve material rent concessions from landlords.
The Company estimates consolidated net sales for the first quarter of 2019 to range from $5.74 billion to $5.85 billion, based on a low single-digit increase in same-store sales for the combined enterprise. Diluted earnings per share are estimated to be in the range of $1.05 to $1.15.
For fiscal 2019, our guidance is based on the expectation that Section 301 tariffs would move to 25% in March 2019. If these tariffs do not move to 25%, we expect to see margin benefit in the second half of fiscal 2019.
The Company estimates consolidated net sales will range from $23.45 billion to $23.87 billion. This estimate is based on a low single-digit increase in same-store sales and approximately 1.0% square footage growth. Diluted earnings per share are expected to range from $4.85 to $5.25, and includes discrete costs of approximately $95 million, or $0.31 per share. Diluted earnings per share in fiscal 2019 are also burdened by approximately $0.18 due to the expected tax rate being 22.6% as compared to 19.9%, excluding the goodwill impairment charge, in fiscal 2018.
The $95 million in discrete costs are related to the following initiatives:
- $37 million of Store Support Center consolidation costs,
- $30 million of incremental initiative costs based on project count and velocity, and
- $28 million of store closure costs.
These initiative-related costs are expected to be incurred disproportionately, as approximately 75% will be incurred in the first half and 25% in second half of fiscal 2019, as the Company targets completing the majority of the initiatives by the end of August 2019.
Due to the costs associated with these initiatives, year-over-year operating income is expected to be lower in the first half of fiscal 2019, but is expected to show material improvement in the second half, as the initiatives gain traction. Additionally, we believe that these initiatives will drive business and provide the platform for an accelerated improvement in earnings in fiscal 2020, when the Company’s earnings per share are expected to grow 14% to 18% over reported fiscal 2019 earnings per share.
Philbin concluded, “Our Dollar Tree business has continued to perform extremely well. It’s a concept our customers love, as validated by our streak of 44 consecutive quarters of comp sales growth. We are confident we are taking the appropriate steps to reposition our Family Dollar brand for increasing profitability as business initiatives gain traction in the back half of fiscal 2019. Improving the consistency of execution and optimizing our real estate portfolio will contribute to a meaningful improvement in our shoppers’ in-store experience and store traffic. We believe we are well-positioned to capture the significant opportunity ahead of us as we focus on creating and driving value for our shareholders.”