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Stretching Your Dollar

Wednesday, 15 Oct 2008 | 8:28 PM ET

Cramer’s still recommending trade-down plays as surer signs of a recession show themselves. These are the companies that help consumers get by with less during tough times. Think Wal-Mart and other discount retailers.

Well, it doesn’t get any more discount than a dollar store. And out of two potential choices – Dollar Tree and Family Dollar – Cramer likes Family Dollar. He said expectations are so low for FDO that the stock could be a win for investors.

Stretching Your Dollar
Buying up the dollar stores, with Mad Money host Jim Cramer.

It’s true that Dollar Tree has better margins, a higher return on invested capital and higher unit sales, but the analysts have already noted the store’s performance. Of the 12 covering Dollar Tree, none have a “sell” rating on the stock. Instead there are seven “buys” and five “neutrals.” Look at Family Dollar in comparison: four “buys,” nine “neutrals” and two “sells.” Clearly these analysts are expecting less from FDO.

That works to an investor’s advantage, especially because Family Dollar has a history of outperformance during recessions. It easily bested Dollar Tree between the recession of 2000-2002. In fact, FDO was up all three years, and well into double digits for two of them, while Dollar Tree was down big for two of those three years. This is a key metric as we’re probably heading into a recession.

Family Dollar also makes for a better investment because the company is just now going through all the internal efficiency updates that Dollar Tree’s done with. For Dollar Tree to improve, it needs to open stores. Family Dollar just needs to preserve cash and focus inward on running a better business. That’s just the type of model, Cramer said, that companies need in this environment.

Of course, if FDO decided to open more stores, there’s still plenty of room to do so, even though the company has 3,000 more locations than Dollar Tree. And that’s without even one store in California. Family Dollar’s management has said there's the potential to open as many as 1,000 on the West Coast.

As we said, FDO is taking some important steps to boost business in the stores the company already has. Food stamps and credit cards will most likely be accepted by the holidays, the latter most likely boosting the average per-visit total. Family Dollar expects to sell more private-label goods, which means more profits for the store. And there’s a switch from what people want to what they need, meaning throw-away home products are being replaced by groceries. Yes, people are actually food shopping at Family Dollar.

The company’s latest quarter beat estimates, showing more profits, higher sales and less inventory, which is always what you want out of a retailer, Cramer said.

Family Dollar’s trading at a discount to where it usually is during tough times: 13 times next year’s earnings versus the usual 17. If Family Dollar were valued at that multiple, this $23.42 stock would sell for about $29. Plus, this environment is so friendly to dollar stores that Cramer thinks FDO should beat next year’s earnings estimates, which are at $1.70 a share. If that happens, again, the stock should go higher.

“For the ultimate trade-down play, I need you to buy Family Dollar,” Cramer said. “Hopefully, if you own the stock you’ll actually be able to avoid shopping there.”





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