Dollar stores got aggressive as the rest of retail hunkered down, and Wall Street likes the strategy

Published Mon, Jan 4 202112:40 PM ESTUpdated Mon, Jan 4 20212:19 PM EST

Melissa Repko @in/melissa-repko @melissa_repko

Key Points

Analysts say Dollar General and Dollar Tree have room to run in 2021, despite their strong sales gains and stock performances during the coronavirus pandemic.
Dollar stores, especially those that sell food, "tend to do well during times of economic uncertainty," said Michael Lasser, a retail analyst for UBS.
Dollar General is expanding a new store concept and pressing ahead with aggressive expansion plans for its primary banner.
Dollar Tree is adding higher-priced merchandise to many of its stores and could pick up sales as consumers can resume social gatherings and parties.

As many retailers have shuttered stores and catered to a shrinking number of consumers, two major dollar-store chains have gone a completely different way. Dollar General and Dollar Tree have pushed for higher profits and appealed to new shoppers. Those aggressive moves have Wall Street analysts and investors excited. Shares of the companies both touched their 52-week high toward the end of 2020, as investors bet on strong performances buoyed by factors beyond the coronavirus and economy. "They both have significant opportunity in front of them," said Michael Lasser, a retail analyst for UBS. Dollar General launched a new store concept and accelerated plans to open more locations as many retailers furloughed employees and filed for bankruptcy during the pandemic. Its dollar-store rival, Dollar Tree , made its own potentially surprising move: Introducing higher price points at a chain famous for charging just a buck. Shares of Dollar General have risen about 35% so far in the past 12 months, raising its market value to $51.3 billion. Shares of Dollar Tree have increased by about 14% in the last one year, bringing its market value to $24.9 billion. The VanEck Vectors Retail ETF, which tracks the broad industry, is up 29% in the last 12 months, but that's been helped along by a hefty holding in Amazon. Both companies have a much larger store footprint than they did during the last recession, according to data tracked by market research firm IRI. Dollar General has nearly doubled from approximately 8,800 stores in 2009 to more than 17,000 stores. Dollar Tree has quadrupled from about 3,800 stores in 2009 to more than 15,000 stores. Some of that growth came from its acquisition of Family Dollar in 2015. Even with the retailers' recent gains, analysts say they have room to run. Here's why Wall Street investors will likely continue to bet on the dollar-store chains in the year ahead: Dollar General On the last Saturday before Christmas, the number of holiday shoppers visiting stores dropped at most retailers compared with a year ago , according to Placer.ai, a company that estimates retail foot traffic based on anonymized location data from millions of devices using artificial intelligence. It found an exception to that trend: Dollar General. Its store visits on the last-minute shopping day grew by 1.3% year over year compared with retailers such as Macy's and TJMaxx , which saw them drop by double digits, according to Placer.ai. For the retail chain, it is yet another data point that illustrates how its brand resonates with a growing number of consumers who are looking for value. "Economic uncertainty is a critical lens for understanding consumer behavior, and Dollar General is actually seeing growth in the average household income of its visitors," said Ethan Chernofsky, the company's vice president of marketing at Placer.ai. "This indicates that the brand's offering is becoming increasingly enticing to a wealthier demographic." Like other grocers,' Dollar General's sales have risen as shoppers have needed to restock their pantries more frequently during the pandemic. That pattern will likely carry into at least the early months of 2021, until the Covid-19 vaccine is widely available and the spread of the coronavirus slows. Even when consumers can return to pre-pandemic routines such as dining out, some will continue to cook at home and look for budget-friendly food options because of losing their job or wages during the recession. About 19 million workers were collecting unemployment benefits from the state or federal government as of late November, according to the Labor Department. Dollar stores, especially those that sell food, "tend to do well during times of economic uncertainty," Lasser said. He said consumers turn to the stores because of their wide assortment of lower-priced items, such as half-boxes of cereal or smaller containers of laundry detergent. UBS has rated Dollar General as a stock to buy and set its 12-month price target at $245, which represents a gain of more than 16% from current levels. In the year ahead, Dollar General plans to open 1,050 new stores and remodel 1,750 stores. It will also open more locations of Popshelf, a new store concept that it debuted this fall. Popshelf is aimed at younger, more digitally savvy and higher-income customers who have more discretionary income. The stores sell home decor, beauty items, cleaning supplies, party goods and more — with most items costing $5 or less. The company said its target customer for Popshelf is a female who lives in a suburban area with a household annual income ranging from $50,000 to $125,000. Its core customer for Dollar General lives in a household that earns less than $40,000 per year. By the end of next fiscal year, Dollar General plans to have about 30 Popshelf stores. Even with relatively few locations, the stores could help Dollar General continue to broaden its customer base. To be sure, Lasser cautioned that all retailers face some challenging or hard-to-predict dynamics. It's unclear when consumers will start to return to their pre-pandemic routines, such as dining out and traveling, and how dramatically grocery spending will drop. Labor costs will likely increase for retailers as state minimum wages rise in much of the country. And transportation costs have also grown as supply chain pressures, such as a spike in online shopping, creates bottlenecks with shipping and moving goods. Dollar General has several efforts underway to drive up profitability, too, including supply chain improvements that speed up and lower the cost of replenishing its shelves. And like other retailers, Dollar General is catering to customers in new ways. It's added a pickup option for online purchases at its stores. It's also expanding DG Go, an option that allows customers to scan their products while they shop and check out in an app. Dollar Tree Dollar Tree is made up of two dollar-store banners: Dollar Tree, which has a broad assortment of general merchandise, and Family Dollar, which tends to sells more food along with other goods. The retailer stands to gain from a mix of factors in the year ahead, including the addition of higher-priced merchandise, recessionary trends and the return of post-pandemic routines. UBS recently named it one of analysts' highest conviction calls for 2021. The list is made up of stocks that the company's analysts see benefiting from the economy's reopening or other trends unrelated to the pandemic. It joined 20 other companies on the list, including Amazon , Southwest Airlines and DocuSign . Dollar Tree is trading at around $106, but UBS has pegged its price target at $126, which would be a gain of nearly 19%. As at Dollar General and grocery stores, sales of food have grown at Family Dollar during the pandemic. The company is also renovating stores, which could improve customer experience and entice more frequent trips. Dollar Tree looks poised to become more profitable in the year ahead, too, Lasser said. It tested the addition of higher price points of $3 and $5 at some stores as part of an effort called Dollar Tree Plus. It will expand that to about 500 stores next year. "They should be very good profit contributors for Dollar Tree," Lasser said. "If you're selling items that are $3 and $5, you don't have incremental labor. You don't have incremental supply chain costs. You don't have incremental rent. So the profitability of those items should be very good." Tariffs on Chinese goods may lift under President-elect Joe Biden , which would help the company, he said. Since its reputation and name is tied to the price of merchandise, Dollar Tree hasn't had the same ability to increase prices and instead has had to eat those additional costs. Dollar Tree stores — which drive the majority of profits for the company — stand to benefit from post-pandemic trends, too, Lasser said. Sales of its serving platters, paper plates, streamers, balloons and other party supplies will likely pick up as the Covid-19 vaccine makes it possible for people to more safely gather and there's pent-up demand to spend time with family and friends. "As there's a return to normalcy, that should be a nice tailwind for the Dollar Tree banner," he said.

Shares of the companies both touched their 52-week high toward the end of 2020, as investors bet on strong performances buoyed by factors beyond the coronavirus and economy.