Business: Dollar Tree operates discount variety retail stores. It operates through two segments: Dollar Tree and Family Dollar. The Dollar Tree segment offers merchandise at the fixed price of $1.00. It provides consumable merchandise, everyday consumables, variety merchandise and other items and seasonal goods. This segment operates 7,805 stores under the Dollar Tree and Dollar Tree Canada brands. The Family Dollar segment operates general merchandise retail discount stores that offer consumable merchandise, home products, apparel and accessories merchandise, as well as seasonal and electronics merchandise. This segment operates 7,880 stores under the Family Dollar brand.
Stock Market Value: $30.3B ($134.96 per share)
Percentage Ownership: 5.66% plus cash-settled derivative for 4.19% for a total economic exposure of 9.85%
Average Cost: $106.77
Activist Commentary: Mantle Ridge was launched by Paul Hilal, a veteran activist who was a former senior partner at Pershing Square. Hilal is an incredibly experienced activist investor with a unique mix of analytical abilities, communication skills and likability that you rarely see in the activist world. Mantle Ridge is very selective with its investments and while many activists look for three to four good ideas a year, Mantle Ridge looks for one good idea every three to four years. Hilal's approach has generally been to constructively engage with the company, amicably get the required level of board representation for the given situation, bring in the right senior management team and then decide how to best optimize the portfolio of assets.
Mantle Ridge intends to have conversations, meetings and other communications with certain members of the company's board and management team, stockholders and other persons. In each case, they plan to discuss the company's business, operations, strategies, governance, the composition of the executive suite and board and possibilities for changes thereto.
This is Mantle Ridge's third investment, the first two being CSX and Aramark. Hilal also played a leading role in several Pershing Square investments including Air Products, Ceridian and Canadian Pacific.
Previously, Starboard Value was involved at Dollar Tree. In January 2019, they outlined two opportunities they felt the company should be pursuing – exploring strategic alternatives for Family Dollar, which the company owns, and evaluating and testing a multiple-price point strategy. Starboard ultimately dropped its proxy fight for seats on the board after the company expressed openness to test multiple price points in its stores. However, it is almost two years later and not much has changed.
DLTR's stock traded as high as $120.37 on April 6 but fell to $84.26 on Sept. 24 after the company reported bad earnings and guidance for two consecutive quarters due in part to ocean freight headwinds. To stop the stock price's dive, and possibly to head off a rumored activist, the company announced that it would implement the multi-price point strategy and do a $1 billion stock buyback, even though it still had $1.5 billion of capacity on its previously announced buyback.
Hilal has a track record of creating shareholder value by bringing in a rock-star CEO, most notably at Canadian Pacific and CSX with Hunter Harrison. In this case, we believe he has found the Hunter Harrison of consumer goods stores – someone who has grown up working every facet of the industry and has a proven record of creating value at the highest level. It has been reported that he is working with Rick Dreiling, the former CEO of Dollar General. We believe these reports to be true for two reasons: (i) Dreiling is on the board of Aramark with Hilal and the two are working very well together there and (ii) Dreiling is the exact type of CEO that Hilal looks for in an investment like this.
Dreiling has had a successful four-decade long career, with success at Longs Drugs, Safeway, and Duane Reade. But perhaps his biggest success was in 2008 when he was brought in by KKR to Dollar General. In just seven years, Dreiling took the company's value from $4.5 billion to $25 billion, and it is now worth about $52 billion. After Dollar General, Dreiling, a Lowe's board member, strongly advocated that Lowe's select Marvin Ellison for the CEO job. As a player/coach, Dreiling partnered with an experienced CEO in Ellison (former chairman/CEO of JC Penney and senior executive at Home Depot for 12 years), and gave him the added benefit of his decades of experience and knowledge in a range of retail formats. Since then, Lowe's has returned 192.9% versus 71.9% for the S&P 500.
That player/coach structure is exactly what is needed at DLTR. Bob Sasser was the company's CEO from 2004 to 2017 and has since been its executive chairman while the company is on its second CEO in the four years since Sasser. This is not surprising as it is very difficult for a new CEO to operate and make necessary changes with the old CEO looking over his shoulder. Bringing in Dreiling as chairman with a CEO he can partner with — like he did at Lowe's — should work great here. That CEO could even be current CEO Michael Witynski – it is too early to tell as he has only been CEO since July 2020 and working in Sasser's shadow the whole time.
With a new team in place, two things can be done to create shareholder value. First, aggressively implementing a multiple price strategy, which has proven to work elsewhere. In early 2009, Dollarama introduced $1.25, $1.50 and $2.00 price points and same store sales growth more than doubled due to increases in the average ticket and store traffic. Dollarama has continued to add additional price points, with a $4.00 ceiling. Over the past ten years, average same store sales have increased from about 2% per year (prior to 2009) to roughly 6%. Gross margins have increased from nearly 33% to about 40%, and EBITDA margins increased from roughly 14% to about 25%. Further, when DLTR trialed this strategy, they found a 6% same stores sale lift from only dedicating 10% of its square feet to items in other price points. By increasing that mix and merchandising the stores for optimal sales, these improvements could even be greater, as Dollarama discovered.
The second area for value creation is with Family Dollar, but not to sell it as Starboard advocated, at least not immediately. With Dreiling involved, he can do for Family Dollar what he did for Dollar General, and maybe even quicker. At the time Dreiling took over Dollar General, Family Dollar was also worth approximately $4.5 billion, and it is still worth $4.5 billion today. Dreiling was able to massively improve Dollar General in seven years, but with the benefit of that experience he should be able to improve upon that with Family Dollar. For example, it took Hunter Harrison 12 years to turn around Canadian National and he did it in four years at Canadian Pacific. After turning around Family Dollar, that could be a good time to explore a potential sale of it.
Mantle Ridge's track record and comprehensive business thesis it always comes with should be enough reason to get it board seats. They will work constructively and amicably work with the board as they always do. We would expect that an engaged, objective board should be able to come to a reasonable settlement with them. But, if not, Hilal has shown in the past that he is not afraid to resort to a proxy fight if need be. The director nomination window opens on Nov. 24, and if it comes to that, Mantle Ridge has several advantages. First, it is clear to many shareholders that the company needs fresh eyes at the highest levels of the board. While the company has refreshed many board seats with new directors recently, the four directors with the most influence, including Sasser, have all been there for at least 13 years. Second, the company has been severely underperforming – on a 1-, 3- and 5-year basis, the company has underperformed the S&P 500 by 11.06%, 40.27% and 71.02%, respectively, and the recent earnings misses are still fresh in the minds of shareholders. Third, since it has been rumored that Mantle Ridge is involved in the company, the stock has gone up on heavy volume and the shareholder base has seen significant turnover, likely to more event-driven and activist-friendly shareholders. Finally, Mantle Ridge not only has a track record of working well with incumbent boards, but Hilal has skills and characteristics that are generally attractive to boards. If the DLTR board checks up on him, they will no doubt see this, but they really need to look no further than Rick Dreiling for proof of this — he was an incumbent at Aramark and definitely on the other side of the table from Hilal when Mantle Ridge showed up there. Not only have they been able to work together at Aramark as they got to know each other, but they are now working together in this investment for Mantle Ridge. There is no higher endorsement for an activist investor.
If Mantle Ridge is successful here in getting board seats, we expect that they will not only apply the governance, operational, financial, and strategic activism that they are known for, but will also use their unique position as a director to keep an eye on any environmental and social issues or opportunities at the company. For example, the distribution centers have never been completely integrated after DLTR bought Family Dollar. In fact, only one of the 26 serves both brands. This means that Family Dollar trucks are passing DLTR distribution centers to make deliveries and vice versa. Not only would integrating these distribution centers be good for the bottom line, but it would also be beneficial to the environment by greatly reducing the emissions from these trucks as they make their deliveries. Also, a company like DLTR that serves the lower economic demographic of our country has many opportunities to institute programs and policies that benefit many of the neediest of our citizens. This is a main tenet of the benefits of Active ESG, or AESG, investing. As an AESG investor, Mantle Ridge will be in a unique position to implement societal benefits that a passive ESG investor would never be able to do.
Ken Squire is the founder and president of 13D Monitor, an institutional research service on shareholder activism, and the founder and portfolio manager of the 13D Activist Fund, a mutual fund that invests in a portfolio of activist 13D investments. Dollar Tree is owned in the fund.