As Middle Class ‘Trades Down,’ Dollar Stores Trade Up

“The great thing at Dollar General is that we offer that value,” CEO Todd Vasos said Thursday, on the company’s Q1 earnings call.

He was responding to a question from UBS’s Michael Lasser, who asked about the contribution from “trade-down” customers, a polite euphemism for lower-middle class consumers “who may be facing some incremental economic stress,” as Lasser put it.

Vasos told Lasser the company’s “core customers” are beginning to shop “more intentionally” at Dollar General and that the company is “starting to see that next tier of customers shop[ping] with us a little bit more as well.”

Shareholders cheered the company’s report, which was solid, all things considered. Sales, profit and margins were all slightly ahead of estimates, and Dollar General raised its outlook for revenue and comps. The top line beat came courtesy of new stores. Same-store sales decreased as foot traffic dropped, but the average ticket rose. The mix reflected the environment. Declines in seasonal, apparel and home products were offset by an increase in consumables. Margins contracted 151bps YoY. “We remained focused on controlling what we can control,” Vasos remarked.

Meanwhile, Dollar Tree handily topped estimates. The company guided below the street for Q2, but raised its full-year outlook and cited “improved initial mark-on, favorable product mix and leverage on distribution and occupancy costs,” for 360bps of margin expansion in Q1. That, despite “higher freight costs” at Family Dollar, as well as “markdowns and shrink”.

CEO Michael Witynski said the company is taking preemptive actions to position itself “for accelerated growth” in what he called “the most attractive sector in retail, especially in the current economic environment.”

Like Dollar General, Dollar Tree enjoyed a sharp rally Thursday (simple figure above).

Frankly, this feels like a somber testament to economic precarity, not a “welcome relief,” as Wells Fargo’s Edward Kelly called Dollar General’s numbers.

Sure, the companies’ solid results and decent guidance were good news for investors, and I suppose it’s encouraging that Americans haven’t yet resorted to food banks. Relatedly, you could argue that people at least have somewhere they can still afford to shop. Still, listening to the calls was a painful experience.

“In tough times, value retail can be part of the solution to help families stretch their dollars to meet their evolving needs,” Dollar Tree’s Executive Chairman, Rick Dreiling, said. He would know. Dreiling was Dollar General’s CEO from 2008 to 2015. He joined Dollar Tree during a recent corporate shakeup triggered by an activist campaign against the board. In addition to Dreiling, Dollar Tree’s management team now includes at least two other Dollar General veterans, who are working on the company’s turnaround effort. In 2014, while at Dollar General, Dreiling tried to acquire Family Dollar, but the chain ended up going to Dollar Tree, where it’s been a drag ever since.

Most of the questions on Dollar Tree’s call understandably related to the company’s strategic initiatives following the shakeup (there were lots of “Welcome back, Rick”s) but CEO Mike Witynski was asked the same “trade-down” question Dollar General’s Todd Vasos fielded.

“I’m curious how long of a lag it was before you saw that middle income customer begin to trade down and if you think this current macro environment is going to be different than what we saw over a decade ago,” Gordon Haskett’s Chuck Grom wondered. Witynski demurred. “It’s hard to predict what’s going to happen now just because it’s — they’re being pressured for different reasons,” he said.

During the same exchange with UBS’s Lasser, Vasos talked a bit about gas prices and how that’s driving customers into stores. “If she starts to shop closer to home — not only our core consumer, but that next cohort up –” he began.

And then: “Let’s admit it, right, the gas price is at $4.40, $4.50 a gallon now on average [and that’s] keeping her closer to home. So those shopping patterns are definitely changing. And we’re seeing it happen right before our eyes.”