Analysts Say Dollar Tree Comps Up, Margin Down On Merchandise Strategy

Dollar Tree's (NASDAQ: DLTR) relatively robust same-store sales growth of late resulted from a tactic that could get a big boost from its controversial plan to acquire Family Dollar Stores (NYSE: FDO).

Same-store sales grew 4.5 percent in the recent quarter, the fastest rate since 2011 and well ahead of Street views. That growth resulted from increasing its merchandise assortment and adding more national brands -- a tactic that narrowed its margins and contributed to a slight profit decline.

"It means more quality and brands at the same one-dollar price point, but it also means lower margins," Jefferies' Daniel Binder, who said the tactic helps explain Dollar Tree's acquisition plan. Binder maintained a Hold rating and $56 target Friday.

Acquiring Family Dollar would provide greater purchasing power and relieve pressure on profit margins, Pacific Crest's Meredith Adler said in a note Friday.

"This new tactic changes our view of the proposed merger," Adler said. "It's both offensive to get growth and defensive" to boost margins.

But Adler said it's unclear how long competitive conditions will require Dollar Tree to maintain the tactic, nor how customers would react should it return to earlier and narrower assortments.

Nonetheless, Adler maintained her Overweight rating and $65 target, and said she "now sees a higher probability" of Dollar Tree prevailing against Dollar General (NYSE: DG) in the battle for Family Dollar.

But it remains an open question. Family Dollar's board recently rejected Dollar General in favor of Dollar Tree's bid, citing anti-trust concerns. Dollar General could take its proposal directly to shareholders.

Regardless, it's a "win-win" for Dollar Tree, according to Raymond James' Dan Wewer.

If Dollar Tree wins, its consensus earnings estimate is likely to increase by five percent to seven percent; if it looses, it gets a $305 million break-up fee that can be used to acquire Dollar General stores that are sure to be divested over anti-trust concerns, Wewer said in a note Friday.

Wewer maintained a Strong Buy rating and $65 target, while boosting his same-store sales forecast and cutting his view on margins and earnings potential.