It is an important exercise to periodically review our stock holdings as well as those stocks that are on our watch lists. This review should happen at least once a year but also when big stock price movements are noticed.
Dollarama (TSX:DOL) is a stock that has seen big price movements in the last few years, and the volatility has been both an opportunity and a curse. December was no exception, with Dollarama’s stock price down 8.1% on the heels of the company’s third-quarter results release, which were not bad but below expectations and signalling problems ahead.
Here are the issues that put downward pressure on Dollarama’s stock price in December.
Dollarama’s pricing strategy is hitting its limits
With increased competition from the likes of Dollar Tree and a consumer that has reacted negatively to recent price hikes at Dollarama, it seems that management’s hands are tied, at least for now.
As you know, in recent years, Dollarama has introduced different price points, effectively raising its prices. At this point, the retailer is selling products at price points as high as $4. As a strategy, this has helped the company increase its same-store sales at a time when traffic was falling. As was pointed out by the CEO in the company’s latest conference call, however, we should not expect more price increases to be introduced. This means that same-store sales growth could be in for a weaker ride in the next few years.
The store count is currently at 1,225, and the company still expects that by 2027, it will have 1,400-1,700 stores across Canada for an up to 38% increase in store count. Same-store sales growth has already been reset, with the company expecting fiscal 2020 same-store-sales growth of 4-4.5% (down from growth rates of more than 8% in prior years). I question whether this slowdown in sales growth will impact Dollarama’s store growth.
On the flip side, the rising Canadian dollar will help margins out on the cost side, as most of Dollarama’s products are sourced in China and priced in U.S. dollars.
Rising shipping costs
Management had a cautious tone in the conference call regarding pricing, competition, and shipping costs, which management expects will rise. While this may prove to be transient and short term in nature, the fact is that in fiscal 2021, the company will face challenges related to this.
While management is not talking about this as anything other than a short-term problem, the next few years may not be as easy as investors may be expecting.
Valuation remains high
I have long had a problem with the valuations that this retailer has been trading at. The stock still trades at a premium valuation, and although this premium is far lower than what it was in the past, I am uncomfortable with a retailer trading at multiples of north of 25 times earnings when expectations are being missed and new headwinds are forming, as is the case for Dollarama.
Foolish bottom line
Dollarama stock was weak in December, but given the headwinds that have been forming and the stock’s persistently high valuation, I do not see this as an opportunity to add the stock to investors’ portfolios.
Fool contributor Karen Thomas has no position in any of the stocks mentioned.
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