Dollar General Corporation (DG) Earnings Call Transcript & Summary

Good afternoon, everyone. My name is Karen Short, and I'm the staples and hardline retail analyst at Barclays. We're very pleased to once again welcome Dollar General to the Barclays Staples Conference. We really hope, as I'm sure everyone does, that this event will be in-person next year. So we look forward to seeing everyone in Boston in 2022. With us today, we have Todd Vasos, Dollar General's CEO; John Garratt, Dollar General's CFO; and Jeff Owen, Dollar General's COO. We also have Donny Lau, VP Investor Relations and Corporate Strategy; and Kevin Walker, Senior Director of Investor Relations. This is a fireside chat. Obviously, no Q&A live, but hopefully, again next year. Before we start, I'll hand this over to Donny to read the safe harbor statement, and then I'll jump back in.

Sure. Thanks, Karen. Please note today's comments will include forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995, which can be identified because they are not limited to statements of historical fact. Such statements include, but are not limited to, statements about our strategy, plans, initiatives, goals, priorities, opportunities, investments, guidance, expectations or beliefs about future matters and other statements that are not limited to historical facts. These statements are subject to risks and uncertainties that could cause actual results to differ materially from our expectations and projections. These factors include, but are not limited to, those under forward-looking statements in our earnings release issued August 26, 2021, and under risk factors in our 2020 Form 10-K filed on March 19, 2021, and in the comments that are made during this event. You should not unduly rely on forward-looking statements, which speak only as of today's date. Dollar General disclaims any obligations to update or revise any information discussed today, unless required by law. We may also reference certain financial measures that have not been derived in accordance with GAAP. Reconciliations to the most comparable GAAP measures are included in our earnings release issued on August 26, 2021, which can be found at investor.dollargeneral.com under News and Events. Now with that, happy to turn it back over to you, Karen.

Thank you, Donny. Always a mouthful. So yes, so kicking this off, I wanted to start just kind of bigger picture. Todd, how should we think about Dollar General's ability to continue to capture share across various demographics? And also, I would ask in the context of various macroeconomic backdrops because it would just seem to me that you are obviously much more -- not resilient, I don't know if that's the right word, but then you say would have been in 2008, 2009 with a much broader appeal. So wondering if you could just talk about that a little bit.

Yes. Karen, thank you, and thanks for having us today. Yes, I would say that we're an all-weather brand, I think, is a good way of putting it. And that really speaks to the -- all of the innovation that we put in the box since '08, '09. We had done some really nice work even back then, transforming what Dollar General would look like. And I would have to say in the last 6 years, we've really taken it to a whole another level. And being that, I would tell you that today, we do service even a broader subset of the consumer base. And I'm happy to say, as we exited Q2, we more than doubled our expectation of retention of that trade-down consumer, if you will, or that cohort of consumer that's right above our current core consumer. And the retention rates being as high as they are, I think, is a real testament to that box, right? It appeals to so many different type of consumers, not only in the consumable side of the business, but also in that discretionary side of the business as well. So we're very happy with our positioning. But as you know us, we're never satisfied. We keep trying to find ways to even appeal to a more broader cross-section of America.

Yes. And maybe can you just give a little color on what you actually did with respect to making or retaining the new customers that you won over during the past 18 months? Kind of what was different about it versus prior, I guess, efforts?

Yes, sure. I would tell you it was fairly seamless for us, right, because we have the playbook. We put this playbook together coming out of the '08, '09 in the '10 financial downturn that we all saw, the Great Recession, if you will. All we did was take that off the shelf and we digitized it because we had great success with it before. And we just digitized it so that we could have even a broader reach and do it even less expensive because of the digital nature versus the old print, analog and/or radio that we used before. This was 100% digitized. So it really appealed to not only our core consumer, but that next cohort up, as I talked about, which tends to be a little younger, have kids at home and more digitally savvy. So it was really right up our alley. And then lastly, the only difference I would tell you is that this was not about price and item. This was really about top of mind awareness. This was keeping Dollar General in the consideration set, not only if you shop a consumable item, but also on the discretionary side because of all the work that we've done with NCI as an example, we knew we had a very compelling offering in the box. We just need to get her in there to try it out. And now that we have had that trial, now it's just a matter of keeping Dollar General in a consideration set. And we have not stopped. We started that retention effort back in the late summer of last year, and we're still doing it today. And I think that's been part of our success as well.

Okay. That's helpful. And then obviously, you always, as you said, have many, many different initiatives going on at any one time. When we kind of look to '22, how would you prioritize or what would kind of be the rank order of initiatives from -- versus 2021 perspective?

Yes. Sure. Well, we haven't really officially came out with what those initiatives might be in '22. I think we all have a really good idea and as you. Many of the ones that we had in play will continue to play out. So think of things like DG Fresh as an example. While we just finished up the rollout of DG Fresh, by the way, 6 months early, very proud of the team even through the COVID time, we were able to roll that out. And now we do what we do best, I think, is the best way to put it. And now it comes time to maximize it. So we are probably one of the best at making sure that we maximize what we have both on the warehousing and transportation side, but also on the margin and sales side of the equation. So -- and a lot of it will be category management-driven. Some of it will be supply chain-driven, some of it will be store-driven. But look forward to a couple of years of that over the next couple of years, which will incrementally grow that top line as well as the margin line in DG Fresh as an example. That is not including all of the other initiatives we have around DG Fresh, which is really the cooler initiative that we've been on this journey for many years now. And because of DG Fresh, and the ability to now actually put produce in the store as well, we believe we're only in the fourth inning of a 9-inning ballgame with DG Fresh and our cooler expansion. So if you think past that, think of NCI, we aim to finish NCI rollout at the end of '22. And we'll have over 11 store -- 11,000 stores is our plan for the -- for '21 and then finish it off in '22. So with that said, then comes that optimization as well. And again, we do it best when it comes to optimizing. So we're already off to a great start there, and we'll continue to optimize it. We've talked about pOpshelf as an example. Now while we're not quite ready, stay tuned as we come out of our third quarter, we'll talk about store growth and then pOpshelf will be part of that discussion. But I would tell you that we're very, very pleased with what we've seen so far. I'm so pleased that we're going to open 50 this year, with another 25 or so combination stores, store-within-a-store concept. We've got -- we had 2 up and running by the end of the second quarter. We've got another 2 or 3 now up and running combo stores, and we're seeing great success there. So more to come on pOpshelf. But pOpshelf could be a real game changer for Dollar General as we continue to go forward because of the margins and sales that these stores are projected to do and have been doing, at least in the first initial rollout of what we've seen. And then lastly, Karen, the only thing that I want to talk about right now because we may have some other things to talk about when we roll out '22, but the one that we originally talked about just recently is the health care initiative. And while that is in the infancy stages, we really have an opportunity to grow that health care side of the business, not only products in the store but services. And when you think about rural America, and we hear so much about food deserts, there's as many, if not more, health/medical deserts in rural America as there is food deserts. And we believe we have the ability to service the consumer in a lot of these instances, where she, today, has to drive 30, 40 minutes to get basic health care. So stay tuned there. We've hired Albert Wu, our Chief Medical Officer, and he has already dug in. We actually had our first Steering Committee meeting just yesterday, very pleased with how he's thinking about the business as well.

And just out of curiosity, how many -- what percent of your stores would you say are actually in health deserts?

Well, I would say that you're looking at probably somewhere about 65% of our store base today, which again, is going to put you in that north of 10,000 probably would make a lot of sense because of the rural nature and the very small town nature of where our store base is. Remember, 75% of our stores are in rural and small town America. I would say 65%, give or take, are going to be in these health care-type deserts out there.

Okay. And then switching gears to the unit opportunity broadly. You called out a 17,000-unit potential for Dollar stores broadly. And within that 3,000, I think, was pOpshelf. Maybe talk a little bit about that because it would seem to me that you are growing much faster than one of your competitors, and you're obviously maintaining cash on cash returns. So it seems like that could be something that could even accelerate in an effort maybe to do kind of bit of a land grab. Can you maybe talk to that?

Well, Karen, this is Jeff. When you think about the opportunities, our real estate team does a fantastic job and they continue to do that this year. So first of all, I think you've seen us over the years, we've been very aggressive in developing our format innovation but also figuring out ways to better serve that customer. And through all these different format sizes, it really has opened up opportunities. You've heard us talk about the 17,000, which we're very excited about. When you think about the core Dollar General traditional opportunity of around 13,000, we're real pleased this year with our pipeline for '22. Team has made tremendous progress. But I think the big story there is this bigger box that we've talked about recently. That bigger box is producing, on average, about 15% more sales per square foot than our traditional, and that's a big deal. And we see an opportunity here, as Todd just talked about. With our rural population, we got a chance to continue to get more share of her wallet. And so we're pleased with what we're seeing. You've got much more in that box with the cooler expansion. You've got our health and beauty expansion that we're able to put in there, NCI and a queue line. It's an impressive box. So we're pleased with that. And as you look at the new store economics, they continue to be very strong. And so we're very pleased with what we're seeing this year. We're pleased with what we saw last year and continue to see that as our #1 use of capital. So we're very pleased about what we can continue to grow and serve customers on a broad base with the traditional -- with DGX and with pOpshelf in the years to come.

And sorry, just to clarify. With respect to the pOpshelf opportunity, that 3,000, that was standalone or did that include combo stores as an opportunity?

No, that's standalone. And so as Todd mentioned, we've got a couple of our combo stores that we put in our Dollar General Market. We're pleased with that. That's very early, but we're very excited about what we're seeing in the early days, too, there.

Okay. Maybe switching gears to gross margins because this is a topic that continues to come up. Maybe just walk us through a little bit how to think about margins, I guess, beyond '21 as it relates to comparing to 2020 and also to 2019. Because I feel like when you list out all your opportunities, they're all margin-enhancing opportunities. But I think maybe investors are a little more skeptical on whether there's sustainability to that.

No, that's a great question. And to your point, there are a lot of margin-enhancing opportunities. We've been extremely pleased with how we performed over the last couple of years, expanding margins in '19, really expanding margins in '20. And even year-to-date, our gross margin is up 62 basis points. Now Q2 was down 80 basis points, but over a 2-year period, still up 87 basis points despite some pretty sizable near-term headwinds. So I think the good news here is as you look at what was driving that goodness, the sequential goodness over the 2 years, it's largely the strategic initiatives, the growing benefit of DG Fresh that Todd and Jeff talked about as well as NCI and other initiatives. Health, even though that is a consumable good, it has margins akin to nonconsumables. So the fundamentals remain very strong in the business, the impact of the initiatives, all the other levers. But as we called out in Q2, we did have some near-term headwinds. Specifically the biggest 2 we called out were freight costs that everybody is seeing right now as well as product cost with higher input costs as well as freight cost. We see that to be transitory. We're very pleased with the heightened sales and demand. But with that comes a challenged supply chain, higher cost. But we believe as the supply and demand get back in order, that will not be a headwind long term. It remains to be seen how long, but we believe it will be with us through this year. The hope is it will start to moderate as we move through next year as well as the product cost inflation. And then the other thing we talked about is just an extremely difficult lap from a margin standpoint. In Q2, we were lapping -- last year, our nonconsumables business grew over 40%. And so with that, obviously, comes a very favorable margin mix profile as well as unusually low clearance activity. So while we feel great about the nonconsumables business as that continues to do phenomenally and that will continue to grow, as we mentioned, completing that next year. Obviously, we had some outsized gains last year that it just becomes difficult to lap. But we see that going forward, that continuing to be a benefit. And so the fundamentals remain very strong with the initiatives, other levers that we've talked about like shrink, which has been a benefit. Team is doing a lot of work around supply chain efficiencies, does a great job with category management. Obviously, opportunities around private label opportunities around foreign sourcing. And when you look at where we're at from a pricing standpoint, promotion, it remains very tame. We love where we're at from a pricing standpoint, don't see the need to invest there right now. So as we push through these near-term headwinds, we see ourselves in a position to hang on to a lot of the gains we've gotten off of the pre-pandemic 2019 levels and continue to grow those over the long term.

And as we think about the holiday season, how -- can you just frame how you're thinking about the assortment for holiday season, your inventory levels? And then kind of -- so what -- clarify what your expectations are for the promotional environment in the second half.

Yes. Karen, this is Jeff. First, when we think about the holiday season, starting with back-to-school, we were really pleased with our inventory position in back-to-school. So that's step one. And then as you think about the future, in the back half of the year, when you think about harvest and Halloween and holiday, we feel good about our inventory position. Of course, we're facing some of the same challenges as others. But our team has done a really nice job of really working a multitude of levers to get the merchandise here for us and for the customer. And so many, many different things the team is doing. So we feel good about the assortment and the merchandise is outstanding. And from a promotional standpoint, I think John hit it. We don't see, in the near term, anything really changing there. We're in a great pricing position. Of course, you've heard many other retailers talk about having to pass some of that price on to the customer. But for us, we feel real good about where we are and see the back half of the year continuing like we've been talking about it.

Okay. And then on the wage front, obviously, Walmart recently announced another increase. You also have had some very strong success with hiring 50,000 employees. Maybe talk a little bit about your wage positioning. And I think this is just a topic that always comes up and it doesn't seem to be -- investors don't seem to be satisfied by your answer, but maybe you could frame how you think you were positioned.

Well, Karen, you're right. We feel like in terms of the 50,000, I appreciate you noticing that, because we're pleased with the ability to do that. But one of the things that we've always done, we continue to do, is pay competitive wages, and we feel like we continue to do that. And of course, we expect wage pressure every year. It's something that we've been dealing with for quite some time. And we continue to make the investments we need to, and -- but we don't feel like we need to make any meaningful ones. Because if you think back, we've been doing this proactively all along back in '17, when we invested in our store manager compensation. This year, just in '21, we've seen 25 of our states raise the minimum wages. And then, of course, we've enhanced benefits for our employees and then we've invested in strategic initiatives like Fast Track to try to compensate for that and mitigate some of that. But one of the things that I think doesn't get enough credit is the career opportunity here, and we talk about this a lot, but it's a fact. We have a tremendous opportunity for somebody to come into our operation and our company and grow very, very fast. And when you think about 75% of our employees above the lead sales associate level are internally promoted. I think that just paints the picture of growth and the speed in which you can grow here. You can be -- in 6 months, you can be an assistant manager from someone who just comes through the door. So again, our store manager, we've been saying it for years, and it continues, internally promoted and you can get to a store manager here faster than just about anywhere. So we'll continue to look at it. But keep in mind, when you think competitive wages, where we operate, 70% of our stores are in towns of 20,000 or less. So competition and competitive wages differ depending on where you are. And again, we feel like we're in a really good position. Our pipeline is doing very well, and we'll continue to watch that, but feel good about it right now.

And one thing that came up in a prior meeting, I thought it was an interesting point was -- the question was, if somebody -- if a retailer in a store that's really a 30-minute drive from where someone lives is offering $2 more an hour, wouldn't that just be enough incentive to take that other position for that extra $2? And I thought the response was interesting because it seems like maybe that $2 and a 30-minute drive is not incentive necessarily enough for that individual. Maybe -- can you frame that?

Yes. I'll start that, and if Todd or John want to jump in as well. But I think one of the things you got to keep in mind is not only does our shopper shop within a really tight density of our stores, 5 miles or less. I think that's important not only to our white space and our ability to grow stores but also our employee base. And so it's a very convenient place to work as well. And especially as I go back to what I just said around being in these towns of 20,000 or less, it's a great opportunity, again, for these folks to come in and work. And then, of course, I go back to the career opportunity, too, because in these small towns, you can come in and work, it's very convenient, number one. And then number two, you have a tremendous opportunity to grow very fast. And when you think about who we're competing with in those towns, we're a very, very viable and attractive option. And so that's kind of the backdrop to why a lot of our folks don't want to drive 30 minutes to go make a few more dollars because you can do -- at Dollar General, you can come in and grow very fast, and it's a very attractive opportunity.

And Karen, I'll just tack on. Just like any other retailer, a lot of our jobs are part time and even the full-time jobs, a lot of them are 5 or 6 days a week, depending on you as an individual. You may rather work shorter hours, but more days because of childcare and other things as an example. So if you're only working 4 hours a day, 5 hours a day, you surely don't want to travel 1 hour to and from work to work a 4-hour shift or a 5-hour shift. So that's probably one of the big drivers as well, and that's why it keeps people very close into where they live. And again, rural America is a lot like that. They're not driving to the big city to shop or to work very often, right? It's usually a once-a-month pilgrimage to shop, and they try their best not to have to go and do that. So working is no different. And we give them that great opportunity at a real competitive wage to stay real close to home.

Okay. That's helpful. And then we haven't talked about zero-based budgeting for a while. But I mean you do -- I guess now your term for it is save to serve. Wondering if you could frame that opportunity in terms of dollars. I mean again because like you haven't really talked about zero-based budgeting, but I know it's ingrained in your culture and your DNA. Is this kind of a different initiative? And how big is that opportunity?

It remains a big opportunity. It is alive and well. And as you said, we've kind of taken the principle of ZBB and done it the DG way and continue to build a robust pipeline of initiatives. Fast Track came out of that, and that goes after the 2 biggest buckets of labor, stocking the shelves and checking people out. We see other efficiency opportunities within the stores, within the DCs, within the support center as well as our marketing efforts. And the other thing we've been focused on is also bringing value-added services to our customers, which not only drives traffic, but helps us leverage the box, drives income streams with almost 100% flow through as it's relatively low-touch items. So that's really what helped us. We've talked about this 2.5% to 3% leverage point. That's been the real key to helping us maintain that with the one exception of the geography being off a little bit as we have to spend a little bit on initiatives, like fast -- like DG Fresh and NCI to save a lot more on gross margin and operating margin overall. But we still remain very excited about the opportunities to drive costs that don't -- help the customer.

Okay. And then maybe one last one since we started a little bit late. Maybe you could frame, I guess, how you see the state of your consumer today just from a balance sheet perspective. And then maybe talk a little bit about how you see the trends on traffic and basket evolving as we get into like the next 3 or 4 quarters.

Yes. That's a good one to end on, Karen. And I would tell you that our consumer is in pretty good shape. When you think about, she's working. She has money in her pocket. We can see it in her spending habits. So overall, good shape. Obviously, the stimulus program, the federal government stimulus program was a nice tailwind for our core consumer and really those consumers above even our core consumer. They have benefited nicely. So I think those 2 pieces really add to the argument that she's in probably as good a shape as she's been in many, many years. Then you couple that, though, with some of the other puts and takes that are out there. We've got to be somewhat cautious, right, because the stimulus money is starting to wane, obviously, almost completely out of the system very shortly. Child cash credits, obviously, are going to roll through to the end of the year. Some of the SNAP benefits are going to increase, but then we've got some that will fall off. So we believe that the back half extra money, if you will, is probably going to be offsetting, meaning from the stuff that falls off versus the stuff that comes on. And with that, that still leaves our consumer in pretty good shape. So we'll watch it closely. But we're always fond here to say, and this is where our buyers and our merchants really do a great job, is that she always runs out a month before the money runs out, right? And so -- I'm sorry, the opposite way around. She runs out of money before the month runs out, excuse me. So we always are very mindful of that. And so we really show her a lot of value through that. And then I would just end by saying this core consumer of ours is always stretched. So we just have to make sure that with inflation starting to creep in that we keep an eye on it, right? And that we continue to show our value. And again, Karen, you know our merchants pretty well. We've built this team. And quite frankly, this team has been in place for the better part of 12-plus years now for the most part, and they really understand this consumer. And they understand what it takes, and they do this every single day, meaning they trade off products for our consumer where they may be coming to us with price increases. We'll drop items, we'll add new items just to make sure that we can keep the value within the box for that consumer. And I don't know if anyone does it better than Dollar General along those lines, and it's ingrained in the culture here. So I would tell you that we're watching that closely because that could be a headwind for our core consumer overall. But the great thing about this brand, we talked about it earlier. It's an all-weather brand. And I feel better about this box that we've created now than I have in the 13 years I've been here. This is a box set I believe can stand the test of time over the long haul. And I believe that will deliver a lot of incremental both gross margin and top line sales for many years to come.

Well, that is a very good note to end on for the team at Dollar General. So thank you, everybody. Sorry we went a couple of minutes over, but we did start a little bit late, so I wanted to get all the questions in. We really appreciate your participation, and we really hope that this is in-person next year in Boston. So with that, thank you, everybody. Talk to you soon.

Thank you.

Thank you.