Dollar Tree, Inc. (DLTR) Earnings Call Transcript & Summary

Good morning, everyone. This is Kate McShane, again. Thank you for joining us today. Today's session is with Dollar Tree. Dollar Tree is a leading operator of discount variety stores with over 15,000 stores across 48 states and 5 Canadian provinces, supported coast to -- by coast-to-coast logistics network, excuse me. We're very happy to have the whole management team here with us today, President and CEO, Michael Witynski; CFO, Kevin Wampler; VP of Investor Relations, Randy Guiler; and Manager of Investor Relations, Kayleigh Painter. Before I turn it over to the fireside chat, I'm just going to have Randy read the forward-looking statement.

Thank you, Kate. Before we begin, please note that our statements today regarding our future business and financial results are forward-looking statements. Actual results may differ from those statements. See our most recent 10-K, 10-Q and other SEC filings for information concerning risks and other factors that could cause our actual results to differ from those contained in today's statements. Kate?

Thank you. So this is the second day of our conference. And yesterday, the observation was, in terms of the questions that we've been getting from investors and the feedback we've been getting from those meetings -- are first and foremost, just understanding the health of the consumer as we go into the back half of the year into 2022 and, I don't know if it's second or the same, the state of the supply chain. So that seems to be the area of focus in all our conversations today. So that's where I'm going to start my questions, if you don't mind.

I wondered if you could just talk about the state of your core customer as it is today. First, how does it differ maybe between the 2 banners, if you can kind of level set that? And then just given all of the stimulus that we have seen and as we get further and further away from the checks that have been written over the last year, how is that affecting your business? And does the child tax credit have any ability to drive sales in the back half?

Yes. Good morning, Kate. Thanks for the question. Yes, I'll start out by differentiating the 2 shoppers. Our Dollar Tree shopper is more of a suburban shopper, a value seeker, thrill of the hunt, for party and entertaining, it's seasonal and crafty. And it's really in the income range -- I think Dollar Tree has a broader range of income, from the $40,000 to $50,000 all the way up to $90,000 to $100,000 range. And our -- and the Family Dollar customer, almost 50% of them are $40,000 or less. And they're really looking for us to be their solution for their -- all of their needs, to feed their family, to clothe their family, to take care of their home and for their seasonal or party goods as well. So I think those are really the 2 distinctions of the them. And I think as you pointed out the stimulus, I think that the customer is healthy right now for a couple of reasons. And as the stimulus is rolling off, and on the Family Dollar side, whenever the stimulus dollars were in the marketplace, we could see that on the Family Dollar side and just a little bit on the Dollar Tree side because of the difference in customer base. And as those are winding down, to your point, we do see the benefit of the child tax credit now in the middle of the month. We're -- this will be our third month of that. We've seen [indiscernible] in sales and activity as they get those benefits. And then looking forward, we see with the SNAP benefits coming out an increase in next month. Dollar Tree as an enterprise is the sixth largest retailer of SNAP benefits program. We think that our customer will continue to be healthy as those benefits increase going into the back half of the year.

Thank you. Another thing, of course, that's been driving a lot of retail has just been share of wallet away from leisure and more into things from retail. And I wondered if you could maybe comment, again, your customer might be a little bit different when it comes to this, given the limit on discretionary dollars. But have you seen any kind of change as the world opens up here with that share in -- that share of wallet shift? And if not, are you surprised by the sustainability of some of what you're seeing?

Yes. So I'll separate the 2. On the Family Dollar side, we do see a continued -- and I shared it on our quarterly call. On the consumables side of Family Dollar, we are seeing a continued increase in our share of wallet. And on the discretionary side this year, we're holding our share that we gained last year. And if you remember, that's really important to us because we worked so hard to improve our discretionary side in our toys and our home and our softlines. And we were -- last year, we were gaining 3x the market share. And so far this year, we are able to hold that and gain on consumables. So we do like what we're seeing in the market here. On the Dollar Tree side, we think it's [indiscernible] [ our count, our ] [Audio Gap] [ mainly ] traffic. We want more traffic coming into our store. And there are several things that are impacting our Dollar Tree share. And it's really the traffic side. And if our customer with -- [ still, we're seeing ] trip consolidation. We're a secondary shop. And when they had the stimulus dollars, they weren't coming in to buy things for $1. They were on the Family Dollars side. They were coming in to buy higher-priced [ discretionary things ] that were driving that sales. And as you saw, they were going to buy things for their home and furniture and electronics. But we don't believe they are coming into a Dollar Store with their discretionary spend. So we're looking for our traffic to continue to increase in the second quarter. We did see increase in our traffic at Dollar Tree for the first time in 4 quarters. And we also have our basket size that Dollar Tree is doing very well. So if we can hold on to that basket size and start to improve as [indiscernible] opens up and as there is more shopper mobility into this back half with back-to-school, with offices that are going to open and more opening up, we believe there's an upside for us looking forward there.

That's helpful. Just if we could talk maybe about the competitive landscape. In your view, when you take a look at the competitive landscape today, is it much different than what it looked like pre-pandemic?

Yes, it is. So it's the promotional side that is pretty normalized, meaning there is a lot of low promotions. And it is -- it went through all last year and has continued into this year. And then I -- with the inflation, and we are seeing retailers move retail, we are watching that as we do with our market price [indiscernible]. But overall, we don't see anything changing on the promotions side.

And with regards to promotions, the demand, obviously, has kept them at bay, but also the supply has been very tight. As you do see a more normalized environment or maybe as you see more inflation enter into retail, how do you expect that to play out? Do you think it still will be muted? Or can you see more risk of that going into '22?

I see as the vendors' supply chains start to normalize, we do believe that there will be more promotional demand [indiscernible]. Of course, Dollar Tree is a single price point. That will impact that. And Family Dollar is more moving towards an everyday low price, doesn't really rely a lot on promotion. But I do believe this promotion activity [indiscernible].

And I'm sorry to interrupt, but we're having a little trouble hearing you guys. Is there any ability to turn the volume up on your side?

We'll work on that. And while we're working on that, I'll speak louder.

Okay. So I thought it would be a good time to just walk towards freight here. And I thought on the Q2 call, you're particularly helpful with your insight into what the issues were with regards to the supply chain and what costs you are facing. So I wondered if you could maybe talk a little bit again on where some of the bigger backlogs are for your business, what it means from an inventory flow standpoint and how you expect this to play out over the next 6 to 12 months.

Yes. Thanks, Kate. And that's -- as we shared on the call, the freight, the cost of freight has definitely increased, and it's due to the capacity of the freight carriers and just the global demand across the entire consumable industry that's put us and the freights really in a dislocated place right now. So what that's done is driven 2 things: us having ability to get the freight we need at the time we want and then having the ability to get it at the contractual price and then go into the market more often than we expected to, combined with the market price going up higher than we expect it to. So our team has been working very, very hard. We -- as we shared, we got a dedicated -- charter of dedicated vessel. And really, that was to guarantee trying to get the containers that we need at the time we needed. We also have -- we have a dedicated charter for 3 years that's going to be dedicated to us going back and forth for 3 years for our needs. And we've also dedicated individual charters, some 1 or 2 times going back and forth, to help get us the freight capacity that we need. We're also -- some of the things that we're doing are being flexible at the port of origin. So if there's an opportunity in Ningbo versus Shenzhen, we will move the inland containers to those ports. So we're being flexible there. And then on the receiving end, as you've read, there's -- this morning, there is over 40 ships backlogged and off of L.A. There's 17 down in Savannah. There's a backlog in Seattle. But we will pick if there's -- if it's optimal for us to go to New York instead of Savannah, we will take that container, land it there and then we'll deal with it on the inbound freight once it gets into the U.S. The last thing we're doing is we're moving purchases. So we're -- I mean, our buyers, as I've shared, are working hard at buying product into North America where we're not relating on the ocean freight rate right now. And then the biggest thing, as you said, is the inventory needs. So it's -- what the impact, and what I've shared is the freight -- we're not getting the capacity that we want, and it's not coming in at times. So it's forcing us to prioritize. And of course, we're prioritizing by seasonal. We've pulled our seasonal forward by 30 days, and then we're prioritizing by profitability and by the needs of our inventory. But we're still not getting the inventory we need in our stores. And we believe that in our Dollar Tree, for the second quarter, that is impacting our comp sales. So it's that traffic thing that I discussed earlier, combined with the inventory that we want to get in our stores. And right now, our delay in shipping, we're probably 4x as much as we were this time last year and just as an overall inventory. And our stores -- our store inventory is about down 12% on average. So yes, it is -- right now, the delay in shipments is impacting our inventory that we want to have the right mix to drive our comp sales overall.

If you were to go into one of your stores right now, would the customer really be noticing many out of stocks? Or is it a little bit -- at this point in time, is it more subtle? I guess I'm wondering when the tipping point is in terms of when the customer really starts to notice.

Yes. Two different things. In our Dollar Tree store, we don't -- we're not planogram, and we flex with our -- the items we carry. So we can spread out on things that we have. What the customer will notice is we may be a little thinner where we won't have the breadth and the depth of the inventory in certain categories. They won't notice in seasonal because we're prioritizing in seasonal. It's coming in. And as it comes in, it's flowing through, and it's selling very well. And I'll say our discretionary business too is doing well. Our -- in the second quarter, our discretionary business had a 2% comp on top of a 9% comp in the last year. So our discretionary side of the business is comping very, very well. It's the consumables side that we're -- and as -- that's the one that relies on traffic, that everyday traffic and the secondary traffic coming into our store. On the Family Dollar side, they will notice where we don't have import freight in the home or in the textiles or in clothing or electronics because we are planogram. So if there's a hold or delay of shipment, you will see holes on the shelf where we have delay in shipment.

Okay. So just to go back on the cost side, it does sound like, at least with regards to some containers, there's some contracted capacity there. How much do you have to rely on spot between now and the end of the year?

Yes. More than we want. What we -- the way we shared it with -- is that we -- in our forecast, we thought that our contracted carriers could meet our capacity and demand that we gave them at 85% rate, meaning that normalized, they could -- we would want them to give us 100% of what we expect them to. So we discounted down to 85% and thinking we'd go to the spot. Well, they weren't able to meet that demand just because of the delays in the shipments and how -- that there is the whole network is disjointed right now. So they were in the 60% to 65% range. So that means we do have to go to the spot market more than what we wanted.

Okay. I guess the last piece of the inflationary pressure question, it just really has to do with price. Obviously, with some of your business being at a fixed price point, it's hard to be flexible. But how are you thinking about prices across the stores?

Yes. On the Family Dollar side, we're like every other retailer out there. We're negotiating like heck. Our merchants are working very hard and trying to find new suppliers, new alternatives or negotiating a better rate. And as the market allow us, there will be times that we will have to raise prices on the Family Dollar side. On the Dollar Tree side, we change the item. We -- our $1 is a fixed price point, as you know. And what I shared on the call is we just -- in July, we just got out of our July trip, and we bought $1.8 billion. And our initial markup, the buyers did a great job. There were inflationary pressures and costs that they saw. But -- and I think that on -- out of all the items, I shared that 70% to 73% of them had some issue with the component or inflation or something to do with the cost. But our buyers were able to navigate through that, deliver a great product that we expect at a great value and hit our margin expectations. So our initial markup, our merchants are doing a great job of being able to hit $1 price point at the margins we expect at the initial cost. The challenge we have right now is just that freight expectation. The other component of our margin is shrink. As we've shared, the operators have done a great job really managing and decreasing shrink over time. And then the other one is markdowns, that's the other component. And with the product coming in and selling through, our markdowns are very normalized. So that's not any pressure. The pressure right now is on the freight.

How would you characterize the environment then just from a rationality standpoint? Do you feel like with what you're able to do with your pricing that you've been able to maintain price gaps? And what have you seen out of the competition as we -- as everybody kind of navigates this inflation?

Yes. So far, we've been able to navigate it accordingly to the margins that we need. And that's on the Family Dollar side where we have the opportunity to move on prices where we have to. And also, the way you think about pricing is it's all the components of pricing. It's the promotional. It's the less promotion you have to do. So that helps margin as well.

Okay. I wondered if we could now move on to some of your new formats. You have 3 initiatives that I can count with Dollar Tree Plus!, the H2 format and the Combo Stores. Each one sounds like you're pretty pleased with what you've seen so far. So I wondered if you could maybe talk how you prioritize those initiatives, why these initiatives are the right ones to pursue at this time. And any up-to-date detail of where you think these new initiatives can go?

Yes. Kate, thanks. So we're very excited about our new initiatives and our formats that we've created over the last 18 months to 24 months. And overall, as we look at these 2 great brands and the way we approach it is the capability, our competency and what these brands represent. And then how do we optimize and maximize our market share with the 2 brands? And that's how we've come to the 3 that we have. Our H2 is really optimizing the Family Dollar format. We have 8,000 stores out there. And how do we really remodel the stores and bring a more meaningful assortment and really on that discretionary side for that customer. And every time we remodel a store, we're still getting a 10% lift, and we like the results. And we're going to continue to remodel those stores on our fleet of Family Dollars. Then I shared the Combo Store that we started rolling out this year and we tested all last year. We really like that format, and especially in the rural market where Dollar Tree normally wouldn't go. And we can really drive more market share and share of wallet in the rural market by bringing 2 great brands together inside one box. And that's what we're very excited about. And we're going to -- and there's 3,000 small towns out there. We've got about 106 of those right now. And at every level, whether it's a new store in a market, it's doing 17% better than a new store that isn't a Combo Store. If we remodel an existing store where it's already at, we see a 23% lift. Or when we relocate a store and expand it in a small town, we see a 40% lift. So our customers love this store. We love it because it's more productive for us. It's a better top line. It's a better margin mix because you have a great Dollar Tree, a single price point, everything that Dollar Tree is known for, that seasonal set, a party, a stationary and then that Crafter's Square. And then right next to it is everything that Family Dollar offers. Bringing those 2 together is a better mix, and it's a better margin for us, ultimately, a better margin -- gross margin and profitability. So we really like that format. We have 3,000 towns we've identified. We're going hard to build that out. We've -- we announced we're going to do at least 400 of those, either new, remodeled or relocated next year and to continue to grow that. And at the same time, we're testing that in other geographies, too. Is it just for rural? Can this play in other markets? And we think there's a lot of upside there because it does 2 things: it brings that $1 price point into a multi-price point format into the Family Dollar customer. And also, it brings the multi-price point into the Dollar Tree customer. So it works both ways, and we're really excited about being able to have -- unleash multi-price point and single price point into one box and really deliver that value equation for the customer. The third format that you talked about, and you've heard us -- well, we've been working on this for 24 months and reiterating it. And it's taking that Dollar Tree expertise of the $1 price point and having an unbelievable discipline around delivering and manufacturing an item with our vendors that is of great value and a great wow in the marketplace. And the reason we think it's important to us is we've seen out in the marketplace how that $5 or below, that price point is really important and is resonating well with the customer. And we believe that with our capabilities, our relationships with the vendors, we believe we can do a great job on the $3 to $5 price point. So we were working hard on it. And we think we got it to the right assortment now and the right mix where when we're rolling that out into -- we have it in about 360 stores. We're trying to get to 500 by the end of the year. But when we rolled that out, we shared that we get a 6% lift. Now that's not the end game. We think we can get more than a 6% lift. But we think it's good enough to start rolling it out aggressively and then on the back side, continue to iterate it and improve it. And ultimately, as we said, we're going to roll it out to 1,500 stores next year and ultimately 5,000 stores. But that 6% lift, we think, has upside as we get better at it, more depth, more breadth of that assortment as we drive that capability. So those are the 3 formats that we're going after. We like them a lot, and our customers are responding very well.

Did these new formats affect your real estate rollout strategy in any way? You still have a long runway for unit growth. How do we think about unit growth in the context of some of these newer ideas?

Yes, you're right. It absolutely is going to affect our real estate strategy or where we want to point our resources and capital to, and that's what we're going through right now. As we normally like to grow 6 to -- 500 to 600 stores, and we'll drive the mix based on where we get the best results and where the best upside is at. We talked about the 3,000 stores opportunity out there in rural markets. So we're going to go by half on -- to drive our CapEx and to drive the store count in those small rural markets. And then we'll continue to drive Dollar Tree and with the Dollar Tree Plus!, it's in those markets where we have that capability. And then on the H2, that's really a remodel of our existing stores. So we're going to continue to remodel those stores so that we can get more productivity out of them.

I guess the last initiative I wanted to make sure I asked about was just the introduction of produce and frozen at Family Dollar. I think you started adding fresh produce and frozen meats late last year. Could you talk about the time line of that rollout and how it's impacted baskets so far?

Yes. Thank you. So we think that's got a lot of upside for our customer. The frozen meats, we like a lot. We have a little over 100 stores. We like the increase in the basket. And it's -- obviously, we're not selling meats right now. So it is incremental sales for us. So we're going to work really hard to drive that into more than 3,000 stores over the next year to expand that as quickly as we can. The produce, we're still iterating and learning from. With the heat of the summer and the transportation, we're working through that right now. But we're going to -- that's not going to be as fast as our frozen, but we think there's upside. And we're going to iterate it and fix it, and we will grow that as well.

Kate, I would like to clarify one thing on the Dollar Tree Plus!. We indicated 1,500 stores next year. And we've also said 5,000 stores by the end of 2024. We don't view that as a cap. We think that we could add Dollar Tree Plus! into more stores over time. So ultimately, we think it will be a much bigger number.

Great. Thank you. Before we turn it over to the audience for questions, and this is just a reminder to the audience to send in your questions a little bit on the earlier side because there's a little bit of a delay. We have 4 questions that were asking every company that's presenting at our conference these 2 days, some of which we've already touched on, but this is supposed to be kind of a lightning round multiple choice session. So the first question is just on consumer demand in the second half of 2021. Do you expect sales to accelerate, decelerate or stay the same versus the first half?

I think the demand will still be out there. I think the customers are in a good place and I think -- with the benefits of the child tax credits and the SNAP benefits. And I also do believe that the customer wants to celebrate this -- going into these tax seasons. With the Halloween and the Thanksgiving and Christmas that most people missed last year, I believe there's some upside.

The second question is about digital penetration, and we know I didn't spend that much time on digital today. But how do you think about digital penetration in 2022 versus what we saw in '21?

You got to believe and I believe that digital penetration will continue to increase. That's why we're excited about the capabilities that we've built late last year and into this year with our omnichannel. And we've got our focused capabilities now and the ship to home and the curbside pickup or home delivery with Instacart. So we're working really hard, and that's going to be important for our customer. We want to meet our customer where they want to be met. We think ultimately, our 16,000 locations are the convenience for our customer in our segment, but we also want to be able to meet them where they want to be met and have a broader reach with our digital. So that's why we're excited about that opportunity.

The third question, and again, we spoke about this a little earlier in the conversation, was just about the promotional environment in 2022. Do you expect you'll see higher -- a higher amount of promotions in '22 versus '21?

Yes. I think as things normalize, and it will really be dependent on the supply chain to normalize where they can handle the promotional activity. But I believe as that gets better and normalizes, I think promotions will start to come back.

And the last question is on inventory. Just do you expect inventories to grow faster or slower than sales in the second half?

I think the second half of this year, I think it will be growing at sales. I think we'll be getting a new product and turning it at the same time. And then I think the first half of next year is hopefully when the inventory will start growing faster than sales.

Great. We have one question that's come in from the audience. The question has to do with freight again. And how confident are you that you will not have to guide freight expense higher again for this year?

Well, based on our forecast at the time, we took all the information we have. And we think that based on where the market is right now and our ability to get the containers in on the contractual price at the open market and then with our dedicated carriers, we hope that we can get the freight in on time based on what we have forecasted out there.

Great. Thank you. If there are any other questions, you can send them through now. In the meantime, I thought I could just ask a quick question about shrink. I know that's been a big initiative of yours to improve recently. How much more opportunity do you think there is there?

Yes. Kate, our team has done an unbelievable job. We've -- the last 18 months. We have new leadership in that area, and we have new technology and then our operators have worked really, really hard on the accountability and focused on this. And they've done a great job driving our shrink down. I believe -- looking forward, I think it's going to be more normalized. There might be some slight improvements, but I think we're at a place where holding this level is more of a normal level than in the past, [ where an increase got away from us a little bit. ]

Thank you. Well, I don't see any remaining questions in the queue. So we can end the session a couple of minutes early. I want to thank the team for joining us today. And thank you for everybody who dialed in.

Thank you, Kate.