A Better Beat Retailer: Target vs. Dollar General

Some retail stocks have fallen on hard times recently. Although the economy is generally doing well and remains near full employment, several years of higher-than-normal inflation and higher interest rates have stressed consumers.

Two decimated retail stocks are Target (TGT 2.81%) And Dollar General (DG 1.37%). Each is well below its all-time highs, and both appear to be trading at exceptional valuations. But which stock is the best deal today?

A half price sale

In the chart below, we can see how far each company has fallen. Target began its descent in late 2021, when many titles related to housewares and other physical items began to feel the post-pandemic hangover. Dollar General then collapsed in early 2022 and saw its stock fall even further. While each stock has traded at a price-to-earnings (P/E) multiple of the mid-20s at some point over the past few years, both stocks have seen their valuations plummet, even as profits have decreased.

DG percentage discount on all-time highest data by YCharts. PE ratio = price/earnings ratio.

If economic conditions become more favorable, every business could experience a significant rebound. However, both companies experience similar, but not identical, problems. Can they be overcome?

Less money, more problems

Although they have slightly different core customer profiles, Target and Dollar General are seeing customers reduce spending due to inflation, even as costs rise.

Last August, Todd Vasos, CEO of Dollar General, noted that 60% of Dollar General’s sales came from households earning $35,000 or less per year. Vasos said Dollar General’s weakest weeks in the previous quarter were the last weeks of each month. This suggests that customers became financially stressed as their monthly budgets dried up.

Perhaps as a result of this stress, management also noted that shrinkage, or theft, represented a 21-point drag on gross margins. So even though theft has been an issue since the pandemic, Dollar General still saw an increase in thefts compared to last year.

Target’s disappointing last quarter was marked by similar headwinds. While Target’s main customer is more middle-class, CEO Brian Cornell noted that its customers “shop carefully,” jumping on promotions when they happen, while only occasionally shopping splurges for “important seasonal moments”.

On the cost side, Cornell also noted that the company had to spend more money to reroute its inventory to West Coast ports when East Coast dockworkers threatened to go on strike. This increased costs and hurt profits.

On the positive side, Target’s shrink problem has actually improved, while Dollar General’s has not. However, these disappointing results could also mean increased competition. Competitor Walmart (WMT 2.32%) reported a favorable quarter, indicating that customers may have moved away from Target due to Walmart’s generally lower prices.

Which company is most likely to solve its problems?

Even though Dollar General is down more and trading at a slightly lower P/E ratio, Target seems like the safer bet at this point.

While Dollar General was considered resilient in the face of a bad economy or recession, the high-inflation economy appears to be perhaps even more damaging to its core customer than a recession, with housing and food prices making pressure on low-income Americans in a broad area. fashion.

Meanwhile, Target customers, while looking for deals, seem a little more resilient and less likely to resort to theft. The shrink problem remains one that Dollar General can’t really seem to solve, while Target seems to have a better handle on things in this regard.

And while Target is coming off a bad quarter, it’s also had a few good quarters here and there over the past year, with the third quarter’s port issues appearing to be a one-time phenomenon. As a result, Target was able to pay down its debt faster and reduce its debt-to-EBITDA (earnings before interest, taxes, depreciation and amortization) ratio, while Dollar General’s debt ratio continued to increase:

Data from DG Financial Debt to EBITDA (TTM) by YCharts. EBITDA = earnings before interest, taxes, depreciation and amortization. TTM = last 12 months.

Although a drastic improvement in the environment or execution of Dollar General could theoretically lead to more upside, Target appears to be a safer bet at the moment. Its stock may be worth a look after its recent decline.