Money Doesn't Grow On Dollar Trees

With so much uncertainty in the U.S. economy, it is easy to see why there is tremendous interest in the dollar store space. Apparently though, money does not grow on trees, Dollar trees that is. Dollar Tree, Inc. DLTR shares are getting rocked this morning, after the company came out with earnings and guidance that disappointed. The Chesapeake, VA-based company reported second quarter earnings of 77 cents per share on $1.54 billion in revenues. Wall Street was expecting earnings of 75 cents per share on $1.55 billion in revenues. It also gave guidance for the third quarter, saying it expects to earn 77-83 cents per share on $1.56 to $1.68 billion in revenues. Wall Street is expecting earnings of 82 cents per share on $1.59 billion in revenues. It also gave guidance for the full year, saying it expects to earn between $3.82 and $3.95 per share in 2011. It had previously seen $3.69 to $3.85 per share for 2011 in earnings. Wall Street is expecting earnings of $3.91 per share. “I am pleased with our second quarter performance as sales, earnings and operating margins continue to expand,” President and CEO Bob Sasser said. “Increases in customer traffic and average ticket drove our sales growth, which was strongest in the latter half of the quarter. Our operating margin continued to improve even with significantly higher energy prices throughout the quarter relative to last year. Earnings continue to grow and our stores are executing at a high level. We transitioned quickly from “Summer Fun” to back-to-school and are ready for the fall selling season.” The dollar store space has been incredibly hot, with names like Warren Buffett, Bill Ackman and Nelson Peltz in the space. Peltz and his Trian fund have been in discussions to take Family Dollar FDO private. Ackman announced at Ira Sohn he was in Family Dollar and has continuously been buying shares since then. Just the other day, Buffett disclosed that he had built a stake in Dollar General DG. With all of these big names in the space, it is hard to see why Dollar Tree has been unable to deliver on earnings expectations and guidance. Are the men, deemed by Wall Street to be the smartest of the smart, wrong? Or are the expectations too high? It is more likely that earnings estimates are too high, at least for now, as the U.S. economy slows. Consumer spending is going to slow, and consumers will be looking for necessities and the best bang for their buck. Money will start to flow to the dollar store space, as they take over market share from stores like Wal-Mart WMT and perhaps even Target TGT. Just not yet. The optimism appears to have baked in just a little too early, at least if you go by Dollar Tree's earnings. Dollar Tree is trading under 15 times earnings, and saw operating margins improve in the quarter, increasing 70 basis points for the quarter to 10.0%. Dollar Tree continues to grow, adding 76 stores in the quarter and increasing square footage by 8.9% over a year ago. Money grows over time, it just is not growing on a tree. Not yet. ACTION ITEMS:

Bullish:
Traders who believe that the U.S. economy will slow and consumers will flock to dollar stores might want to consider the following trades:

• Consider any of the names mentioned above. Ackman believes Family Dollar is worth $70, and Buffett moved into the best in class, Dollar General.

• Another name to consider is 99 Cents Only Stores NDN, which was approached by Leonard Green about a merger.

Bearish:
This line of thinking is bearish for the U.S. economy. It's not encouraging to see consumers trade down. It generally means a recession is happening or is about to happen.

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