Discount stores

4 stocks to watch as inflation-hit consumers turn to discount stores

A strengthening labor market and strategic efforts undertaken at the corporate level are working in tandem for the Zacks Retail – Discount Stores industry. Moreover, the strategy of selling products at discounted prices has helped industry players attract customers who are currently feeling the pinch of rising prices. The search for cheaper alternatives, whether for basic necessities or other consumer goods, has been a tailwind for discount stores.

Meanwhile, industry players have focused on deepening engagements with consumers, adding more engaging products, and improving digital and data analytics capabilities. Inventory management, supply chain improvements, cost structure realignment and investments to accelerate digitalization have worked in favor of companies like Costco Wholesale Corporation COST, Target company TGT, Dollar General Corporation CEO and Dollar Tree, Inc. LTDR.

About the industry

The Zacks Retail – Discount Stores industry includes companies that offer apparel, accessories, footwear, beauty products, personal and baby care products, cleaning products, pet supplies and food and beverages at lower prices than traditional outlets. Industry participants also provide home textiles, home furnishings, housewares, arts and crafts supplies, toys, and seasonal decor products. These companies sell their products through stores, digital channels, or both. Some industry players operate membership warehouse clubs, offering branded and private label products in a range of merchandise categories. Most discount stores are gradually becoming one-stop shopping destinations. The profitability of players depends on a prudent pricing model, a well-organized supply chain, and an effective merchandising strategy.

3 key industry trends to watch

Consumers are looking for better deals amid inflation: The strategy of selling products at discounted prices has helped industry players attract customers who were looking for both value and convenience in a rising price environment. Under current circumstances, people in low to middle income groups have shown a preference for discount stores to get quality products at reasonable prices. Industry participants focused on deepening engagements with consumers, creating innovative and engaging products, and improving digital and data analytics capabilities. Clearly, companies are sparing no effort to exploit any increase in demand.

Digitization is the key to growth: With changing consumer shopping habits, industry players have evolved to play dual roles in-store and online. Initiatives such as building an omnichannel channel, developing loyalty and marketing programs, improving the supply chain and providing faster delivery options, whether home delivery, curbside pickup or online shopping and in-store pickup, are worth mentioning. At the same time, companies are investing in renovations, improved checkouts and mobile POS capabilities to keep stores relevant. Keeping consumer product preferences in mind and the growing inclination for online shopping, retailers have been restocking shelves with in-demand merchandise and stepping up investments in digitalization.

Pressure on margins to linger: Companies in the industry are vying for a bigger share on attributes like price, products, and speed to market. Also, the growing dominance of e-commerce players has made the retail space very competitive. This has forced a number of players to strengthen their digital ecosystem and increase their shipping and delivery capabilities. While these efforts drive sales, they come with high costs. Apart from that, an increase in spending on marketing, advertising and other store-related expenses could squeeze margins. In recent times, industry players have been faced with product cost inflation, labor market tightening and supply chain headwinds. Nonetheless, companies have focused on initiatives to mitigate cost challenges. These include streamlining operational structures, optimizing supply networks and adopting effective pricing policies.

Zacks’ Industry Rankings Indicate Bright Prospects

The Zacks Retail – Discount Stores industry is housed within the broader Zacks Retail – Wholesale sector. The industry currently carries a Zacks industry ranking of #94, which places it in the top 37% of over 250 Zacks industries.

The group’s Zacks Industry Rank, which is essentially the average of the Zacks Rank of all member stocks, indicates an encouraging near-term outlook. Our research shows that the top 50% of industries ranked by Zacks outperform the bottom 50% by a factor of more than 2 to 1.

The industry’s position in the top 50% of industries ranked by Zacks is the result of a positive earnings outlook for the constituent companies overall. Looking at revisions to overall earnings estimates, it appears analysts are gaining confidence in the earnings growth potential of this group. Since the beginning of September 2022, the industry’s net income estimate for the current fiscal year has jumped by 3%.

Before outlining a few stocks you might consider for your portfolio, let’s take a look at recent stock market performance and the industry valuation picture.

Industry vs wider market

The Zacks Retail – Discount Stores sector has outperformed the broader Retail – Wholesale sector and the Zacks S&P 500 composite over the past year.

Shares in this industry collectively fell 6.6% compared to the 16.3% drop in the Zacks S&P 500 Composite. Meanwhile, the Zacks Retail – Wholesale segment declined by 30.1% during the said period.

Year-over-year price performance

Current industry assessment

Based on the 12-month price-to-earnings (P/E) ratio, which is commonly used to value retail stocks, the industry is currently trading at 23.43 versus 17.65 for the S&P 500 and 21.59 for the sector.

Over the past five years the industry has traded as low as 29.98X and as low as 18.04X with the median at 23.14X as seen in the chart below.

Price/earnings ratio (last 5 years)

4 retail discount store stocks to watch closely

Costco: This Issaquah, WA-based company’s growth strategies, better pricing management, decent membership trends, and increasing penetration of e-commerce business have helped its performance. Cumulatively, these factors have helped this member warehouse operator record an impressive number of comparable sales. Costco quickly embraced the omnichannel mantra to provide a seamless shopping experience whether online or in-store.

Costco has a surprise on earnings for the last four quarters of 7.7% on average. Its long-term earnings growth rate is estimated at 10.3%. Zacks’ consensus estimate for current-year revenue and EPS suggests growth of 8.3% and 10%, respectively, from the figure reported a year ago. Notably, shares of this company Zacks Rank #3 (Hold) have fallen 0.8% over the past year. You can see the full list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Pricing and Consensus: COST

Target: This Minneapolis, MN-based company has made multiple changes to its business model to adapt and stay relevant in the dynamic retail landscape. Target has deployed resources to improve omnichannel capabilities, introduce new brands, renovate stores and expand same-day delivery options to provide customers with a seamless shopping experience. These contributed to the top line.

Impressively, Target has an estimated long-term earnings growth rate of 9.9%. Zacks’ consensus estimate for current-year revenue suggests growth of 3.6% from the figure reported a year ago. We note that shares of this Zacks No. 3 ranked company have fallen 34.4% over the past year.

Pricing and Consensus: TGT

General dollars: Better pricing, private label offerings, effective inventory management and merchandise initiatives have aided the performance of this Goodlettsville, TN-based company. These, along with the focus on consumable and non-consumable categories, are noteworthy. Dollar General offers “better for you” products at affordable prices. Additionally, it expanded its refrigeration facilities to boost the sale of perishable items. Company initiatives such as DG Fresh, Fast Track and digitization are expected to boost same-store sales.

Dollar General has a four-quarter earnings surprise of 2.2% on average. Its long-term earnings growth rate is estimated at 10.9%. Zacks’ consensus estimate for current-year revenue and EPS suggests growth of 10.7% and 13.8%, respectively, from the figure reported a year ago. Shares of this Zacks No. 3-ranked company have risen 9.8% over the past year.

Price and Consensus: DG

Dollar tree: The Chesapeake, Va.-based company’s strategic initiatives, including assortment expansion to $3 and $5 Plus at Dollar Tree stores, as well as combo stores and H2 renovations at Family Dollar, provide ‘huge opportunities to drive sales and traffic.

Impressively, Dollar Tree has a four-quarter earnings surprise of 8.6% on average. Its long-term earnings growth rate is estimated at 15.9%. Zacks’ consensus estimate for current-year revenue and EPS suggests growth of 6.5% and 25.5%, respectively, from the figure reported a year ago. We note that shares of this Zacks No. 3 ranked company have risen 28.2% over the past year.

Pricing and Consensus: DLTR

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Costco Wholesale Corporation (COST): Free Inventory Analysis Report

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