Dollar Tree (DLTR 0.04%) owns its namesake brand and the Family Dollar nameplate. Both are low-price retailers that cater to consumers looking to stretch their spending dollars. There's an interesting trend taking shape right now that's supporting the company's business, but it might just be setting Dollar Tree up for harder times ahead. Here's what you need to know.
Dollar Tree had a strong third quarter
In the third quarter of 2023, Dollar Tree's same-store sales rose 3.9%. That's a very respectable number, with the Dollar Tree nameplate up 5.4% and the company's Family Dollar business up 2%. There's an important difference between these two store brands.
Image source: Getty Images.
Family Dollar is largely a local store that sells everyday needs at low price points. Dollar Tree sells things at a low price point, including everyday needs, but it also sells a wide variety of products that are more discretionary in nature. Shopping at a Dollar Tree is something of a scavenger hunt, as you look for fun products at bargain prices. While economic concerns have clearly benefited both nameplates, the scavenger hunt of Dollar Tree has been a bigger winner.
That company was pretty clear about what was going on when it held its third-quarter 2023 earnings conference call. According to CEO Rick Dreiling: "Dollar Tree is attracting customers from a broader range of income levels. Most of our new customers over the past year have household incomes over $125,000, and this income demographic was a significant contributor to Dollar Tree's Quarter 3 comp growth."
Trading down may not last
The big takeaway from that comment is that wealthy consumers worried about the economic environment are trading down to shop at Dollar Tree. That's not shocking, as the store is a great way to stretch spending dollars while still maintaining a bit of fun while spending. And over the next few quarters, assuming the economic mood doesn't suddenly improve, the trade-down trend should be a pleasant tailwind for Dollar Tree's namesake brand.
However, there's a longer-term issue that investors need to keep in mind. Simply put, wealthier customers have more options. Whether the economy is good or bad, less-affluent customers will probably keep shopping at Dollar Tree and Family Dollar. Those with more disposable income, on the other hand, are only likely to trade down when they're worried about the economy. If (more likely when) they feel better about their finances, they will probably trade right back up to higher-priced stores.
That's not meant to be a knock against Dollar Tree or to minimize the current same-store-sales strength the company is experiencing. However, if you're looking at Dollar Tree today, you shouldn't just extrapolate the recent same-store-sales success into the future. There are nuances here given the increasing number of wealthier customers visiting the retailer's stores. Sure, some might find the Dollar Tree experience fun and keep coming back. But not all of them.
A big advance in a short time
Dollar Tree's stock rocketed higher by 33% in the final quarter of 2023. That's a very large increase in a very short period and prices in a lot of good news. Yes, there was good news in the third-quarter earnings release and probably more to come. But after the massive price advance, investors should probably start to consider what happens when wealthy customers revert to their normal spending habits. The likely answer is that the tailwind Dollar Tree benefits from today could quickly turn into a headwind.
