Two retailers that are avoiding Amazon and thriving

Not all major retailers are getting clobbered by Amazon  (AMZN), believe it or not. True, the e-commerce giant has crushed many competitors, but at least two large rivals have managed to dodge the Amazon bulldozer. 

The two dollar-brand stores, Dollar General (DG) and Dollar Tree (DLTR), have so far been Amazon-proof, and they've continued to thrive despite the lurking shadow of Jeff Bezos' behemoth. That's partly because business fundamentals at these two retailers remain strong even though the markets they serve appear to be within Amazon's grasp. 

Although Amazon already has its hands full serving its vast territory, it's still possible that it might still decide to start training some attention on the dollar-store communities. But to date, Amazon's attention has focused on other attractive industries, such as pharmaceuticals and health care.

Dollar General is actually the largest discount retailer in the US based on total store count, and its third-quarter same-store sales growth (sales at stores open a year of more) was the best since the fourth quarter of 2014. "Its 4.3 percent growth exceeded our forecast of 3 percent and the consensus of 2.7 percent," noted Michael Lasser, equity analyst at UBS. He recommends the stock, currently trading at $93 a share, as a "buy." He has a price target of $105 for the stock.  

"Market sentiment has improved for Dollar General as its price-earnings ratio of 19 times is above it three-year average of 17 times," he said. And Lasser believes the company's earnings target of sustaining 10 percent to 15 percent annual earnings per share growth "is achievable and compelling" through a "visible formula that hinges on 6 percent to 8 percent square footage increases, modest comparison growth, stable to increasing margins and a 5 percent reduction in shares outstanding that should be rewarded by the market."

And on top of that, Dollar General's gross margin was "positive for the first time in a year in the third quarter," noted the analyst. "It's encouraging that the competitive environment hasn't worsened," Lasser added, noting that the company's expanded gross margin was due, in part, to inventory markups as Dollar General continues to look for ways to better manage its inventory while it opens new distribution centers.   

In recent years, Dollar General's low- and middle-income customers have felt the pinch of higher payroll taxes, government benefit cuts, higher rents, rising health care costs and volatile gasoline prices, noted Scot Ciccarelli, analyst at RBC Capital Markets. That said, he added, the environment for them "continued to slowly improve."  

So Dollar General has broadened its customer base through a combination of low prices and conveniently located stores, said Ciccarelli, who rates the company as "outperform." 

He figures Dollar General should still have 6 percent to 8 percent square-footage growth over the next several years despite its already sizable 14,000 store base. And when combined with other factors, including 7 percent to 9 percent revenue growth, Ciccarelli said he could see it achieving 10 percent to 15 percent earnings per share growth. 

He expects Dollar General's earnings to leap to $5.50 a share in 2019, up from an estimated $5.02 in 2018, and $4.48 in 2017. "We think Dollar General's stock can keep moving higher in 2018, as the company resumes its historical 10 percent to 15 percent earnings per share growth pattern," said Ciccarelli.

As for Dollar Tree, "its stock continues to execute admirably on [the company's] strategic plan, and we expect targeted $300 million in merger synergies to be achieved by mid-2018," said Alan Rifkin, analyst at BTIG Research. He rates its stock, currently trading at $107 a share, a "buy." He expects "continued significant margin improvement," noting that Dollar Tree's current profit margin is still well below its recent historical highs."

So Rifkin has raised his 2017 operating earnings estimate to $4.78-$4.87 a share from $4.58-$4.74 earlier. He also increased his net sales projection to $22.2 billion to $22.31 billion from a prior estimate of $22.07 to $22.28 billion.

"Dollar Tree is expecting another period of impressive margin expansion in the fourth quarter," said Lasser of UBS, who rates the stock a "buy." Dollar Tree and its Family Dollar unit have shown "signs of solid progress in the third quarter," he added. 

Overall, "we think Dollar Tree put together a solid set of results in the third quarter," he said, and its core Dollar Tree banner continues to resonate with customers as it generated its highest comparisons since the fourth quarter of 2014. 

"Further, Dollar Tree is showing signs of improved execution," Lasser said. So if it could maintain its step up in gross profit margin growth, "it should have more flexibility to invest in future periods," he argued. The retailer's latest set of quarterly results serves as further evidence that its investments in stores and merchandise are working, he noted. 

So with both Dollar General and Dollar Tree performing superbly, Amazon might start looking their way, either to directly clash with them -- or by taking them on by buying one of them outright. After all, the deep-discount niche can clearly generate healthy profits.