DOLLAR TREE, INC. quarterly report, Q3 FY2003

Business Context and Reporting Period

Company: Dollar Tree Stores, Inc.
Filing Type: Form 10-Q (Quarterly Report)
Reporting Period: Three and six months ended August 2, 2003 (Fiscal Year 2003, Second Quarter).
Key Event: On June 29, 2003, the Company acquired 100% of Greenbacks, Inc. for approximately $100 million in cash, adding 100 stores in 10 western states and expanding operations to 47 states.

Key Financial Metrics

Metric Three Months Ended
Aug 2, 2003
Three Months Ended
July 31, 2002
Six Months Ended
Aug 2, 2003
Six Months Ended
July 31, 2002
Net Sales $626.0 million $512.4 million $1,241.6 million $1,022.1 million
Gross Profit $221.1 million $183.1 million $438.9 million $367.6 million
Gross Margin 35.3% 35.7% 35.3% 36.0%
Operating Income $47.6 million $41.2 million $102.1 million $87.0 million
Net Income $28.8 million $24.6 million $61.6 million $52.7 million
Diluted EPS $0.25 $0.21 $0.54 $0.46
Cash & Equivalents
(End of Period)
$100.3 million $137.4 million $100.3 million $137.4 million
Long-Term Debt
(Excl. Current)
$142.4 million $6.0 million $142.4 million $6.0 million

Note: The significant increase in long-term debt is primarily due to the consolidation of variable interest entities (FIN 46) and the acquisition of Greenbacks.

Material Changes vs. Prior Period

  • Sales Growth: Net sales increased 22.2% in the quarter and 21.5% in the six-month period compared to the prior year. This was driven by new store openings, the acquisition of Greenbacks, and a 5.1% increase in comparable store sales for the quarter.
  • Margin Compression: Gross profit margin decreased to 35.3% (from 35.7% last year) due to a higher mix of lower-margin basic merchandise, the inclusion of Greenbacks' lower margins, and approximately $1.0 million in additional non-cash depreciation from FIN 46 adoption.
  • Interest Expense: Interest expense doubled in the quarter ($2.2 million vs. $1.1 million) primarily due to $1.0 million in additional expense from FIN 46 consolidation of distribution centers previously treated as operating leases.
  • Cash Flow: Net cash provided by operating activities improved significantly to $3.1 million (from a use of $21.7 million in the prior year), driven by higher net income and reduced inventory expenditures. However, investing activities used $135.2 million, largely due to the $99.6 million net cost of the Greenbacks acquisition and $99.2 million in capital expenditures.

Guidance, Outlook, and Risks

Management Commentary and Outlook

  • Q3 2003 Sales: Expected to be between $665 million and $680 million, based on flat to slightly increased comparable store sales and 35-36% square footage growth.
  • Full Year 2003: Management expects sales and earnings growth of at least 19.0% and square footage growth of approximately 28.0%. Full-year gross margin is expected to approximate 36.0%.
  • Greenbacks Integration: The company expects Greenbacks' gross margin to improve, though full effects will be realized in 2004. Approximately 40 Greenbacks stores are expected to be converted to Dollar Tree signage/fixtures in 2003.
  • Capital Needs: The company expects to borrow from its new $150 million revolving credit facility for seasonal inventory and distribution center construction in the third and fourth quarters.

Risks and Contingencies

  • Integration Risk: Failure to successfully integrate Greenbacks could prevent the realization of accretion projections.
  • Supply Chain: Heavy reliance on imported goods exposes the company to currency fluctuations, shipping disruptions, and potential quality issues.
  • Legal Proceedings: The company is defending against class action lawsuits in California and Alabama regarding employee overtime classification and a product liability suit involving a stretch cord.
  • Subsequent Event: On August 7, 2003, the company acquired a 10.5% interest in Ollie's Holdings, Inc. for $4.0 million, with a call option to purchase the remaining equity in 2006.

Investor Verification Checklist

  • Greenbacks Integration: Verify the timeline and cost of converting Greenbacks stores to the Dollar Tree format and the actual margin improvement trajectory.
  • FIN 46 Impact: Confirm the ongoing impact of consolidating variable interest entities on reported debt levels and depreciation expenses.
  • Comparable Store Sales: Monitor the sustainability of the 5.1% comparable store sales growth, particularly as new store cannibalization risks increase.
  • Capital Expenditures: Track the progress and cost overruns of the new distribution centers in Joliet, Illinois, and Ridgefield, Washington.
  • Legal Exposure: Review the status of the California and Alabama employee classification lawsuits for potential financial impact.