Dollar Tree (DLTR) is a "single price deep discount retailer", or dollar store.Family Dollar (FDO) is a "deep discount retailer", so they have more prices,but it's a pretty comparable firm in many ways.(Even more so lately, since DLTR is expanding their Deal$ division,which includes prices from $1 ot $5).Both have fallen a lot, and both are very interesting businesses.First, the interesting bit: over the long run, these firms typicallytrade at around 13x cash flow per share. Now trading at about halftheir high values, they are now trading at 6.79x (DLTR) and 7.09x (FDO)VL's estimated 2007 cash flow (not particularly forward-looking).They have essentially no debt---both are buying back shares. For example, DLTR's $600m share repurchase budget would cover 16% of allshares, and presumably they're getting them at a good price right now.They have A (FDO) and A+ (DLTR) finanical strength ratings from Value line.They have almost identical operating earnings on tangible capital employed (EBIT/TCE) at around 24%, which is excellent.Current prices mean net earnings yields of 8.23% (DLTR) and 8.53% (FDO).FDO has a tiny bit of debt, so they use a tiny bit of gearing togive a slightly higher current earnings yield even though theirEBIT/enterprise value is a bit lower. But, this is a very smalldistinction---they could still pay off the debt with 8 months' earnings.Though mature, both continue to grow, though modestly.5-year book value per share growth rates have been 18% (FDO) and 12% (DLTR).Projected earnings growth rates are 12% (FDO) and 9.5% (DLTR).As an example, taking this year's cash flow for FDO, increasing by10% per year for ten years, and multiplying by the historicalmultiple of around 13, you get a share price of $130, versus 26.13 now.That's a return of 17.4% a year. Just a back-of-the-envenlope approach,but interesting enough that others might want to do a more meaningful analysis.I have a large private equity investment in a dollar store chain in Mexico, so I have been keeping my eye on this industry for a long time. These two sure make a lot of money. Personally, I think the selloffin retailers has unduly hit these money spinners.They show up like beacons on one of my "hiding in plain sight" indicators, since their book value growth in the last five yearshas totally dwarfed the share returns by 15-18% per year.Of the two, I like Dollar Tree just a tiny bit better. Good management team, a slightly stronger firm, slightly higher present and forecast growth rate, slightly better net margin. I like that they prefer buybacksto dividends, though I know others may have different preferences.DLTR closed Friday at $26.13. Market cap 2.78bn, down a coupleof billion from where it was, despite continuously rising revenues,earnings, cash flow, and book value per share.Risks? Retail is obviously tanking, and this is not the place in thecycle that you would normally go looking for a timely entry from amacro point of view, but the selloff has created opportunity.Walmart could always eat their lunch, but they certainly haven't yet.They do a lot of their sourcing in China, more than many, so there issome currency risk, but it's containable. The world will remain ina situation of net deflationary pressure from oversupply for many years yet, despite short periods of overconcern about inflation. Oversupplymeans a lot of suppliers tripping over themselves to hit your buyer's price.Cycically, the last downturn brought EPS from $1.11 in 2000 to $1.09 in 2001.Not too scary. Even a possible future nightmare year is easy to survivewith bags of cash coming in, no bad receivables, and no debt.But it seems that a reasonable margin of safety is already in place.A dip down to $21.50 (17% lower) would certainly cinch it for me,as it would give a nice 10% initial earnings yield with [possible] 10% growth.As is often the case, one big risk is trying to call the bottom.From a technical point of view, the price is more than 31% belowits 200 day moving average, which is 2nd percentile of its history.The average return starting from any day more than about 25% belowthe 200 day SMA (bottom 5% of the time) has been +54% a year later.(the range has been from +5% to +108%).I'm not a technical trader, but this adds a bit of numerical patinato the idea that even now it isn't such a bad entry point, and thatwe might not see all that much more selloff.Jim
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