Chit Chat Stocks - Dollarama (Ticker: DOL.TO) Not So Deep Dive

Episode Date: October 24, 2023

Dollarama Inc. (DOL.TO) is a Canadian dollar store retail chain known for offering a wide range of affordable products, serving budget-conscious consumers across Canada. Listen closely as Brett and Ryan go through the history, financials, and future prospects of DLMAF. Enjoy the show! ****************************** Chit Chat Money is presented by Interactive Brokers. Switch to the best brokerage in investing today: ⁠ibkr.com/info⁠ ***************************** Subscribe to our Substack to receive free show notes and charts that go along with every episode: ⁠https://chitchatmoney.substack.com/⁠ Want updates on future shows and projects? Follow us on Twitter: ⁠https://twitter.com/chitchatmoney⁠ Contact us: ⁠[e-mail]⁠ Timestamps Company Background | (2:15) Industry | (12:21) Management & Ownership | (16:44) Earnings | (23:43) Balance Sheet | (28:35) Valuation | (32:39) Our Analysis | (33:20) Disclosure: Chit Chat Money hosts and guests are not financial advisors, and nothing they say on this show is formal advice or a recommendation. Brett Schafer and Ryan Henderson are general partners and portfolio managers at Arch Capital. Arch Capital and its partners may hold securities discussed on this show. Learn more about your ad choices. Visit megaphone.fm/adchoices

Welcome to Chit Chat Money. On this show, hosts Ryan Henderson and Brett Schaefer interview industry experts and riff on the world of investing. As a quick reminder, Chit Chat Money is a CCM Media Group podcast. Ryan and Brett are also general partners at Arch Capital, and Arch Capital may have positions in the securities discussed in this podcast. Anything discussed on Chit Chat Money by Ryan or Brett or any other podcast guests is not formal advice or a recommendation. Now, please enjoy this episode. Welcome into Chit Chat Money. My name is Brett Schaefer, and I am joined by my co-host, Ryan Henderson. Today is our Tuesday not-so-deep-dive episode where we analyze

one stock by covering its business model, ownership, financials, future growth opportunities, and much more. The not-so-deep dive is a little bit in jest, just because, as we all know, everyone calls stuff a deep dive, but this is supposed to be a first look at a company. We've been studying it for a week now, and we hope after listening to this episode, you get a better perspective on the company we are covering. It could inspire you to research further, and hopefully you learn a little bit. Before we get started, I will say we're going to discuss probably some charts, some graphics, and we'll have our show notes. If you want to read them, get access to the sources that we're using, which are just free links. And for stuff

you want to read more, subscribe to the free newsletter. We'll put in a lot of charts with their financials, all that good stuff if you want to learn about this company. And today, if you didn't read the title, because I don't think, usually when I say this, I like to think about it as uh revealing what company we're discussing but it's right in the title and we're discussing dollarama a underfollowed company in canada that runs a similar model to dollar tree in the united states but with a little bit of a twist and they've actually crushed dollar tree stock and dollar general stock since going public so i think that's a little teaser i'm gonna toss it over to ryan ryan what does dollar rama do and i think it's ama i

think it's dollarama that's what i've heard i think so yeah i'm really not sure i don't know how the canadians pronounce it but dollar ma the no yeah sorry cliche the uh but to put some context behind the numbers yeah dollarama as i mentioned here in a little bit went public in 2009. They are a 15 bagger over the last 14 years in that time. And it's been really just steady growth and performance out of the business. But let's talk about what they are first. Dollarama is the largest discount retailer in Canada, the largest dollar store chain in Canada. And like a lot of the other discount retailers we've looked at this month, the initial Dollarama concept was that they sold everything in the store for a dollar or less.

So that was kind of the dollar store ideology and really how all these were founded. But today, they're simply a multi-price discount retailer. Obviously, with inflation, it would have been pretty difficult for these dollar stores all across North America to maintain the dollar store concept. So it's very interesting how that happens, where all these companies had to face the same thing. And it seemed like one of those slow moving, as we've kind of described in other ways, a lot of people describe like stuff and happening in the, in the finance world and stuff as a slow moving train wreck. It seems like that was like a slow moving thing that was always hovering over these companies and they were so afraid to break it, but maybe to not spoil you, they, they weren't really afraid. They kind of went full bore and into separating themselves from the dollar price. Yeah, I think most people kind of understand that if they maintain a dollar or less for all their merchandise, the quality of the merchandise is going to come down over time.

But in terms of the SKUs, the merchandise that are in the stores, they're probably most similar to, of the companies we've discussed this month, Dollar Tree. So to kind of revisit here, Dollar General and Family Dollar were both very, I guess we could say, kind of rural concepts that catered to smaller towns, and they were very consumables-focused. So 70% to 80% of their revenue was consumables. Basically, there was more food, more refrigerated goods, more toilet paper, stuff like that. It was a store where people went there to get stuff they needed. dollar tree and dollarama is more so kind of your treasure hunt style shopping experience where majority of the items are general merchandise things like office supplies arts and crafts stationary household items seasonal items so like holiday decor that kind of thing

and only 40 in this case is really consumable so kind of your your toilet paper anything you're you're really using or even groceries in some cases but so that's that's really the dollarama focus it's general merchandise giving providing creative items that people can really it's hard for them to find anywhere else and they can sell them for what seems like cheap but they're sourcing them for a lot cheaper 53 of their items come from overseas they have direct relationships with a lot of the suppliers, mostly China, that is their largest sourcing market. But the remainder, 47%, comes from North America. And today they operate 1,525 stores across all parts of Canada.

We talked about Dollar Tree, Dollar General, Family Dollar, they all had kind of this focus on the towns they were looking for. Dollarama seems to be pretty agnostic to it. Their stores average about 10,000 square feet, which is kind of in line with a lot of the other dollar stores, but they've had success in both cities as well as more mid-sized towns and even small towns all throughout Canada. I guess other relevant things for Dollarama, they use third parties for all of their distribution. So they don't have their own truck fleet or anything like that.

They do have a number of warehouses and distribution centers that they use for sourcing goods. and bringing them to the distribution centers. But like I said, it goes through third parties. And then they also have a 50.1% stake in the parent company of Dollar City. Dollar City, they initiated this partnership in, I believe, 2013, but they finalized or took the majority stake in the last couple of years. And Dollar City is a discount retailer that's very similar to Dollarama, but operates stores in El Salvador, Guatemala, Colombia, and Peru. They have, while it's not as big as Dollarama, it's like a decent size store base. So 458 stores across its markets. They have plans to expand it to other Latin American markets and they are

growing pretty quickly. So it's certainly a part of the business that's worth keeping track of. When we talk about the history, Dollarama has really been a family business. Their roots date back all the way to 1910 when Salim Rassi, I think it's Rassi at the time, he was a Lebanese immigrant, opened a dollar store in Montreal. Over the following 60 years, the family, the Rassi family, which they eventually changed their name, grew the business to 20 locations. So by 1973, they had 20 locations. It's not that big, but it's a family business. And they just continued to pass the leadership baton down to their kids. So So first it was Salim Rassi.

I can't remember the second Rassi that took over. And then by the 70s, Larry Rassi ended up taking over as CEO. And in 1992, so that's the grandson of the founder, they had 44 locations by 1992, all considered Rassi Inc stores. So that was the name. And then I don't know what inspired it, but they were like, I'm going to just Larry Rassi decided he's going to open a Dollarama banner and it was far more successful. It's funny to think that Larry Rossi's dad and his grandfather could have just rebranded to something with the name

Dollar in it and probably had much more success. Not that they didn't have some success, but Dollarama was instantly a much bigger hit than their previous Rossi stores. Within just five years, Dollarama became the major revenue driver for the family. So they They decided to either close or rebrand all the existing Rossi stores into Dollarama locations. And then after seeing the success of this new concept, Bain Capital acquired 80% of the company in 2004 for $850 million, and that really helped supercharge store growth. So that was kind of from 2004, really, once the Dollarama name came in, they started to grow stores, that influx of capital from Bain Capital really superpowered it.

And then in 2009, they IPO'd. And that same year, they, quote unquote, broke the buck. They don't use that terminology, but they just moved to multi-price points. It's really been kind of a straightforward history. There haven't been that many big bumps in the road. They've continued the steady expansion. It's been positive comp store sales. I think Canadian population has grown. So they've grown with it. They've constantly said, all right, we're going to target 1,000 stores. They got to 1,000 stores, they moved the needle, but they said, we're going to target 1,400 stores. They got to 1,400 and now they're targeting 2,000 stores by I think 2031. So they've continued to push the envelope in terms of store count.

They have 85% of the Canadian population lives within 10 kilometers of a dollar city now. So they've done a really good job expanding over the years. And I'll talk about it in the earnings sections but the stores have gotten more efficient as well yeah so it's a great intro a few follow-ups i'm going to try to remember as you were going along there one as listeners probably will notice same store sales are very important for them going forward we'll discuss that because i read an article i think from 2014 where analysts were worried about store saturation so we don't really know how many stores they can get to and it's very important because i don't think they do either they were talking about at one point. It's one of the Rossis was saying, hey, we don't know what our

store saturation is. When we get there, we'll probably pare back a little bit and maybe not reinvest so much for growth. But we know as much as you guys about that since it's a new concept in Canada. They're a very unique model. Second, with Dollar City, I believe they said they have a goal of hitting around 1,000 stores. So they're investing a lot into that. And then third, When Ryan mentioned the direct merchandising model, that is something that is very important as well. They are cutting out some of the middlemen there, and it's pretty simple. When you cut out one of the middlemen, you can sell things for cheaper and earn the same margin as other people or sell at the same price as other people and earn a better margin, which, as we'll get into in the earnings, they do. I don't know if that's a competitive advantage, but they've just been a lot smarter on that. And given their scale, they probably have a competitive advantage now because, right, just the economies of scale with negotiating with suppliers there. Yeah, and not just suppliers, but distributors.

They talked about signing a new deal with one of their major trucking companies that they work with. and it's been a creative to margins as well. Yep. Okay. Now let me hit industry and competition. It was a little bit of a teaser there where we don't really know the addressable market, but I think I want to try to put in some, what would I say?

Just kind of important facts that I think make, for anyone that isn't in Canada, I know only a small percentage of our listeners are from there. But if we look at the discount retail or dollar store concept, excluding the mass market ones, like a Walmart. The landscape is much cleaner than the United States and comes out looking much more promising for Dollarama. First, I would note that Canada has a great population tailwind.

Current population is at just under 40 million and expected to steadily grow. Immigration tailwinds look really nice for them too. There's a chart below just taken from like populationpyramid.com of their projection of what their population will be, and it's going to steadily grow this century. And I think that might be even under-radiant because there is a huge influx of immigrants hitting that country. Here's a quote, I believe, from some news article. I forgot the link, but it says, Canada's population grew by over a million people for the first

time ever last year. And that's a record. And I believe that was in 2022. It could have been 2021. So really nice tailwind there, you know, with such a broad based concept that is appealing to lower income shoppers and higher income shoppers. It is very nice if the overall population in Vancouver area, in the Quebec area, in Montreal and stuff like that are growing. Now, another important note is that Dollarama has no scale competitor in the country. Here's a quote from an article.

Dollar-Rama doesn't face the same competitive pressures as Dollar General or Dollar Tree. Its 50% market share among general discount stores in Canada is more than twice what Dollar General and Dollar Tree together have in the US. And Dollar-Rama's $4.5 billion in annual revenue exceeds that of its next 10 largest competitors combined. That's old, so the revenue number is not the same as it is now. And Ryan will get to that during the earnings. And then I would also mention here two things.

They want to hit 2,000 stores by around 2030. So as Ryan mentioned, they're going to steadily grow their store count, but they're not crazy aggressive growing their store count. And then one other thing, I think Dollar Tree Canada, something to keep an eye on. They said they're investing in that. They have a presence there. If they start investing a lot in that market, as we talked about on the Dollar Tree episode, They got a new CEO that really did well at Dollar General and said they want to open

up a lot of stores once they get their family dollar and dollar tree concept, right? So that's something to watch, I think. Keep an eye on if you really like this stock. From a discussion question standpoint, I think this looks like a very ideal industry environment or sector environment at the moment. You have growing consumer demand, minimal competition, and greenfield growth opportunities for growing your store base. Ryan, do you agree or disagree?

Any problems you see with the industry here? No, I totally agree. I mean, they're way larger than any dollar store peers in Canada. They have a lot of brand notoriety. I mean, they do very little marketing and they drive tons of traffic to their stores because I think they've just got locations

where people have recognized the Dollarama name now in Canada. It honestly surprises me that more people don't talk about Dollarama as an investment. I hadn't heard about it until actually one of our friends of the show, Edward Chang, kind of mentioned it to me in our direct messages. And it's been a compounder. It's been the leader in discount retailing in Canada.

And I don't see anyone talking about it. It's like perfect environment too. Yeah, it's quite interesting. And I wish, well, I guess we weren't investing back then, but you could have got it for a EV to EBIT in kind of the 2012, 2014 time period below 14, which seems quite attractive. But we'll get to more of our opinions, I think, later in the episode. Let me hit management and ownership. Today, the company is helmed by Neil Rossi. He's been the CEO since 2016, CMO, which is chief merchandising officer, a very important role at the company

since 2010 and he has been with the company since 1992 uh and he's 53 years old so really he just probably hopped out of college and joined the family business he is the son of the founder of dollarama but as ryan mentioned it's kind of a weird it's sort of the founder sort of not it's the founder of the new concept but it's still fourth generation uh rossi retail leader um my thinking here is they seem to have because you always worry about the family businesses right we've all watched succession and stuff like that as rossi here is 53 he's got a good track record so far do you think the kind of nepotism risk has been de-risked here at least for the next decade or so as he's kind of young in his prime here is kind of 50 in his 50s and

60s for leading a business. Yeah. We probably should have looked whether or not he has kids. That's true. Whether or not they're in the retail business. I mean, they've passed it down from Rossi to Rossi over the years. I think because he's relatively young, I'd be curious what maybe previous CEOs, what age they've retired at, but yeah, he's probably going to run it for a while and he's done a good job. I mean, he's done a fantastic job since he came in and what, what did you say, 2015? 2016 as CEO, but he was chief merchandising officer since 2010. So been a leader for a while. Yeah. I don't really have any management concerns. Yeah. I will note, we do mention the ownership. He owns 3% of the company. I had trouble since

this is a Canadian business finding in their proxy statement, they didn't list any major shareholders. And to be honest for this episode, I thought that was just a fine number to have there i i don't know i tried to look a little bit but that confused me maybe it's on sadar maybe it's on somewhere else but i couldn't find it either way the only concerning thing from a proxy statement perspective was that the rossi family owns warehouses that are leased to the company uh i'll have the full quote for the numbers here it's not a giant amount but do you think this is a red flag uh maybe we can talk about that in our highlights on lowlights, but let's just hit it now. What do you think about that?

Yeah. I mean, it's on my lowlights. That was probably one of the only things I really listed here. It seems unnecessary. You read that and maybe the Rossi family, they just own a bunch of real estate and they were giving their own company really good deals, but we're not privy to that information. So what does it look like to investors? It looks like the Rossi family is self-dealing. They owned these warehouses and instead of leasing them through someone else, they've made the company lease them through their own family. That seems like self-dealing to me. Yeah. It was the big concern for me. It's not the end of the world, but the question I had is, well, we kind of already answered this. Are we annoyed that

the rossi family gets paid so much and also they get decent you know an executive comp here i would like not to be so aggressive given it's the family business you already have skin in the game here uh i would say you know are we annoyed about that when they already have so much skin in the game and i also would ask given the two probably best proxy statements or the best how would i describe but uh governance companies would be berkshire hathaway and costco would they do this i don't think so there is some related party stuff on berkshire yeah there was back in the day back in the day that was a compliment yeah yeah that that type of stuff but i don't think buffett would be paying himself especially whatever that's a discussion for another day

How much are they getting paid? Sorry. If we look at, let's see, here's the quote. As January 29th, 2023, the outstanding balance of lease liabilities owed to entities controlled by the Rossi family totaled $26.7 million. So not too much for them, but still. If they don't need it, the company doesn't need it, they can go somewhere else. If anything, give it to them for free.

Give yourself a competitive advantage there. Okay. let's talk about the executive compensation. They use a compensation consultant. So you will be unsurprised to hear that they have base salaries, annual bonuses, and long-term equity grants. Annual bonuses seem solid based on EBITDA growth. If you look at the 2023 target, it was 8%. And then same store sales growth, 2023 target was 5%. And then real estate growth of 65 new stores, net new stores. I think those are good. I provided the full graphic in the newsletter and they always have those tables that I'm not going to read off everything about if they hit

a certain percentage of whatever, and then they get the 100% of their base salary, stuff like that. You can go read that if you want. But I think seeing what they're targeting is the most important thing. And I like that you have the combination of EBITDA, same store sales and real estate growth and that's a good balance there. And then if you look at their long-term performance stock units, it is earnings per share targets. I think that is fine as well. Not perfect, but I don't think for a business that's going to reinvest a lot into capital expenditures, I don't think free cashflow per share is the ultimate metric here. I would maybe like not EBITDA, maybe EBIT would be better, but not the worst proxy I've ever seen.

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Let's hit earnings. Ryan, we said this is a very well-run business, really great margins, really great numbers. So what are they? What do they look like? Yeah. I'll talk just what's happened over the last decade. And then we can talk about how it's been heating up over the last quarter or so. But total revenue over the last 10 years has grown at an 11% CAGR or compounded annual growth rate. Part of that has been from store growth. So stores have gone from 785 locations to 1,525 locations. That's just over a 6% CAGR. And then comp store sales have grown at 6.3% on average.

However, it's really shot up in the last 12 months. And so if you exclude that, it comes down a bit more in like the 5.5% range. So really great top line numbers over a decade. Operating margins in this time have gone from 17% to 23%. And it has been very steady, just this gradual growth in operating margins over the years. Shares outstanding have declined by 33% in the last 10 years. So they've been just plowing a lot of that cashflow into buybacks, which combining all those things, you've gotten 19%, almost 20% annual earnings per share growth.

pretty damn impressive i almost i'm not i'm not accusing them but it is almost so smooth and such like steady growth that i'm like i get a little like i speculate a little bit like a little on a little how is operating margin consistently grown that much every year like what what are you doing yeah no no you have the back of your mind is saying is you have a little bit of concern that any company that's so consistent is are they under armor can't prove it right but there's a risk of that with everyone i don't think it's the case but right right yeah and there's such a popular concept there's all these people that are treasure hunting around them you know for the unique dollarama items uh the the i wouldn't even call them kosh con cost conscious but the

deal kind of people right kind of the same thing that goes on at costco but with a different concept i will say one concern a little bit given did you mention the recent quarter comp sales and given the margin expansion margins shut up and comp sales were record high i think it was up 15 and a half percent year over year in the most recent quarter stock has reacted i'd be worried that they're over earning a little bit in the short term i would be worried that's very good performance i'd be worried it comes back to earth yeah yeah i'm just worried about that yeah and trying to go through what's worked well part of it management says is people are trading down there's been a big inflationary environment

in canada for the last really two years i think similar kind of to the u.s and people have been pinched they're trading down and they're choosing to come to dollar emma locations the other part is they've introduced a $5 price point. So they've been, without directly raising prices, they've been raising prices or raising the average ticket that you get out of customers. So I do worry. I think that's going to be sustainable, but they don't give out next year's comp sales. Someone even asked, do you think you're going to have a bad year next year? And they're like, we have no clue. I like that. I like that. that's similar to here's what their management reminds me of.

And it's not a family run business. It reminds me a bit of auto zone, which I think is a good thing. Yeah. I, yeah, I think that's a fair comparison. The,

uh, I don't know that there really isn't a whole lot to report in terms of like this. They are having stellar, basically blow out earnings right now. The, They are probably over-earning on the margin side, but comps could go up next year and I wouldn't be surprised. They could still have positive comps.

They've had positive comps for a decade. And they asked a question on the conference call. They're like, in 2008 and 2009, you guys saw 7% or 8% comps. Is this environment like that? And they said, no, it's nothing like it at all. He said, we're a different business. It's different problems for the consumers. Well, it's inflationary versus deflationary.

Come on, analysts. Let's get on your game. Is it a deflationary bust versus an inflationary issue? Whatever. Do you want to hit the balance sheet? Yeah, sure. Let's go through it. I thought the balance sheet looked really good.

It's kind of interesting to look at the evolution of how they've run the business because from 2014 to 2019, they really pushed the leverage. They went from, I think it was 0.7 times their leverage ratio, which let's just call it net debt to EBITDA, 0.7 times to 3.1 times in 2016. Since 2016, they've basically kept it at between two and three times. So the debt is all senior unsecured notes fixed rate. So it's $2.2 billion dollars in total debt. For reference, they earn a billion dollars in EBITDA. The last 12 months, they've earned a billion dollars in EBITDA and they have 250 million in cash. The debt is mostly due after 2025 and has a weighted average interest rate of 3.3%. So they've done a really good job raising debt. They've actually been accumulating a little bit of cash relative to the end of last

year right now we're going to talk about valuation here in a second you could make the case that they could they should just accumulate cash and buy some treasuries would you would you agree there yeah yeah yeah the valuation has run up they've been in a fairly premium valuation for a while i think since 2016 um i would just check out a chart and there's a lot of sources that have it they've been around 20 it's dipped around dip below 20 a couple times but yeah i think buying back is okay maybe maybe just positive by that it's it's hard to tell it's really hard to tell but i would also mention the ev to ebit doesn't look crazy versus the historical average as a spoiler for valuation, it's at like 21. But again, like we mentioned, the margins are very,

very high. We don't know if that's sustainable. Yeah. I just think like, let's say you got like a 4% EBIT yield. So you're generating 4% of your market cap in earnings before your interest in taxes every year. i would think now it's kind of a tough balance because you don't just want to stop the buyback but i would think allocating a little more money to treasuries when you can get five five and a half percent it's not a bad way to go right now because and i i've put that out there before and gotten flack for it but we've seen visa do it right now they're they're still buying back but they're moving a little more of their mix to treasuries and i think businesses that have that

that constantly traded a premium i don't think it's a bad approach i guess as far as the rest of the balance sheet goes they lease all their locations so no real estate value um maybe they're whether you want to count operating leases as dead or not that's uh endless debate that people can have but make your own choice there yeah and it's an interesting maybe we should have talked about the operating leases a little bit i think they tend to do 10-year leases. Does the real estate environment in Canada, is that something people should pay attention to? Because if the landowners have to refi and it's at elevated rates, which this is one of the things about investing in Canada versus the US is I don't really understand

that side of the market. I know in the mortgage market, it's very different than the US. So if it's anything like that, maybe there's a chance that they're going to have to see increased costs in their lease obligations. Yeah. It's kind of speculative. Yeah. I've heard a lot of smart people that we know tell us that there's a Canadian housing bubble, but hey, hands up.

I don't really know. Anything else? No. Let's go through anything valuation you have. I mean, valuation, all I took was enterprise value, which added back a little bit of the debt. we're at about 28.7 billion uh and this is canadian dollars then if we're looking trailing 12 month operating income or ebit we're at about 1.3 billion in ev or uh in canadian dollars again

so we're at an ev to operating income of 21.6 if we kind of look at our friends at wide chart we're right at around the same number there and yeah i think that's a very interesting number for them because i don't know whether that's cheap or expensive which maybe we'll get to later uh all right anecdotal evans ryan well nothing really store wise because i'm not canadian i've never seen any of their locations i've haven't been to el salvador peru colombia or what's the other one i can't remember the other one guatemala i think uh haven't seen dollar city locations, but just in general, my gut feel about the company and the management team is I think they care about the long-term. You can see that in the fact that the current CEO

is the great grandson of the founder, and they've passed this down from family to family. The other part is I like the way they speak, and they just seem candid. They're not trying to optimize in the short term at all. So someone on the recent conference call asked about, they were like, well, what's the target for percentage of merchandise that'll be at the $5 price point, which just for the record, they're just trying to fill in their model, which the management team hated. They sarcastically responded to all the questions where it felt like the analyst was just trying to fill in their model. But he said, there's no target just to clarify the situation. There never was a target and there won't be a

target with regards to how many SKUs are in any given price point. It's fluid and it really is dependent on the offering. So if the next six months produces a fantastic, let's say, offering of $2 or $2.50 items, then that's the price point range that will grow. They are just looking for probably the most creative items that are going to get people in the store, but also they're kind of agnostic to the price just as long as they're generating a decent markup. Yeah. Yeah. And people might be concerned that it's a family business. Talk about the nepotism here. But I'd rather have this than a Harvard McKinsey. Maybe blowhard's the wrong term, but the one that just repeats the same stuff that we see from all the mercenary CEOs.

So my actual evidence, never been a concept. We live in the United States. i do have from our columb the columbian correspondent and investor friend we have i asked about it uh because he lives in an area that has them and he said i just asked if he's ever heard of it he said my wife shops there all the time grew like a weed during the pandemic grabbed a bunch of cheap mall leases that seem to be working out okay product quality is pretty good with the price point only complaint for the shoppers is a lot of merchandise is clearly from canada labeled in french slash english and often stuff that makes no sense like spring garden stuff even though we have no seasons here so probably some ways to improve there they do try to share

best practice like they talked about the partnership originally was dollarama trying to share best practices with dollar city maybe less maybe some of them don't all work so well yeah so maybe there's opportunity to grow and with dollar city and improve that model but it seems like it's fairly popular and i believe the cost of the new stores is very cheap like you're gonna need a lot more store count to to get there but yeah all right future growth opportunities are kind of hard here but you have the big one which is dollar city and we all know about just growing stores so maybe what are your thoughts on dollar city i yeah it's kind of hard to say because I know very little about the markets, but I imagine they're a lot further

away from market saturation than Dollarama's Canadian business. So right now they're added, or at least in the most recent quarter, they added 10 new locations to Dollar City. For reference, that's on a, I think it was a 440 location store base. So annualize that, they're growing at almost 10% store count. That's pretty fast. I like the growth of most of those markets, I would think. Latin America generally, I think is something I'm probably a little more optimistic about than some other investors. And so I would think that using the direct relationships they have with suppliers in overseas markets to better help a dollar store business in Latin America should work. And it should be a bit of an advantage relative to a lot of the mom and

pop players in those markets. Yeah. And the one thing you get concerned about when investing in these countries is you don't have boots on the ground. But I think the good thing about dollar store concepts or Dollarama is unique. It's got its own niches. And I'm sure Dollar city has copied a lot of that and they have their own niche as well but i think almost every market in the world that has some sort of level of income would benefit from a dollar store and there will be demand for that so i'm not concerned about hey they're just going after this market for international expansion and it's not going to work i think it works in the vast majority of markets around the world all right mine is going to be you know it's very hard to pinpoint outside a new

new store growth. I don't want to just say new store growth, but I want to reiterate an important point, which is the growth of the Canadian population, which is outpacing a lot of other markets, as well as the minimal competition. I think that helps with the reinvestment runaway in Canada. It'll help with same store sales growth, but those are very important numbers to consider given the valuation, which let's lead into the highlights and the lowlights before we close out here. Ryan, what'd you like, dislike about this business? i like the management team i i like the way they talk to investors i like the way they scoff at dumb questions not to be mean to the analysts but there were a couple times where the analysts asked

very specific stuff that it's like listen i'm filling out my model and management team was like there was one question where they said uh it's like what are comps going to look like last year And one of the managers was like, unfortunately, I can't see into the future, but if I had to guess, and it was just kind of like the sarcastic response, but I like the way they shut those down and talk about how it's, listen, we don't know everything that's going to happen. We're going to manage the business the best we can. We're going to make decisions that help customers, you know, help drive traffic and help the stores and whatever they think is best for the business long-term.

and that's what they've done the other part um they seem to have a strong brand in canada they've had a really good balance of store growth and positive comp sales the other thing that i like i love when management teams say i think we're gonna hit a thousand stores and then they hit it and they just raise their guidance they say i think we're gonna hit 1400 they keep expanding it i definitely prefer that approach over oh there's an endless possibility of the stores we can have. I would have... You think there's market saturation here because 85% of the population lives within 10 kilometers, but they keep adding new stores. I think they might be underestimating the number of stores they could have in Canada because it seems like they're

still profitable on their new store basis. Yeah. 40 million population versus what? 300 something million in the US. You kind of think how many dollar stores there are around here. we looked at dollar tree dollar general what we got tens of thousands of stores it's not the same exact concept but yeah there could be room for a lot more yeah i just think there's a lot of tailwinds uh low lights for me get rid of the related party transactions i don't think you need them and uh they might be over earning which could could actually be kind of a big low light yeah uh my thing yeah management's rock solid i like them minimal competition obviously like that as well and then the unique position they put themselves in kind of similar to a five below

where they keep big box competition permanently insulated or i worry a little bit about e-commerce because i think over the long term maybe it's hard you know with the the smaller price points it's hard for e-commerce but i think maybe over the long term it's fine but they are a good counterweight to the grocery run, the big box retailer, and they're competing less with them than a family dollar or a dollar general does, which is nice. And that's given really the consumables mix and stuff like that, which I think is a little bit more of an attractive business if you do it well. Lowlights, related party transactions. And then I worry a bit. Well, Ryan mentioned it might be bigger than we think, but I think the reinvestment runway in

canada is uncertain don't really know um all right bull case which one you're paying which one you're paying potentially 20 times is a big deal right so it's like yeah exactly that's i mean it's a positive in that they've continuously outperformed their expectations but it's not really a positive when you're potentially paying a pretty hefty multiple bull case i was kind of I forgot to do my math here, but they target 2,000 stores by 2031. That's a 25% increase over eight years. So really, we should not expect really steep store growth, especially at least in Canada. We can talk about Dollar City as kind of a different case.

But I put here the assumption 3% store growth, 6% comp sales, which is maybe a little high, but this is the bull case. operating margins stay flat. So 23%, it was a little higher this quarter, but it'll, let's, so I guess you could say it comes down, but 23% operating margins and they reduce share count by 3% annually. I didn't finish the math, but you're looking at probably 15 to 20% earnings per share growth, maybe 10 to 15, somewhere in there. So mid-teens. I would think if you're paying 20 times, 21 times EBIT, and you're getting 15% EPS growth, this is probably going to be an above market or double-digit return.

Yeah, I agree. Yeah, I say the same thing. An EBIT operating income above 20, I think you need to expect strong comp sales, strong store count, and margins stable. Now, comp sales and margins are related, we all know, but stock probably does well. bear case i'll maybe hit mine i think my two big concerns margin compression and low rs low return on invested capital in latin america and that's that's mine yeah that's maybe a concern for me is like i don't really know dollar city very well they don't give that much color about it in their

annual reports and it's potentially a growing part of the thesis here so maybe that's part of the bear case i would think margin compression or maybe just they're closer to saturation that store stores grow at two percent annually instead of the four or five percent they've had over the last year so or last decade it i think it's still limited but if you get margin compression you're probably gonna get a really kind of meager return which I don't know they also have the tailwinds

at their back as long as the population continues to grow it's going to help yeah for sure more or less interested Ryan as we close up more interested just really solid business well run not a monopoly but kind of feels

like a category leader at least the dominant leader yeah i do worry that like can a dollar tree just really put a lot more investment into canada that's what i yeah i worry about that as well yeah and underpriced them yeah i worry about the margins that's my biggest biggest concern maybe there's like a different merchandise or a different selection that's required in canada potentially that only dollarama knows the They do like the... Sometimes consumers prefer the local competitor versus the US kind of...

Yeah. I don't want to call things a compounder because I think it's a cop-out to just say, oh, this business has done well. It'll keep doing well. But I think you could have said at any point in probably the last five years, they're close to store saturation. How much can comp sales really grow by? Are they going to be able to expand margins?

and they've consistently done that gross margins have been in the mid 40s for 10 years i think they're going to be able to keep commanding high gross margins i think there's a lot to like here yeah i'm more interested i like i don't like retail concepts as much i like a discount so i'd rather have a discount with retail but i'm definitely more interested something something to keep on the watch list all right doesn't it surprise you oh the like people love the canadian growth businesses but no one no one talks about this one yeah less less talked about for sure all right next week we're doing an arch capital episode believe it's going to be on silicon motion but we've discussed audible in it we're not sure yet maybe it'll be a surprise maybe

it won't be some sort of arch capital episode it'll be a fun one let's hit the disclosure we are not financial advisors anything we say on the show is not formal advice or recommendation we are general partners at Arch Capital and clients may hold securities discussed in this podcast. Subscribe to the newsletter. Link is in the show notes to get all our notes, graphics, and sources for this episode. Thank you everyone for listening. We'll see you next time.