Trian Fund Management bought about 669,000 shares of Family Dollar (NYSE:FDO) last November, attractively valued at $37 to $39 per share. Ed Garden, co-manager of the fund along with his father-in-law Nelson Peltz, has been a member of the company’s board of directors since late September 2011. This purchasing activity came several months after the fund submitted a take private bid for Family Dollar, valuing the company at at least $7 billion. Trian has a robust set of holdings that includes Wendy’s (NASDAQ:WEN) and Kraft Foods (NYSE:KFT) (You can view Trian’s holdings here).
As of March 31, Trian is the largest institutional shareholder of Family Dollar, owning about 8 percent of the company. Between July 10 and 11, Trian sold a total of 597,000 shares of Family Dollar at a price of around $70. Trian’s transaction over the past year has been an honest bargain, and I think it reflects the company’s active involvement with Family Dollar.
With his Pershing Square fund holding about 2.6 million shares of Family Dollar as of March 31, Bill Ackman has also been a champion for the company’s shares, recommending them during his presentation at the Ira Sohn conference last year (This very interesting transcript is available here). During most of Ackman’s purchasing activity, Family Dollar shares were trading at 14 times earnings, whereas they are now pushing 20 times lagging earnings.
Ackman’s investment thesis for Family Dollar was compelling: It was a $6.5 billion market cap business initiating a $750 million share buyback, and the company boasted (and continues to boast) an excellent return on capital of 20 percent. Add in the fact that Family Dollar has yet to saturate its market (it can build more stores) and serves the needs of its clientele more conveniently than behemoths like Wal-Mart (NYSE:WMT), and you have a winning investment. But is it still worth a buy?
There’s more to the valuation story. Family Dollar shares are trading at 0.9 times sales, which is lower than both Dollar General (NYSE:DG) and Dollar Tree (NYSE:DLTR), whose shares are trading at 1.2 and 1.8 times sales, respectively. So, compared to its peers, Family Dollar’s share price does not fully reflect the company’s overall sales momentum. Indeed, most on the Street expect same-store sales to increase by about 5 percent in 2012, and this sales will likely increase by more than 5.5 percent in 2013 as the company’s stores introduce more low-margin draws like Pepsi (NYSE:PEP) products and cigarettes.
Though some are exceptionally optimistic about the company’s decision to sell cigarettes, I have my reservations–cigarettes are a rather expensive item in a store with an average transaction size of $10. Such measures, however, are meant to counteract the fact that, over the past four quarters, Family Dollar has been undergoing contracting margins. Though sales volume has picked up, it is not accounting for this margin crunch.
Since 2011, net profit margin for the Family Dollar has been about 4.5 percent, and it is not expected to pick up significantly in 2013. Dollar General, on the other hand, is making considerable strides to cut costs, with net profit margin increasing to 5.2 percent in 2012, up from 4.8 percent in 2011. Dollar Tree’s net margin increased to 7.3 percent in 2012, steadily up over the past two years. Dollar Tree has had a flurry of insider sales since April, including COO Gary Philbin and director Ray Compton. John Griffin’s Blue Ridge Capital has a notable long position of 1.9 million shares of Dollar Tree (view Griffin’s portfolio here).
With Trian’s sale and with generally weak margins, I would hesitate on initiating new positions in Family Dollar. Insiders have not bought Family Dollar at above $53 in the past two years, which might make a $68 entry point somewhat intimidating. However, the company will be holding its investor webcast conference on July 18th, during which time we will have a better sense of management’s long-term strategy to continue Family Dollar’s excellent price growth over the past four years.