Why I Don’t Believe the Dillard’s, Inc. (DDS) Story

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In many ways, Dillard’s, Inc. (NYSE:DDS) seems like the perfect stock. During the Great Recession, Dillard’s, Inc. (NYSE:DDS) stock briefly plunged below $3. Now it trades for more than $90, meaning that shareholders have received a better than 3,000% return in less than five years.

DDS Chart

Dillard’s 5-Year Price Chart, data by YCharts.

Dillard’s, Inc. (NYSE:DDS) gains have been driven by solid earnings growth, which most analysts expect to continue. However, I think that Dillard’s is setting investors up for disappointment. The company’s revenue momentum has dissipated, and the department store sector will remain as competitive as ever going forward. Accordingly, I expect Dillard’s strong run to end this year.

Dillard'sSales momentum slows
The primary driver of Dillard’s, Inc. (NYSE:DDS) strong stock performance over the past five years has been an improvement in sales. Comparable-store sales rose 3% in 2010, rose by another 4% in 2011, and then rose by 4% again in 2012. This appears to indicate strong momentum, but a closer look at quarterly results reveals a deteriorating trend.

Dillard’s posted comparable-store sales growth as high as 5% in third-quarter 2012. As I have argued previously, Dillard’s probably benefited from last year’s sales meltdown at J.C. Penney Company, Inc. (NYSE:JCP), one of the largest mall-based department stores. With shoppers abandoning J.C. Penney Company, Inc. (NYSE:JCP) in droves last year, Dillard’s, Inc. (NYSE:DDS), Macy’s, Inc. (NYSE:M), and other similar retailers experienced a nice sales tailwind.

However, comparable-store sales growth slowed to just 3% in the fourth quarter last year. This caused a brief correction for Dillard’s stock before it began marching higher again. Finally, Dillard’s comparable-store sales grew by just 1% in first-quarter 2013. The company outperformed on gross margin, which rose from 38.8% to 39.9%, enabling Dillard’s to beat the analyst consensus for profit. However, with gross margin approaching 40%, it will be difficult to drive further profit growth through margin expansion alone. Sales growth will be needed.

The slowdown in sales growth is particularly troubling because Dillard’s did not face as much of a negative impact related to weather as other competitors, since most of its stores are located in the South. By contrast, Macy’s faced a bigger weather-related impact but continued to post strong growth, with comparable-store sales up 3.8% last quarter. If Macy’s continues to gain market share from Dillard’s, it will be better able to leverage its fixed costs, making it harder for Dillard’s to compete.


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