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4 Stocks to Watch as Shoppers Turn to Retail Discount Stores Amid Inflation

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A strengthening labor market, stepped-up vaccination drives and strategic endeavors undertaken at company levels are working in tandem for the Zacks Retail – Discount Stores industry. Moreover, the strategy to sell products at discounted rates has helped industry players draw customers, who are currently feeling the pinch of rising prices of almost everything.

Meanwhile, industry participants have been focusing on deepening engagements with consumers, adding more compelling products, and enhancing digital and data analytics capabilities. Constant efforts to enhance omni-channel operations have been working in favor of Costco Wholesale Corporation (COST - Free Report) , Target Corporation (TGT - Free Report) , The TJX Companies, Inc. (TJX - Free Report) and Dollar General Corporation (DG - Free Report) .

About the Industry

The Zacks Retail – Discount Stores industry comprises companies that offer apparel, accessories, footwear, beauty products, personal and baby care products, cleaning products, pet supplies, and food and beverage products at lower prices than traditional retail outlets. The industry participants also provide home textiles, home furnishings, housewares, arts and crafts supplies, toys, and seasonal décor products. These companies sell their products through stores, digital channels, or both. Some industry players operate membership shopping warehouse clubs, offering branded and private-label products in a range of merchandise categories. Well, most discount stores are gradually emerging as a one-stop shopping destination. The profitability of players depends on a prudent pricing model, well-organized supply chain and effective merchandising strategy.

3 Key Retail-Discount Stores Industry Trends

Consumers Seek Better Bargains: The strategy to sell products at discounted prices has helped industry players draw customers, who have been seeking both value and convenience amid rising prices. Under the current circumstances, people in the low-to-middle income groups have been showing a preference for discount stores to get quality products at reasonable prices. Clearly, a differentiated product range resonates well with customers’ spending habits. We note that demand is not restricted to a few categories, as was noticed when the pandemic hit the economy. The return to active social lifestyle, events and occasions has spurred demand across myriad categories. Industry participants have been focusing on deepening engagements with consumers, creating innovative and compelling products, and enhancing digital and data analytics capabilities. Moreover, companies have been offering the best deals to woo bargain hunters to make the most of the holiday season. With global supply chains in disarray, retailers are ensuring that they stock enough to meet the anticipated consumer demand for the festive season.

Digitization Key to Growth: With the change in consumer shopping patterns and behavior, industry participants have been evolving to play dual in-store and online roles. Apart from upgrading digitally, companies are coming up with unique products and better deals. Initiatives such as building omni-channel, coming up with loyalty and marketing programs, enhancing supply chain and providing faster delivery options, be it doorstep delivery, curbside pickup or buy online and pick up at store, are worth mentioning. Simultaneously, companies are investing in renovation, improved checkouts and mobile point-of-sale capabilities to keep stores relevant. Keeping in mind consumers’ product preferences and growing inclination toward online shopping, retailers have been replenishing shelves with in-demand merchandise and ramping up investments in digitization.

Pressure on Margins to Linger: Companies in the industry are vying for a bigger share on attributes such as price, products and speed to market. Further, the increasing dominance of e-commerce players has made the retail-discount space highly competitive. This has compelled a number of players to strengthen their digital ecosystem and boost shipping and delivery capabilities. While these endeavors drive sales, they entail high costs. Apart from these, any deleverage in SG&A rate, higher labor and occupancy costs, and increased marketing and other store-related expenses might build pressure on margins. Meanwhile, the impact of additional employee payments and benefits along with investments undertaken to preserve safety and health of customers and team members amid the coronavirus crisis cannot be ruled out. Well, the industry is currently dealing with supply-chain bottlenecks, rising freight charges and labor shortages. Inability to meet the demand, failure to restock inventory at fair prices or delay in getting the products delivered to consumers’ doorsteps could compound retailers’ woes.

Zacks Industry Rank Indicates Bright Prospects

The Zacks Retail – Discount Stores industry is housed within the broader Zacks Retail – Wholesale sector. The industry currently carries a Zacks Industry Rank #94, which places it in the top 37% of more than 250 Zacks industries.

The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates encouraging near-term prospects. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1. The industry’s position in the top 50% of the Zacks-ranked industries is a result of positive earnings outlook for the constituent companies in aggregate. Looking at the aggregate earnings estimate revisions, it appears that analysts are gradually gaining confidence in this group’s earnings growth potential. Since the beginning of 2021, the industry’s bottom-line estimate for the current financial year has jumped almost 18.2%. Notably, earnings estimates for the next financial year have moved up 14.3% during the aforementioned period.

Before we present a few stocks that you may want to consider for your portfolio, let’s take a look at the industry’s recent stock-market performance and valuation picture.

Industry vs. Broader Market

The Zacks Retail – Discount Stores industry has outperformed the broader Retail – Wholesale sector but underperformed the Zacks S&P 500 composite over the past year.
    
Stocks in this industry have collectively advanced 28.8% compared with the Zacks S&P 500 Composite’s increase of 29.3%. Meanwhile, the Zacks Retail – Wholesale sector has declined 6.6% in the said time frame.

One-Year Price Performance

Industry's Current Valuation

On the basis of forward 12-month price-to-earnings (P/E) ratio, which is commonly used for valuing retail stocks, the industry is currently trading at 25.71 compared with the S&P 500’s 21.82 and the sector’s 27.46.

Over the last five years, the industry has traded as high as 29.98X and as low as 17.93X, with median being at 21.31X, as the chart below shows.

Price-to-Earnings Ratio (Past 5 Years)

4 Retail Discount Stores Stocks to Keep a Close Eye On

Target: This general merchandise retailer has been making investments to enhance omni-channel capabilities, develop new brands, refurbish stores and expand same-day delivery options to provide a seamless shopping experience to customers. Markedly, Target has been making multiple changes to its business model to adapt and stay relevant in the ever-evolving retail landscape. The company is always striving to build on its partnerships, especially with popular and high-profile brands.

Impressively, Target has a trailing four-quarter earnings surprise of 19.7%, on average. The company has an estimated long-term earnings growth rate of 14.4%. The Zacks Consensus Estimate for its current-fiscal earnings per share (EPS) has risen 0.2% in the past seven days. We also note that shares of this Zacks Rank #2 (Buy) company have surged 40.2% in the past year. You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Price and Consensus: TGT

Costco: This Issaquah, WA-based company’s growth strategies, better price management, decent membership trends and increasing penetration of e-commerce business have been contributing to its performance. Cumulatively, these factors have been aiding this operator of membership warehouses in registering an impressive comparable sales run. Costco has been rapidly adopting the omni-channel mantra to provide a seamless shopping experience, whether online or in stores.

Costco has a trailing four-quarter earnings surprise of 7.7%, on average. It has an estimated long-term earnings growth rate of 8.6%. The Zacks Consensus Estimate for its current-fiscal EPS has moved up 1.8% in the past 30 days. Notably, shares of this Zacks Rank #3 (Hold) company have jumped 41.7% in the past year.

Price and Consensus: COST

The TJX Companies: This Framingham, MA-based company’s flexible off-price business model, store expansion strategies, strong vendor relationship and availability of branded merchandise provide tremendous opportunities to drive sales and traffic. This was evident from The TJX Companies’ stellar performance in third-quarter fiscal 2022, wherein both the top and the bottom line not only beat the Zacks Consensus Estimate but also grew year over year.

Impressively, The TJX Companies has a trailing four-quarter earnings surprise of 16%, on average. It has an estimated long-term earnings growth rate of 10.5%.  We note that shares of this Zacks Rank #3 company have risen 8.4% in the past year.

Price and Consensus: TJX

Dollar General: Better pricing, private label offerings, effective inventory management and merchandise initiatives have been aiding this Goodlettsville, TN-based company’s performance. These, along with a focus on consumable and non-consumable categories, are noteworthy. Dollar General has also been offering “better-for-you” products at affordable prices. Additionally, it has been expanding cooler facilities to drive the sale of perishable items. Moreover, initiatives such as DG Pickup and DG GO! mobile checkout aim to provide a convenient and contactless shopping experience.

Dollar General has a trailing four-quarter earnings surprise of 12.1%, on average. It has an estimated long-term earnings growth rate of 10.2%. Shares of this Zacks Rank #3 company have advanced 2.5% in the past year.

Price and Consensus: DG