RESTON, VA—Given its announcement earlier this year that it would close some 300 locations—admittedly, a small percentage of its total—and the likes of Carl Icahn urging the company to put itself up for sale, a major transaction of some kind involving Family Dollar Stores had been expected for some time, net lease experts at Calkain Cos. and the Boulder Group tell GlobeSt.com. However, the one that was announced on Monday—a merger with smaller competitor Dollar Tree in a deal worth $9.2 billion in stock and debt—wasn’t necessarily what everyone had anticipated.
“I’m not sure that everyone who was looking at tea leaves thought that Dollar Tree would be the acquirer,” Richard Murphy, managing director at Reston, VA-based Calkain, tells GlobeSt.com. “But clearly, people knew that Family Dollar was in play, and something was afoot.” A more likely acquisition scenario, though, would have involved either a large private equity firm or even the leading player in the dollar-store sector, Dollar General.
Randy Blankstein, president of the Northbrook, IL-based Boulder Group, isn’t so sure that a Dollar General takeover would have been in the cards. For one thing, he tells GlobeSt.com, there would likely have been considerable overlap in a given trade area between the two retailers. By contrast, “Dollar Tree and Family Dollar have different business models, so there will be less overlap as far as redundant stores are concerned.”
It was a point made by Dollar Tree CEO Bob Sasser on a conference call Monday to discuss the pending merger. Dollar Tree takes its name quite literally—everything sold there costs $1—while the price points at Family Dollar vary more widely, with the result being a broader range of merchandise. The two chains, Sasser said, therefore “co-locate really well.”
Another difference between the two chains, say Blankstein and Murphy, is the choice of location. Dollar Tree tends to operate in strip centers, while Dollar Trees tend to be freestanding. With that in mind, says Blankstein, the combined entity will likely “eliminate obvious redundancies, and then figure out how to best compete with Dollar General and the newer entrants, like the smaller-format Walmarts.”
Murphy says that while it’s difficult to say exactly how the merged company will move in terms of either store closings or openings, the fact remains that “there’s a lot of dollar stores on the market right now. It will be interesting to see, when it comes time for 1031 season, how much of that inventory gets swallowed up.”
More specifically, he says, “there are the obvious concerns” that would-be investors are likely to have over the Family Dollar locations that are up for sale. “Presumably, there will be some number of stores that overlap in some markets. If I don’t know exactly where that’s going to shake out, I’m going to be very hesitant to buy a lot of those Family Dollar stores.” On the other hand, he says, “it doesn’t take a lot of research to be able to figure out which markets have both Family Dollar and Dollar Tree, so you can determine pretty quickly where there might be an overlap.”
Moreover, says Jonathan Hipp, Calkain’s president, “Any good retailer should be closing the bottom 10% of their stores anyway. Starbucks did it five or seven years ago, and at the time it was a big deal. But five or seven years later, you can see it was the right move for them to make. They trimmed their fat, they slowed down their expansion a little and they’re a better company for it.”
In recent research reports, both Calkain and the Boulder Group have charted the cap rate compression the sector. Calkain, for instance, cited an 82-basis point compression in dollar store cap rates between April and May of this year, the greatest compression of any net lease retail sector. Blankstein thinks the merger should help matters in this regard, because “The biggest concern hanging over the dollar-store sector was oversupply and oversaturation.” With the field of competitors vying for market share winnowed from three to two, “there should be healthier growth going forward, maybe driven more by customer demand than gaining market share by blocking your competitor, which is where a lot of the growth had come from.”
By comparison to other classes of net lease retail, ownership of the dollar-store sector is relatively fragmented. American Realty Capital Properties, largely by virtue of its acquisition of Cole Real Estate Investments, is the largest REIT owner in the sector, yet dollar stores represent a small percentage of its total asset count. Yet while Murphy agrees that “among 4,000 dollar stores, you might have 2,000 different owners,” he says a handful of institutional owners may own 100 or so such properties apiece.