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Dollar Stores are No Cheap Thrill for PE Firms


First Attempt at a Dollar-Bill Pig

Image by EricGjerde via Flickr

Dollar Tree, Dollar General, and Family Dollar:  These days’ private equity hedge fund companies are digging for dollar stores as if they were precious commodities.

Variety discount stores, of the single-currency kind, began to spring up in popularity during the early 1990s (although the discount industry itself first began shortly after World War II with the retail, E.J. Korvette, as being considered the first discount store in 1948) and since then, they have skyrocketed.  Today, there are some 35,000 variety stores across the country, and counting.

Present-day discount stores include such big-box merchandisers as Target, Big Lots, Wal-Mart, and Costco and while discount stores vary from variety stores in that they are a type of department store, only variety stores sell goods at a fixed price-point.  However, due to increased traffic of variety stores, such as those formerly mentioned, discounters are dealing with increased competition.  So much so that Walmart, the world’s largest retailer, is considering acquiring smaller stores to attract customers who prefer quicker trips, according to a Bloomberg report.

… And hedge fund companies have noticed big time.

Nelson Peltz of Trian Fund Management, a New York hedge fund with $2 billion in assets under management, attempted to make a takeover bid of Family Dollar for $7 billion-plus.  Trian, which already has a 7.9 percent stake in Family Dollar, offered to pay $55 to $60 a share, according to the New York Times.  Family Dollar, however, not only rejected the offer but immediately set up a poison pill by restricting the number of shares an investor can own to only 10 percent- Trian is currently its largest shareholder.  Afterwards, Family Dollar made the decision to lay off hundreds of employees in efforts to streamline cash flow to ward off further private equity hostility bids.

Dollar General, on the other hand, has Lone Pine Capital Management at its coat tails with Lone Pine raising its stake by more than 5 million shares in the retailer.  This puts the hedge fund at just under 4 percent of Dollar General in shares owned, which places them at just outside of the retailer’s top five investors, as noted by an investment online source.  Furthermore, this comes just two years after another private equity firm, Kohlberg Kravis Roberts (KKR), took Dollar General private in 2007 at a cost of $7.3 billion and later made public again in 2009.

Private equity firms also have its eyes on Dollar Tree but this retailer has what the others don’t:  Cost efficiency and tremendous growth potential.

Bloomberg stated in a recent report that, among all the national retailers (with the exception of Costco), Dollar Tree totaled the highest net cash of $220 million.  In addition, “Of the U.S. discount stores with more than $1 billion in market value, Dollar Tree also retained the most operating income for each dollar of sales. Its operating margin of 11.2 percent topped even Wal-Mart, which had a 6.1 percent margin.  Big Lots had a margin of 7.2 percent.”

Dollar Tree was also the first to reach the international market by acquiring Canada’s Dollar Giant Store Ltd. for $52 million late last year, which now leaves Dollar Tree with a market cap of 6.88B.  Also from the same article, “Dollar Tree’s shares climbed 225 percent from the end of 2007 through last year, outpacing Family Dollar, Big Lots and 99 Cents by an average of 108 percentage points.”

The hedge fund industry is a $2.5 trillion world-wide business, and, the United States is responsible for a majority of those assets.  Surveys show that there are 220 firms  in the U.S. that manage hedge fund assets of $1 billion or more with New York alone accounting for 128 of those firms.  According to PitchBook Data, an independent private equity-focused research firm, further data released on U.S. private equity funds include:

Ø  A total of $132 billion was invested by PE firms in U.S. companies [with more than $1 billion in assets] during 2010. This represents the fifth highest amount of capital invested by PE firms in one   year.

Ø  There were 1,467 completed U.S. private equity investments during 2010, a 10% increase from the 1,348 investments in 2009. However, deal flow remains well below the 2,998 deals that were done at the peak of the private equity boom in 2007.

Ø  Private equity exits (a sale or IPO of a portfolio company) totaled 475 for 2010, the third highest total, and at a record median sale amount for PE-backed companies of $228 million.

Ø  The increasing availability of debt has allowed PE firms to make larger acquisitions with 82 deals over $500 million in 2010, the third highest number on record.

Ø  Private equity firms currently own more than 5,000 U.S.-based businesses (ripe for acquisitions by corporations with excess cash) and have over $485 billion of raised capital to invest.

The first hedge fund implemented was in 1949 by Alfred Winslow Jones after he devised an investment strategy of leveraging (acquiring debt for the acquisition of assets) and selling short, or “hedging”.   However, the practice did not become popular until George Soros and William Buffet later, “adopted [in the late 1960s] Jones’ strategy and launched their own funds….”  (courtesy of HedgeCo.net)

Today, there are a variety of hedge fund investment strategies used by hedge fund managers.  While the term “hedging” is still used to define the industry, only about 5% of funds actually employ this strategy.  In fact, the EDHEC-Risk Institute, a premier European financial institute, conducted newly-released research on worldwide PE (buyout) investment performance and concluded that most PE investments are small equity-wise.  “The median equity investment is a mere $10 million.  The multi-billion-dollar deals covered in the press are in fact a small minority: only 10% of the investments in the sample [a database of 7500 investments recorded over forty years] involve more than $100 million of equity.”

So, however large or small, PE managers are grabbing the media’s attention with their investing approach: as is with the case of Trian Fund’s CEO, Nelson Peltz.   Known for his “get ‘em in and move ‘em out” tactic, Peltz’ aggressive, activist investment method uses pressure on corporate management to quickly expand and reduce capital expenditure for the purpose of driving up stock price to either make public again or sell off at a premium.

This approach has also made other investors notice as well.  The day after the announcement of Trian Fund attempting to buyout Family Dollar, the stock price soared 21% leaving many analysts to imply if, “Trian is serious about its offer or whether it just wants to drive up interest in the company, increasing the stock price and potentially netting itself a larger payout if someone else buys Family Dollar,” suggested the Charlotte Observer.

Whether the case or not, the key players in the variety store industry has amassed over $53 billion in revenue for 2010.  However, since all the fuss about Family Dollar and the potential buyout, analysts have downgraded the company from an “outperform” rating to “neutral”.  As for Dollar Tree, Bloomberg labeled it the “most profitable” amongst discount retailers for leveraged buyouts and Dollar General has since been upgraded.

The PE buyout trend of dollar stores is growing.  99 Cents Only Stores was recently made private by Leonard Green & Partners for $1.3 billion.  Low stock valuation from the market and large amounts of cash flow held on by company management, “make these companies [as noted by Reuters] attractive targets for companies and private equity firms hunting for buyout quarry.”


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