Will Dollar General's Shrink Improvement Drive Further Margin Gains?

Shrink improvement has been a meaningful driver behind Dollar General Corporation’s DG margin expansion. During the third quarter of fiscal 2025, gross margin expanded 107 basis points year over year to 29.9%, following a 137-basis point increase in the second quarter. Management attributed this improvement to higher inventory markups and lower shrink, partly offset by higher LIFO provision. DG registered a 90-basis-point shrink improvement in the quarter.

Shrink improvement exceeded internal expectations embedded in the company’s long-term financial framework. Management noted that progress has been faster than expected, strengthening the view that shrink is a durable margin lever rather than a short-term catalyst. DG informed that shrink gains were not limited to stores where self-checkout was removed. About 6,500 stores that never had self-checkout also posted meaningful reductions in shrink.

Inventory actions are reinforcing this trend. Merchandise inventories declined 6.5% year over year to $6.7 billion, or 8.2% on an average per-store basis. Management linked SKU rationalization, including the removal of more than 2,500 everyday SKUs over the past two years, to improved shrink. Dollar General pointed out that these actions have not impacted sales. We note that same-store sales rose 2.5% in the third quarter, supported by a 2.5% increase in traffic.

Dollar General expects further shrink improvement in the final quarter of fiscal 2025, although at a slower pace due to tougher comparisons, including lapping a 68-basis-point improvement from last year. We expect gross margin expansion of 50 basis points for the fourth quarter and 90 basis points for fiscal 2025. If Dollar General can sustain shrink improvements, the margin contribution could remain an important tailwind even as other drivers moderate.

What the Latest Metrics Say About Dollar General

Dollar General, which competes with Target Corporation TGT and Costco Wholesale Corporation COST, has seen its shares soar 87.3% in the past year compared with the industry’s rise of 4.6%. While shares of Target have declined 26.7%, Costco has fallen 4.9% in the said period.
 

From a valuation standpoint, Dollar General trades at a forward price-to-earnings ratio of 19.80, lower than the industry’s 29.44. DG carries a Value Score of B. Dollar General is trading at a discount to Costco (with a forward 12-month P/E ratio of 42.22) but at a premium to Target (13.26). 

The Zacks Consensus Estimate for Dollar General’s current financial-year sales and earnings per share implies year-over-year growth of 4.8% and 9.3%, respectively. For the next fiscal year, the consensus estimate indicates a 4.1% rise in sales and 9.1% growth in earnings.
 

Dollar General currently carries a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

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This article originally published on Zacks Investment Research (zacks.com).

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