Discount Retailers Are Back In Fashion

Discount retailers are back in fashion

The somewhat surprising boost to the take-home pay for the country’s lower-income workers has done wonders for the discount retail industry.

Last month, discount king Wal-Mart Stores, Inc WMT posted a surprising rise in first-quarter revenue and said sales in existing stores would rise in the current quarter, a shift from the weak results seen recently by many U.S. retailers focused on middle-to-high-income population.

Wal-Mart executives said that the sales boost came from a combination of its heavy spending to draw consumers into its stores, better stocking of its shelves and its decision to boost the pay of its employees.

Discount chains get boost from higher wages and lower gas prices

Additionally, the discount chain also said it benefited from the relative strength of lower-income customers and broad shifts away from some products such as clothing. Wal-Mart gets more than half its U.S. revenue from food and groceries, an area that has been slow to shift online. Its sizable grocery sales make the company less dependent on apparel than many chains or department stores. Traditional apparel retailers like Gap Inc GPS and department stores including Macy’s, Inc. M and Nordstrom, Inc. JWN all recently disappointed investors with their quarterly reports.

While some of the country’s other top retailers reported a volatile quarter, Wal-Mart said the company didn’t see much spending peaks and valleys. “There is still a little bit of what I call an era of uncertainty with consumers in terms of how they spend their money,” said Wal-Mart Chief Financial Officer Brett Biggs, but wage increases and lower fuel prices are helping the company’s core customers.

Pay increases among Wal-Mart’s lower-income shoppers should continue to help to drive sales at discount retailers, according to Morgan Stanley analyst Simeon Gutman, who estimated that lower-income consumer wages rose 4 percent in the first quarter.

Wal-Mart, however, pointed out that its heavy investments in its stores and online sales operation to fend off Amazon.com, Inc. AMZN would hurt the company’s bottom line this year. The number of people visiting Wal-Mart stores rose 1.5% last quarter, but profit fell 7.8 percent.

Nonetheless, investors have shown optimism among discount retailers, bidding up Wal-Mart’s shares by nearly 11 percent in the past month. Wal-Mart has an 18 percent weighting in the Discount Nation motif, which has gained 8.4 percent in the past month. In that same time, the S&P 500 has risen 1.5 percent.

In the last 12 months, the motif has increased 2.8 percent while the S&P 500 is down 1.8 percent.

The motif has also received a boost from its most downscale components – the dollar stores. Late last month, both Dollar General Corp DG and Dollar Tree, Inc. DLTR both reported sales growth and higher traffic in their first quarters.

Dollar General’s CEO, Todd Vasos, cited the relative secure job situations for dollar-store shoppers, and suggested that they are likely feeling “a little more confident” and spending more on items like seasonal merchandise and home goods.

As the Wall Street Journal pointed out, dollar stores are smaller and located in neighborhoods closer to homes. They mostly sell a combination of basic staples such as rice, beans and toilet paper along with “treasure hunt” products like party decorations or children’s toys, often in smaller package sizes with low prices.

Now, these companies are making investments to offer a wider variety of products. Dollar-store executives have said they plan to expand their selection of discretionary products—those shoppers want but don’t need—like seasonal party decorations, home goods and beauty products.

This strategy suggests these discount retailers are confident that their core, low-income consumers will continue to have extra spending power in the foreseeable future and will put their purchasing power to work at their stores.

Based on the similarly strong first-quarter results from companies like TJX Companies Inc TJX and Burlington Stores Inc BURL, one can understand why investors of discount retailers are feeling optimistic.

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