Dollarama Inc.: Do Q2 Results Make it a Buy?

Dollarama Inc. (TSX:DOL) is growing incredibly fast, but its debt could come back to haunt it. Invest in this stock, but be careful of the risks.

| More on:

It has been an amazing ride for investors of Dollarama Inc. (TSX:DOL) since the company went public back in 2009. The stock has appreciated by 1,332%, which is truly an amazing return on investment. And along the way, the company has been consistently boosting the dividend with six consecutive years of dividend increases. Dollarama is no dividend juggernaut, but dividend increases are always appreciated.

Dollarama recently released its Q2 2018 results, and they were incredibly strong, pushing shares up over 13% in the days that followed the release. The question we must ask is simple: Do these results make the stock a buy, or is it already too overpriced?

The company did $812.49 million in sales, up 11.5% from a year earlier. Dollarama’s operating income was up 24.1% to $191.91 million, in part because of a 240-basis-point improvement in operating margin. Further, it expanded its number of stores from 1,051 to 1,125 and boosted its compared store sales growth by 6.1%. The reality is simple: Dollarama is executing incredibly well.

Dollarama also provided an enhanced guidance, demonstrating even greater potential growth. It will add an additional 60-70 stores and expects to see the EBITDA margin of 22.5-24%, up from 22-23.5% in the original guidance. Although capital expenditures are going to be slightly greater, the margin should offset that.

This growth is necessary, because if it can continue to generate strong comparable store sales growth while also adding new stores to its portfolio, sales will continue rising. And if it can keep its margins as strong as they are, earnings (and dividends) should continue to grow.

So, the company is obviously a buy, right? Not exactly…

All of this growth comes at a cost. The company currently sits on $1.4 billion in long-term debt, which increased from $1.27 billion as of January 29, 2017. To make matters worse, the shareholders’ equity is currently a $59,388,000 deficit, which means that, technically, shareholders owe money. A year ago, debt accounted for 56% of Dollarama’s assets; now it’s 78%.

On top of that, financing costs continue to rise. Last year, the company spent $7 million in the quarter, but this year, that had grown to $10 million. Although it is not a significant amount of money, as the company continues to expand, these financing costs are going to grow. And, if interest rates rise much higher, the financing costs could become a burden on Dollarama.

We need to decide if Dollarama can grow faster than its debt obligations, thus allowing the company to pay it off. We’ve seen many fast-rising stars that used debt to pave the way inevitably crater.

Here’s where I stand: it has been an amazing journey for Dollarama, and that journey doesn’t appear to be slowing. So long as the debt remains manageable, this stock should continue to rise. And based on expected earnings per share, it is not terribly overpriced. Nevertheless, you have to accept there are risks associated with owning Dollarama. Investors are ecstatic with the amount of growth this company has experienced, but it will need to execute flawlessly if that growth is going to continue.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Jacob Donnelly does not own shares in any companies mentioned in this article. 

More on Investing

Dividend Stocks

The 2 Best Canadian Blue-Chip Stocks to Buy Now

Blue-chip stocks can be some of the best stocks to have in any portfolio. But when they're trending upwards, investors…

Read more »

Canadian dollars in a magnifying glass
Dividend Stocks

Here Are My Top 3 Dividend Stocks to Buy Now

These top dividends stocks have consistently paid and increased their dividends. Further, this trend will continue.

Read more »

Lights glow in a cityscape at night.
Investing

Canadian Infrastructure Stocks to Buy Now

These two Canadian infrastructure stocks offer interesting investment opportunities whether you’re focused on income or price appreciation.

Read more »

A plant grows from coins.
Tech Stocks

3 Growth Stocks Wall Street Might Be Sleeping on, But I’m Not

Don’t miss your chance to load up on these three beaten-down stocks.

Read more »

tsx today
Stock Market

TSX Today: What to Watch for in Stocks on Tuesday, November 5

Updates related to the U.S. presidential election will remain on TSX investors’ radar today as the third-quarter corporate earnings season…

Read more »

think thought consider
Tech Stocks

Is CGI Stock a Buy Even With No Dividend Yield?

CGI stock may not have a dividend to speak of. But does that necessarily mean you should ignore this top…

Read more »

A robotic hand interacting with a visual AI touchscreen display.
Tech Stocks

Why Now Is the Time to Invest in Canadian AI Stocks

Are you looking for one of the most solid Canadian AI stocks out there? This one is probably your best…

Read more »

The letters AI glowing on a circuit board processor.
Tech Stocks

Why AI Stocks Should Be in Every Canadian Investor’s Portfolio

AI stocks continue to be one of the best options out there for long-term investing, especially when considering Canadian options.

Read more »