99 Cents Only's Strong Results

A Discount Retailer to Put on Your Watchlist

Today, 99 Cents Only Stores (NDN - Snapshot Report) reported strong results for its fiscal fourth quarter. NDN's revenue rose 13%, to $329.2 million from $290.5 million, while same-store sales increased 6.2%. The company earned $7 million, or $0.10/share, up from a loss of $4.4 million, or $0.06/share in the year-ago quarter. The Zacks consensus called for sales of $317 million and EPS of $0.05.

The earnings upside was due to product margin improvements and cost-cutting efforts. Compared to the fourth quarter of 2008, NDN's gross margin rose 210 bps to 39.9%; selling, general and administrative expenses (excluding depreciation) as a percentage of sales fell 360 bps; and its operating margin increased 630 bps to 3.0%. These results include the company's operations in Texas, which the company is in the process of exiting. The company's operations outside of Texas were even better.

Looking ahead, the company believes it can increase its gross margin to 40.5% and its operating margin to at least 5% by fiscal year 2012. Based on annual sales of $1.45 billion, the company would have earnings power of $0.70 per share. That is an over 200% increase in earnings per share from fiscal year 2009.

We think that EPS forecast could turn out to be conservative if the company decides to increase its store openings more than expected in the next few years. The retailer currently operates 271 stores in California, Arizona, Nevada and Texas, where it is still has 34 stores.

While we wouldn't chase the stock here (it is up about 16% after its fourth quarter earnings release), we would become more positive on the stock after a decent pullback.

In our view, 99 Cents Only Stores should be able to deliver higher earnings growth than most of the stocks in retail industry. That growth will come from a growing trend of consumers looking to become more frugal and trading down to lower-cost alternatives of the things they need to buy. Other stores that will benefit from this trend toward frugality include Big Lots (BIG - Snapshot Report), Dollar Tree (DLTR - Snapshot Report) and Family Dollar (FDO - Snapshot Report).