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Stocks A to Z / Stocks B / Berkshire Hathaway (BRK.A)
No. of Recommendations: 25
Dollar General at $155.00
TL;DR
Quickie forecast five year real total return inflation + 12.2%/year compounded.
Longer version:
Cheapo back of the envelope investment thesis (repeat of a post in a long thread at the Berkshire board)
As with most firms, they have some better-than-average and worse-than average years.
If you eyeball a smooth line through their history of earnings, you can get an idea of what the cyclically adjusted level might be.
Using that, and historical stock prices, you can get an idea of what the market valuation level was in the past.
The average cyclically adjusted earnings yield between 10 and 4 years ago equated to a P/E of 18.5
The average cyclically adjusted earnings yield in the last 4 years has equated to a P/E of 21.6, but let's ignore that.
I consider it a better-than-average firm with better-than-average prospects for growth in value per share.
On that basis, I am pencilling in a future price of around 18.5 times future cyclically adjusted earnings as "normal" for them. Even if the average is reasonably far from that, the variability of valuations in this industry pretty much ensures that this multiple will be hit from time to time.
How about a growth rate?
Sales per share have risen around inflation + 10.0%/year in the last five years. Let's reach into a sack of dice and say inflation + 6.5%/year seems possible for the next few years, as a stake in the ground for discussion purposes. If we assume that net margins remain unchanged from their currently below-average levels, the sales rate of growth is also the forecast for EPS growth.
They're making money at the rate of around $10.50 per share at the moment, so we start off our forecast by increasing that by inflation+6.5%/year.
We're assuming a 1/3 slowdown purely for conservatism.
One downside to remember:
Debt is about $7bn. Interest rates have risen. Interest cost per share was $0.96 last fiscal year (ended January 2023), and $0.68 the year before. Let's imagine a new level of $1.60/share cost for this and subsequent years. (that $1.60/share/year equates to an assumption of around 5% weighted average interest rate on $7bn balance on 220m shares outstanding) So, compared to current costs around a buck, we can knock $0.60 off future pretax earnings per share, which equates to knocking $0.46 from after-tax EPS. Their tax rate is quite high.
So we will remove that much from all our future EPS figures. e.g., next year might be $10.72 instead of the $11.18 that you'd get with 6.5% growth from current $10.50ish.
(Note, a debt pile is the one thing that inflation is good for. Since we're assuming the interest rates and costs will rise then stay flat, we are implicitly assuming that real debt will rise with inflation, not get eroded nor paid down at all--reasonably conservative)
So, working from all those numbers, and assuming (say) a five year hold, EPS would be $13.93 in five years (in today's dollars) and price would be $258 (in today's dollars). From today's price of $155, that would be a five year return of inflation + 10.70%/year compounded.
Add the dividend yield of 1.50%/year to get a real total return forecast over five years of inflation + 12.2%/year compounded before dividend and capital gains taxes.
Modify your assumptions to suit, but that seems like a very attractive starting back-of-the-envelope return.
I don't see many of the more common risk factors. No defined benefit pension plan. Debt is not a problem: the $7bn balance seems very moderate compared to the aggregate $8.7bn in cash flows from operating activities in the last 3 years. In essence, they don't ever need to roll: if their maturity is reasonably staggered, they could probably pay off every note out of current earnings as it comes due if they wanted to. They don't have bad credit card debt or bad receivables the way a lot of firms do. They are very geographically dispersed, so weather and climate risks are presumably diffuse.
Jim
No. of Recommendations: 2
DG is currently $131-132 in premarket, today's results have a significant drop in earnings per share.
No. of Recommendations: 3
Somebody has bought DITM $65 JAN 26 calls on the first day the contracts were available.
My guess is it is Jim, as he has often written about buying very long-dated DITM calls on stocks when they are deeply undervalued.
Jim, if this was your trade can you provide your usual calculation with implied interest rate on the amount borrowed.
Thanks.
No. of Recommendations: 11
This has now fallen to about $116. I posted what I think is a good write up on some of the problems plaguing the company in the DG board, which I suspect some here don't follow:
https://guastywinds.substack.com/p/dollar-general-...I have some serious reservations about the firm, and should probably know better than to try and predict retail, but a 55% drop from Nov 22 (when CEO Owens took over) builds in a lot of pessimism.
Consider the following back of the envelop assumptions, going forward:
Sales $37,845 (2022 sales, i.e., a likely underestimate)
Op. Margin 8.30% (a return to 2018 op margins, which were a pre-2023 low-point)
Income $3,141
Interest $337 (4 times 2023 2Q interest debt service)
EBT $2,804
Tax Rate 23.0% (2Q came in at 22.9%, 2022 was 22.5%, 2021 was 21.7%)
Tax Expense $645
Net Profit $2,159
Current Price / Share $116.08
Shares Outstanding 220 000 000
Proj./normalized EPS $9.81
Normalized P/E 11.8
If one conservatively multiplies the above earnings by today's multiple of forward projected earnings, i.e., about 15.2 (based on the midpoint of 2023 guidance, $7.60), that's still a price of $149.11, or about 29% from here.
The critical assumption, of course, is that operating margins return to something approximating their previous range in 2017 - 2019 (where they sat at 8.3% - 8.6%, subsequent to a long era of 9%+).
No. of Recommendations: 16
Nope, wasn't me, for various reasons.
I don't usually buy newly minted options the first week they are listed, as anecdotally I have perceived that it takes a few days for the market makers to settle into a groove.
And I haven't rolled any calls lately (they're January 2025) as there is no need yet. My last purchase was plain old shares.
But I'm happy to show the math on how I calculate the cost of the leverage.
This one is a little more complicated than my usual, as they pay dividends.
My usual method is to compare buying the stock to buying the call and exercising it on expiration date.
The two differences are how much cash is tied up from now till then, and the extra cost of tying up less via calls.
Stock closed at $109.76 yesterday.
I believe the NBBO bid/ask on the Jan 2026 $90 calls was 35.40 / 37.90
I therefore assume these calls could be bought for $37.30. (3/4 of the way up the gap, rounded up to the nearest nickel)
That gives a breakeven price of $127.30, which is $17.54 higher than simply buying the stock at close.
BUT, the buyer of a call is also foregoing regular dividends. (options buyers do get compensated for extraordinary dividends, don't worry about those)
Assuming the regular payout stays the same, as the options market generally does, you're missing out on 10 payments of $0.59, or $5.90.
Since I pay 30% tax on US source dividends, the amount foregone by me is 70% of that or $4.13. Adapt the rate to suit your personal situation.
We add that to the increase in cost of going with calls, so $17.54 rises to $21.67.
i.e., my breakeven price is $21.67 worse buying calls today and exercising them on expiry date, compared to buying stock today.
I'll ignore the quite small time value of money on the dividends themselves.
Now, buying the call means I only have to put up $37.30 in cash today, rather than the $109.76 I would have to cough up to buy stock.
So, my cash tied up (and incidentally maximum possible loss) is $72.46 lower.
Consequently, the extra price I'd be paying for options can be considered the [prepaid] interest on a loan of $72.46 for 847 days or almost exactly 30%.
Annualizing that linearly for simplicity, that works out to an annualized rate of 12.9%/year.
That is a huge rate to pay, so at the moment it probably makes much more sense simply to buy stock.
I deem it likely that the price will be a fair bit higher and the implied interest rates for any given strike a whole lot lower some time within a year or so, so you could switch from stock to calls at that time and have a much better breakeven.
As usual, no guarantees I did that match correctly, check each step : )
If you still wanted to buy calls but didn't want to pay quite that much, you might consider something needlessly fancy like a call ratio back spread.
e.g., sell at-the-money call(s) with lots of time value to (help) fund a larger number of away-from-the-money calls.
You lose a small amount of money if the stock price remains more or less unchanged, if it tanks you have a capped small loss or profit (depending on the calls you buy), but you still get unlimited upside.
Jim
No. of Recommendations: 0
$103.61 right now. Crazy. Either this will be a great stock story or something really bad, unseen by me, will rear its ugly head to destroy the biz.
No. of Recommendations: 0
No. of Recommendations: 3
Jim,
You mentioned on mungofitch.com that you're of the opinion that the DG results of late are of indicative of a bad year, and that DG is still a "wonderful firm" going forward.
I mostly lean to your confidence in the firm (though not without some minor reservations), and don't have any plans to exit my own holdings, but Mr. Market sure is blaring a contrary opinion on its forward prospects, on a mostly daily basis -- if there isn't a pop tomorrow, I think we'll be at 11 straight down weeks in a row, with about a 35% cut from your original post (when DG was trading at $155, before the Q2 surprise). About 62% percent of its highs last year. Pretty remarkable for a firm that makes quite in bit in profits, even in turbulent times.
You also mentioned on your site that you'd write more about it if you find the time, and I'd be interested in hearing your thoughts if you do find that time.
No. of Recommendations: 1
I'm going to take credit for the return of Vasos after hours pop, though the news may have been out by the time I hit post.
No. of Recommendations: 4
Lear -
You definitely bottom ticked this one
Not only that, but perhaps someone from the DG Board read your post --> and decided to call back the old CEO as a result ;)
