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Dollarama store at Front St. East in downtown Toronto.

Fred Lum/Globe and Mail

The seemingly invincible Dollarama Inc. has reported disappointing third-quarter financial results as profit margins declined for the country’s largest dollar-store chain, which has resisted raising prices in the face of increasingly stiff discounter competition.

The Montreal-based retailer said on Thursday that fewer shoppers were coming to its stores – almost 1 per cent fewer transactions than a year ago – for the third consecutive quarter and its gross profit margins slipped to 38.9 per cent of sales compared with 40.1 per cent a year earlier.

“Retailers have been more reluctant in passing on rising cost to consumers in recent quarters,” said Neil Rossy, chief executive of Dollarama and the son of the founder. “During this time, we have limited our pricing changes."

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The company has been a stock-market darling since it went public in 2009 – and still an overall strong performer – but Dollarama’s results this year reflect a slowdown in its stellar growth amid lofty investor expectations that it would keep posting standout financial gains.

Investors seemed rattled on Thursday. Shares of Dollarama fell almost 12 per cent to $33.33 on the Toronto Stock Exchange and have slid more than 35 per cent this year.

In its third quarter, Dollarama’s sales at existing stores, a key retail measure, climbed 3.1 per cent, which would be the envy of many other retailers, but that compares with a rise of 4.6 per cent in the same quarter a year earlier. The number of transactions – or traffic to stores – dipped 0.9 per cent while the average transaction size (or spending) rose 4 per cent, not quite reaching the 4.5-per-cent increase of a year earlier.

“It’s not that they can’t continue to grow, but they’re going to grow at a slower rate going forward than they have in the past,” said analyst Brittany Weissman at Edward Jones, which remains bullish on the stock.

Irene Nattel, retail analyst at RBC Dominion Securities, which also recommends buying Dollarama stock, said its third-quarter results were solid “although not as squeaky clean as investors might like.”

The results followed criticism of the retailer in late October by New York investment firm Spruce Point Capital Management LLC, which is known as an activist short seller. It raised concerns about “serious fundamental headwinds” and unachievable growth targets.

Ben Axler, founder of Spruce Point, said on Thursday that Dollarama’s latest results validate his firm’s concerns. The results “are not just indicative of a one-off quarterly shortcoming, but suggest broader underlying problems connecting with customers,“ he said.

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About two years ago, Dollarama raised its highest price to $4 from $3 to help offset steeper costs, a move that some observers say may be scaring away some customers at a time when the chain is feeling rising pressure from rivals. Discount giant Walmart Inc. and other dollar stores are key competitors, Mr. Rossy said. U.S. rival Dollar Tree, which sells everything at a fixed price of $1.25, is expanding in this country.

“It’s been said that we are no longer a dollar store but, in reality, we still have a ton of less than a dollar, $1 and $1.25 items,” Mr. Rossy told analysts on a conference call.

In the next year or so, Dollarama will make an effort in its stores to highlight products that are $1.25 and less, he said. Having lower-priced merchandise is crucial for the chain, he said. “There are and will always be a percentage of our customers that rely on the lowest end of our retail pricing as well as those who have the luxury to enjoy the higher end.”

He said the retailer is considering charging different prices in different regions. But while traditional retailers often have up to 10 pricing “zones,” Dollarama would probably have just two – urban and rural, he said.

Dollarama has other ways to “engineer” products to fit within acceptable prices, he said. For example, if a 10-pack of pencils costs $1.25, and the wholesale cost of pencils rises, the chain could – instead of charging $1.75 for 10 pencils – offer eight pencils for $1.50 or six for $1, he said, providing a hypothetical example.

Or if the price of plastic increases, Dollarama could have its bowls made thinner to “get to a price point that still makes sense,” he said.

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Analyst Peter Sklar at BMO Nesbitt Burns questioned whether Dollarama could reach its goal of 1,700 stores – up from 1,192 – even though the number of customers coming to the stores dropped for three straight quarters. Michael Ross, chief financial officer at Dollarama, countered that its sales at existing stores are still rising, although not as fast as previously. “You don’t need 4- to 5-per-cent same-store sales to justify the 1,700 stores that we’re talking about,” he said.

Mr. Ross also tied fewer shoppers coming to stores in the quarter to some Halloween sales having shifted to the fourth quarter and more credit-card transactions, which result in fewer but bigger purchases.

In its third quarter ended Oct. 28, Dollarama’s profit rose 2.7 per cent to $133.5-million or 41 cents a share. Analysts on average had expected the company to post a profit of 42 cents a share, according to Refinitiv. Sales rose 6.6 per cent to $864.3-million but missed analysts' average estimates of $872.6-million.

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