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Dollarama shares ride higher on double-digit growth

The market is putting a rich price tag on one of Canada's deepest-discount retailers.

Dollarama Inc. posted another quarter of double-digit growth Wednesday, by selling more to customers, raising prices and improving efficiency. But its fourth consecutive quarter of declining customer traffic raises questions about how long investors will continue to boost the premium they're willing to pay for the retailer's shares.

Since launching as a public company more than two years ago, Dollarama has made a habit of beating the Street's expectations, and investors are increasingly willing to pay up for the stock.

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The retailer's share price rose 3 per cent in heavy trading Wednesday, following news that profit increased 33 per cent on sales growth of almost 13 per cent last quarter.

The company's market value has surged 43 per cent, giving the firm a hefty valuation premium to other big retailers, including Wal-Mart Stores Inc., Canadian Tire Corp. Ltd., Shoppers Drug Mart Corp. and Loblaw Cos. Ltd. The shares trade at a hefty 22 times earnings.

While analysts say Dollarama has plenty of room for more robust growth, one disturbing trend has been a decline in customer traffic over the past year. In the three-month period ended Oct. 30, traffic slipped 0.1 per cent, following a 0.5-per-cent decrease in the second quarter.

The company said that it is focused on driving up same-store sales rather than just increasing the number of customers through each of its stores. While increasing traffic can help to drive same-store sales, a retailer can also boost its sales numbers by tactics such as raising prices. In the most recent quarter, 49 per cent of Dollarama's sales were generated by products sold for more than $1, compared with 40 per cent a year earlier.

"I think that at the end of the day what matters is your ability to increase your same-store sales performance and that can come from many sources," chief operating officer Stephane Gonthier said on an analyst conference call.

Dollarama's same-store sales grew 5.1 per cent last quarter, up from 4.7 per cent in the second quarter, the company said.

"It's very hard for a retailer to convince itself to spend money to invite more customers in when you deliver 5 per cent-plus of [same-store sales]" Mr. Gonthier added. "We're not concerned at all by this traffic count."

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Traffic trends generally have been weak for the Canadian retail sector, with Wal-Mart Canada, Tim Hortons and Reitman's all recently reporting declines, according to Keith Howlett, of Desjardins Securities. "In the context of a stubbornly weak retail environment in Canada, Dollarama continues to exceed market expectations and create value for shareholders," he wrote in a note.

However, Kenric Tyghe, of Raymond James Securities, said another rising discounter, Dollar Tree Inc. of Chesapeake, Va., reported last month that its same-store sales growth was driven by a 3.4- per-cent increase in traffic.

Last year, Dollar Tree acquired Dollar Giant, which has about 90 stores in Canada, and said it envisions as many as 1,000 here eventually.

Dollarama's chairman and chief executive officer, Larry Rossy, told the conference call that the company still has a distinctive product offering in Canada. "[But]we're keeping an eye on what Dollar Tree will be coming in here with as far as their mix goes."

Other potential headwinds for Dollarama include the rising cost of good real estate for opening new stores, higher transportation costs and a longer delivery time for products from China.

Dollarama opened 10 new stores during the quarter, bringing its total to 690 stores across Canada. Management said it remains on course to hit a target of 50 new stores in 2012 and intends to top that amount in 2013.

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