Dollarama: It’s a wonderful business but…

(This is not an actionable idea.)

Dollarama’s stock has performed phenomenally well since its IPO.  The underlying business has grown its profits as fast as Salesforce has grown its revenues.  Their returns on invested capital are phenomenal (see my post on dollar stores).

Yet I cannot get past the company’s self-dealing with members of the Rossy family and how the financial statements don’t add up.

Quick history of the company

Insiders sold part of the company to Bain Capital in a leveraged buy-out in November 2004.  Dollarama has various filings with the SEC relating to the debt issued in this transaction.  On October 2009, Dollarama IPOed on the TSE as Bain Capital wanted to sell down its stake in the retailer.  Dollarama has numerous filings that you can access via SEDAR.

Dollarama’s “Real Property Leases”

Dollarama’s lease payments to insiders have grown from $3.6M in 2004 to $15.5M in 2013.  The payments have grown roughly 17.6% annualized:

2004 – $3.6M (S-4)
2005 – $4.1M, $3.9M (S-4)
2006 – $5.473M or $5.1M (S-4): 11 stores, 3 warehouses and 1 distribution center
2007 – $7.55M: 17 stores, 3 warehouses and 1 distribution center
2008 – $8.522M
2009 – $9.5M: 18 stores, 5 warehouses and 1 distribution center
2010 – $9.8M: 18 stores, 5 warehouses and 1 distribution center
2011 – $10.8M (2011 MD&A) or $14.7M (2012 MD&A): 18 stores, 4 warehouses, 1 distribution center, and head office
2012 – $15.1M: 18 stores, 4 warehouses, 1 distribution center, and head office
2013 – $15.5M: 19 stores, 4 warehouses, 1 distribution center, and head office

Over the years, the amount of real estate involved in related party transactions has gone up.  The number of buildings leased from insiders have gone up.  Operations in one of the warehouses may have moved from a 239,180 sqft warehouse in Montreal to a 325,000 sqft warehouse in the Town of Mount Royal (also in Montreal).

To be fair, these payments may be at fair market rates.  But there is really no way for me to tell.  The company does not provide the location and square footage of the real estate involved.  At some points in time, the SEDAR filings state that the company is paying for 5 warehouses yet the Annual Information Form states that the company is using 4.  I have no idea what the fifth warehouse did or does.

Some of the numbers don’t add up (!!!)

How much were paid to related parties for leases in 2011?  The 2011 MD&A says $10.8M.  The 2012 MD&A says $14.7M.  I could not find an explanation for the discrepancy.

The 2012 MD&A states:

We currently lease 18 stores, four warehouses, our distribution center and head office from entities controlled by Larry Rossy, pursuant to long-term lease agreements. Rental expenses associated with these related-party leases are established at market terms and represented an aggregate amount of  approximately $15.1 million for Fiscal 2012, compared to $14.7 million for Fiscal 2011.

The 2011 MD&A states:

We currently lease 18 stores, four warehouses, our distribution center and head office from entities controlled by Larry Rossy, pursuant to long-term lease agreements. Rental expenses associated with these related-party leases are established at market terms and represented an aggregate amount of approximately $10.8 million for Fiscal 2011.

The head office

dollarama-head-offices

Their HQ is nice and shiny. The building in the back may be Dollarama’s 325k sqft warehouse.

I believe that Dollarama moved into its new head offices around the end of fiscal 2008:

We plan to move our head office and increase our warehouse capacity. A new head office and warehouse are currently under construction on a site located only a few blocks away from our current head office. This new building will increase our warehousing capacity by approximately 325,000 square feet. We plan to move in to our new headquarters by the end of fiscal 2008.

If you look at the SEDAR filings for information on the “Real Property Leases”, that particular section doesn’t mention the head office until the filings for YE2011.  The management information circular for YE2010 states:

The Corporation currently leases 18 stores and five warehouses and the distribution center from entities controlled by Larry Rossy, pursuant to long-term lease agreements. Rental expenses associated with these related-party leases are established at market terms and represented an aggregate amount of approximately $9.8 million for the fiscal year ended January 31, 2010.

The management information circular for YE2011 states:

The Corporation currently leases 18 stores, four warehouses, its distribution center and its head office from entities controlled by Larry Rossy, pursuant to long-term lease agreements. Rental expenses associated with these related-party leases are established at market terms and represented an aggregate amount of approximately $10.8 million for the fiscal year ended January 30, 2011.

This is confusing.  My best guess is that Dollarama has always been paying members of the Rossy family for the use of the new head offices after it moved in (e.g. close to the end of fiscal 2008).  I guess they simply chose not to mention the lease on the head office???  Dollarama’s management should be extremely familiar with the property considering that the AIF for YE2010 states that Neil Rossy led the design of the head office:

Neil Rossy is a member of our Board of Directors. Mr. Rossy joined Dollarama at its inception in 1992 and currently serves as Chief Merchandising Officer. He led the design and construction of the Dollarama warehouses, distribution center and head office. Mr. Rossy is responsible for store design, merchandising, product development and special projects.

I feel like something does not add up here.

Why was there a large jump in payments from 2010 to 2012?

I have no idea.  From what I understand, legitimate leases would not create situations where the lease suddenly jumps by almost half.

Perhaps there is a legitimate explanation.  But I wouldn’t know because the financial statements don’t say.

Do the related party transactions make business sense for shareholders?

I wouldn’t know.

The onus should be on Dollarama management to be transparent about their self-dealing.  Why is Larry Rossy, Dollarama’s CEO, in the business of leasing real estate to Dollarama?  I think that he should have taken the initiative to provide shareholders with an explanation.

Over the years, Dollarama has been leasing more and more real estate from insiders.  This is not behaviour that is consistent with people of high integrity.  Somebody with high integrity would try to minimize the magnitude of related party transactions.  They would do their best to align their incentives with shareholders.  They would not intentionally create situations where they sit on the opposite side of their shareholders in business deals.

The bottom line

I was strongly considering buying Dollarama stock.  Unfortunately, the financial statements and self-dealing didn’t make sense to me.

I emailed Dollarama’s CFO (Michael Ross) on Feb 1 but did not receive a reply.  So let’s see what regulators have to say…

(EDIT:  The lautorite.qc.ca website is incredibly frustrating and does not list a valid email where they can be contacted.  It is incredible that they do not want to be reached via email.  Should I even bother?)

*Disclosure:  No position in DOL.TO.

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One thought on “Dollarama: It’s a wonderful business but…

  1. Pingback: Dollarama: The low-tech retailer that could – Glenn Chan's Random Notes on Investing

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