Amazon.com's Latest Move Proves No Niche Is Safe From It

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The number of businesses considered immune from disruption by Amazon.com (NASDAQ: AMZN) is rapidly shrinking as the e-commerce leader pushes its boundaries. The latest niche to fall victim to a misguided sense of invulnerability: dollar stores.

Because of their deep discounts, convenience, and the treasure hunt atmosphere of discovery they offer -- as well as the cost and logistical issues around shipping such low-price wares -- it was believed Amazon would have a tough time poaching their customers. But Amazon is showing it's time to reassess our view of dollar stores' competitive moat.

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Getting back to its discount roots

Last month, the online retailer quietly opened a new segment of its platform under the banner "$10 & Under." Arguably, its main allure is that all the merchandise in it comes with free shipping -- and that's not limited to members of the Amazon Prime loyalty program. Anyone can load up on these cheap goods, and have them delivered for nothing.

The subsection offers a wide selection of choices, broken down into the same categories you'd find on the main site, such as women's clothing, men's clothing, electronics, home decor, etc. The company also just added a new section specifically featuring products for $5 or less.

While some view the new store as a salvo against Wish -- the discount shopping app that has shot upward from obscurity to become the sixth-largest e-commerce platform, with well over $1 billion in annual sales -- it may well be the brick-and-mortar dollar-store chains Dollar General (NYSE: DG), Dollar Tree (NASDAQ: DLTR), and Five Below (NASDAQ: FIVE) that have the most to lose.

Deep discounts, but deep profits too

Although everything in Dollar Tree stores sells for just $1 or less, its Family Dollar chain is not beholden to that price point, and most of its merchandise goes for $10 or less. Similarly, Dollar General says that 80% of its products are priced at $5 or less, and as its name suggests, Five Below sells nothing above $5.

The chains have proven that niche can be lucrative. Where much of the rest of retail is floundering, those deep discounters have consistently grown sales and profits.

Dollar General reported fiscal third-quarter sales rose 11% on a 4.3% rise in comparable-store sales, and its earnings rose 11% to $0.93 per share, despite a $0.05 per share hit it blamed on last fall's hurricanes. Dollar Tree recorded a 6% and 3% rise in sales and comps, respectively, for the period, but its earnings surged 40% to $1.01 per share.

Five Below, which has made an art of finding the next big fad and milking it -- think fidget spinners and Silly Bandz -- reported a 29% jump in sales, an 8% increase in comps, and an 80% rise in earnings per share.

Given those growing sales and profits, it was only a matter of time before the niche attracted Amazon.com's attention.

To rule all retail

Certainly, there were already a number of discount websites like Wish and Alibaba's (NYSE: BABA) AliExpress offering very low prices on all manner of goods (though shipping times can sometimes run into the weeks), but the arrival of Amazon.com at this end of the retail pool should be disconcerting to the deep-value retailers.

Amazon is already sucking the air out of the retail room. At Christmas, it accounted for 50% of all online sales, and as e-commerce consumes an ever-larger portion of the retail pie, expect Amazon to get the lion's share of the gains. That may sap the forward momentum that dollar stores are enjoying.

Shares of Dollar Tree and Five Below doubled in value from their summer lows before giving back some of their gains in the current market rout, while Dollar General share had risen 60%.

What this latest move by Amazon.com shows is that no industry should consider itself Amazon-resistant, let alone Amazon-proof. It should be a warning to businesses like Home Depot and Lowe's that are purported to have their own moats the online retailer would have difficulty crossing.

As Amazon.com enters the territory of the dollar stores by combining low-cost items with free shipping, the chains may find their profits pressured. They may also find that gains such as they've made in the past don't come so easily in the future. Right now, Amazon is making only a small foray into their niche, but it's one that investors in these deep-discount retailers would do well to keep an eye on.

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John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool's board of directors. Rich Duprey has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Amazon. The Motley Fool has the following options: short May 2018 $175 calls on Home Depot and long January 2020 $110 calls on Home Depot. The Motley Fool recommends Five Below, Home Depot, and Lowe's. The Motley Fool has a disclosure policy.

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