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Now, I have heard from our colleague Buck Hertzl about this, and he's done a lot more work on this than I have. I think he's right in that removing this anchor from Dollar Tree. Might unleash them because even if it's only a billion dollars, if you can take that billion dollars and use it to pay off even more debt and get, you Dollar Tree a bit unlocked, a bit more unleashed, we might see a much different and much more valuable Dollar Tree in the market. So I'm a bit more optimistic about this. Remember, over the last year, about a billion and a half dollars of free cash flow and they've paid down about three billion dollars in debt over just the past year. This is a business that's getting better. If it's a little bit lighter, maybe it starts flying.

Mary Long: You talk about unleashing the potential of Dollar Tree, and it seems if we zoom out and look at the macro situation that we're in, we have some new data that came out earlier this week, earlier this month. The Consumer Confidence Index, for instance, came out earlier this week, and it indicated that the economic outlook among a lot of Americans is at its lowest point in the past 12 years. You've got reports of US retail sales from February that came out earlier this month, and they were lower than expected so we haven't seen a full pullback sales rose, but only by 0.2%.

With that in mind, one could be forgiven for assuming that, OK, this is actually a time for discount retailers to unleash to potentially fly. Markets tight, people are tightening up their wallets. They might be more apt to turn to these discount retailers. But that doesn't really seem to be what we're seeing unfold quite yet for Dollar Tree or Dollar General. The former operated at a loss in 2023 and has negative net income for the trailing 12 months. The latter still posting a profit, but it has shrinking margins. Why aren't we seeing boom times for these dollar branded retailers quite yet?

Tim Beyers: That's probably tougher to say. I think some of that may have to do with these just like every retailer, they do have some classic audiences. I don't think you're wrong to do this, there is maybe a class of consumers that typically has not shopped at a dollar store market. When things get tighter, would they choose to try a dollar market, maybe or maybe not. It is also possible that the core audience for these deep discount retailers are just getting squeezed because, frankly everybody's getting squeezed. Even with these dollar stores, you have to think that some of the merchandising has changed. The pricing has changed, your dollar is not going as far as the dollar used to go. This is something that we heard probably about a year ago.

It was all talk about shrinkflation, the packaging is changing, your dollar isn't going as far. You buy a bag of potato chips, and you thought for a buck 25, you were getting a 15 ounce bag of potato chips, and now you only get 12 ounces, shrinkflation. I do think that it's not as simple. Yes, there is an argument that this is a time for dollar stores. But I think those dollar stores have to convince maybe a new audience to give them a shot. I think we're pretty early in the cycle for that.

Mary Long: They have to convince a new audience to give them a shot, but also they have to compete against not just other dollar store type stores, but other discount retailers. Walmart, for instance, is crushing it. In the past year, Walmart's stock price has increased by nearly 41%. Compare that to shares of Dollar Tree and Dollar General, both of which have lost over 43% of their value in the same time frame. Why is there such a stark divide between the performance of these two admittedly different types of discount stores?

Tim Beyers: Yeah, scale matters. It always has. But in the case of Walmart, they're not unique, but they're pretty close to unique and the amount of power that they can exert over a supply chain, they are not just omnipresent around the United States and in different parts of the world, but their ability to command pricing power in all the supply chains where they buy because they buy in such bulk, such magnitude that Walmart is just different. They're different scale.

They have an extraordinary amount of power in that respect. They are also one of the greatest users of data and logistics in the world, really. They have done more to build out an infrastructure that gives them real margin power, and it's just cooked straight into the business, Mary. It's always been this way, and I think they're trying to widen their lead here. Times like this where economically, see, I do think there is a difference, and I feel like I'm being a little bit unfair, but I don't know that I'm wrong. I do think there is a difference between maybe downgrading your shopping from, like, your local grocery store to Walmart and getting a little bit of a price break there. I don't think that has any stigma. If you're going from your grocery store to Dollar Tree and you're not used to doing that, I don't know that you're willing to make that leap. I do think that is different. Also, the Dollar Tree, to be fair, is not going to have the same scale to serve, let's say, your grocery needs. It's going to serve maybe some novelty needs and some of your grocery needs. But Walmart can essentially serve everything you want and at a potentially much lower price.

Mary Long: They're all discount retailers, but there's a lot more that you can get at a Walmart that you could not find at Dollar Tree, Dollar Store or Family Dollar. We'll move on to another story. Chewy, the pet supply retailer posted fourth-quarter earnings this morning. Tim, I've been in a co-working space with you long enough. I know you love pets. I know you love dogs.

Tim Beyers: Me some dogs. Yep.

Mary Long: Let's figure out how you feel about this stock. One closely watched metric for Chewy is its customer count. They added over 430,000 active net customers over the course of the year, the increased net sales per active customer. Immediately post pandemic, though, Chewy was experiencing some slowing customer growth. What happened to kind of turn that trend around? What did they do?

Tim Beyers: It's hard to say exactly what happened here, but it does appear that Chewy is doing a lot to do more for its customers. In tech, we hear this term a lot, but it's called Wall chair. We are getting more from our customers by doing more for our customers. I'll talk a little bit more about this in a minute. But as a provider, that you can go back to reliably over and over again. The evidence is that customers are relying on Chewy more and more and more. The Autoship, for example, that has been an unqualified success, my goodness you sign up for Chewy, and then every month, you get a certain amount of deliveries on a prescribed schedule for your little furry friend, and that can include things like medicine. It can include food. I can include toys, all of this stuff. But Autoship sales were up more than 21%. Overall sales were up about 15%.

The fact that Autoship is growing as as a portion of overall sales, it's just so good for the business. It's really good for cash flow. Overall, Autoship is now 80.6% of all sales. That's up from 76.4%. That is astoundingly good, Mary. It just means that the relationships with customers are getting deeper, and this is what we need. As investors, we really need Chewy to convince its existing customers to do more with it. Need them to stay, need them to grow their relationship. Then choose to do other things with Chewy over time. That does seem to be happening. I find that very encouraging. The key question is, with a lot of economic uncertainty right now, is it going to continue to be this way? I think it's very encouraging that in the fourth quarter, Chewy was able to achieve what they were able to achieve, more net customers, more spend. Right now, we are entering a very weird economic period. This quarter, I think will be an interesting bellwether.

Mary Long: You talk about, like, growing and deepening the relationship with the customer, and this is something that's relevant for many businesses, but I feel as though it's really relevant whenever we have a conversation about Chewy. I hear it when I listen to investment analysis about this company or just when you talk to customers and consumers about this company. People really hit home this loyalty point about how much customers love Chewy. Hey, that is great, but it costs money and time to create, to nurture and to keep that customer loyalty. There are plenty of companies that build that up and then break that. I'll shout out my once beloved Southwest as having broken a brand promise in favor of improving and increasing their top and bottom lines. How does Chewy balance its commitment to customer care, which their CEO is very explicit about, while also prioritizing growth and finance.

Tim Beyers: Yeah, it's a tough one. This is the optionality argument that you've heard me make before. You have to provide more things that are obvious value to the customer. They're not just going to stay because they like you. You have to provide value. In this particular case, I do find it very encouraging that Chewy has had some success with their vet care clinics. They opened eight in the last fiscal year. They plan to open another 8-10 in the coming fiscal year, and they seem to be doing quite well, Mary they seem to be providing a place for a Chewy customer to go and do all the things you would do with Chewy. You could get some food. You can get some toys. But you could also take your furry friend in for boarding. You can take them in for getting medications and shots and all these other things that are very important. It does seem to be creating a touchpoint for Chewy customers. That leads them to engage more deeply. I find that super interesting.

I hope it continues to be this way. It's too early to say whether or not this is exactly a good comparison. But what it appears to be, just based on the NSPAC customers, the net spend per active customer. That was up, what, 21% year over year. Really good numbers there. It seems to have a little bit of a Warby Parker feel to it. I'll tell you, that was the thing that really unlocked Warby Parker. When they started going to stores, and you could come in and you can get your eye appointment done. You could get your test done, and you could get a fairly affordable pair of glasses and use your FSA spend for it. If you're handling more of the overall need for the customer, that seems to go very well. It's been a real boon for Warby Parker. It seems to be happening for Chewy, but I think it's just a little bit too early to tell, but that seems to be the indicator here. Those vet care clinics seem to be a catalyst that's driving this company forward, and I'm here for it.

Mary Long: A comparison between Warby Parker and Chewy was not necessarily on my bingo card for our conversation today. Anything else you want to add before we wrap up about this quarter or the year for Chewy?

Tim Beyers: Well, I think it's nice to see that the economics of Chewy are starting to work out in their favor because one of the real worries and you made this point before is that the active customer account was declining, and it looked like they were going to be subject to some real headwinds in terms of the economic climate, and that as a premium product, it was going to be easy to disconnect from Chewy.

It's encouraging that that's not happening. What seems to me, Mary, the thesis now is that by virtue of handling more of the life cycle of pet care, everything from vet, to medication, to food, to toys, all of those things, it seems that they are sucking up more. They're getting more dollars by solving more of the problems. If that's true, and if it continues down this path, I think we're in for some very good returns for this stock. But it's still early. I will qualify this by saying, let's see how these vet care clinics continue to do over the next several quarters, but so far so good.

Mary Long: Tim Beyers, always a pleasure. Thanks for coming onto the show today.

Tim Beyers: Thanks, Mary.

Mary Long: Not all buy now, pay later companies are alike. Up next, we've got a closer look at Sezzle, the BNPL company that's built a bit differently from its competitors. What we're about to play is a cut of a longer conversation that originally aired on Fool 24, our live stream that's available on YouTube and our premium platform. You'll hear two Foolish voices, our Chief Investment Officer, Andy Cross, plus our CEO and co-founder, Tom Gardner, interview Charlie Youakim, Sezzle's CEO.

Andy Cross: Well, Charlie, we're excited to have the conversation with you, talk all things Sezzle, which is really exciting. It's a recommendation of ours, so we're excited to get right into it and just talk a little bit, maybe about the buy now pay later company you founded. Can you explain what Sezzle does for our members? Really, why is it different in a very competitive buy now pay later space?

Charlie Youakim: One quick way to describe it, even to my mom when we first started the company was, think of reverse layway. Basically, in the old days with layaway, you'd make a purchase, but you'd have to wait for the product. Buy now, pay later is an innovation upon that, where it's basically, I call it reverse layaway because you make the purchase, you get the product upfront, but the payment plan still exists, paying for. It's four payments, interest free over a six-week time period, so 25% down today, two weeks, four weeks, six weeks.

We automate the payment plan for the customer. The reason it became very popular in a short period of time was it really made a massive difference for the merchant in terms of driving conversions, driving sales, increasing basket sizes, and just changing decision making for the customer. Our customer tends to be like a mid to low income, younger customer. What was going through their mindset when they were making this purchase decision was, I could budget for that product, I'll come back later. I don't want to use my credit card. Sixty five percent of our customers have a credit card, but they just choose to pay us with debit cards. They don't like to use their credit card, and so they say, I'll come back and buy it later.

But merchants know that the customer is not going to come back. We change the buying behavior by basically putting the budgeting tool on the website and telling the customer about it that you can pay in for this over six weeks. A lot of these customers get paid bi-weekly, and so the customers felt very comfortable that I could basically budget for this, make the decision to buy it now. They also felt comfortable with the credit product in that there was never a chance for a credit card to create a burden in the future, or some stress, where now maybe I overspent a little bit, and I can't pay that off in full next month. Now I've got this balance that I got to pay interest rate on. I think that's what the the haha was on the consumer side and on the merchant side. That's why we've had this just dramatic growth in our sector and with Sezzle as well.

Tom Gardner: I want to reset one more time just to help our members understand the three primary players here at a transaction. Maybe take a classic case study of who is it? Who's your classic customer? What are they actually buying? Then what's Sezzle's part, what's the merchant's part, and what's the customer's part? Even though you've done a good job already with it, I think just walking us through one transaction would help.

Charlie Youakim: When we first started the business, what we would do is we'd go to retailers and we'd tell retailers, put Sezzle on your site in the checkout, much like PayPal. Put us in the checkout. That was actually one of the most important keys, put us on your product page. When you're selling up a product, in our typical products, early days, the key price points are $100-200. I always give an example of a pair of jeans or you're buying a sweater. Fashion and apparel, beauty and cosmetics were the core at the start. You're buying a pair of jeans for $100. On the site, it would say, or four interest free payments of $25 with Sezzle.

You could click on that little advertisement widget and find out more, because early days, it seemed like it was too good to be true for the customer, so they had to learn more about, this is real. Then what would happen is, in that transaction, the merchant would pay us like a 6% plus 30 cents. That was our rack rate of our product. Blended average right now is more like 5% because we have larger merchants in the mix. They'd pay us like we're a processor, the retailer. The customer decides I want to buy that pair of jeans. They go to the checkout, they choose Sezzle, they sign up with us. We make the payment plan for that customer and fulfill the purchase. We pay the retailer the $100 minus the 5% blended average we have, so less than $5. The retailer gets $95, they're happy. I got $95, it's two more dollars than I would have made, or two less than I would have made if I would have processed with Stripe, but I still got 95 and made a sale. They've got 60% margin, so they're happy.

They make the sale, they ship the product, the customer gets the product, and then they now have a Sezzle account, and they make the payments to Sezzle automated. It's all automated, they don't have to think about it, and those payments come into Sezzle over that six-week period. That's basically the interplay between customer, retailer, and Sezzle, original model. What Sezzle has done that has really made us attractive as a company to investors, and just as a growth company now is we've continued to innovate. I'm an entrepreneur, I'm a believer in innovation. The innovation that we launched, or the innovations, was more of a direct-to-consumer model. We have now two subscription levels and a pay-as-you-go product. Originally, they were locked into our network of 25,000 merchants. They could shop at all those merchants in our app. We launched premium in 2022, which allowed the customer to shop at 300 top merchants in the United States through our app if they paid us 12 95 per month. That unlocked a lot of places to shop that the customers were asking for. Now there's at least less of a direct relationship with the merchant. The customer would shop at the merchant, we'd finance it, through interchange, through either a gift card, or through a credit card, we'd pay the merchant. They'd get their funding, but then the customer would just pay us back directly.

Then we launched anywhere the next year, which allowed the customer to get a virtual card and just shop anywhere for 17.95 per month. Then this past year, just a few months ago, we launched something called on-demand, which didn't require a subscription. You could just basically pay a service fee, almost like an ATM fee, $4 every time you shop. When you make a transaction, you just pay $4 and we'll transact. No reason to get into a subscription. That's basically the interplay right now between Sezzle merchants and consumers.

Andy Cross: There's a financing arm to this that you partner with various firms.

Charlie Youakim: WebBank.

Andy Cross: Like WebBank, for example, that fund the ability for you to be able to pay the retailer, and then you pay a rate on that.

Charlie Youakim: Absolutely. WebBank is our banking as a service partner. They enable our on demand product because it's a finance charge, essentially. That's where WebBank plays into it. This is a partner, and we just launched them in October of last year, or late September. But you're right. Also, we lend to the customer, essentially. We borrow from a group called Bastion. They've worked with us for the last six years, and they lend to us at so far, plus six and a quarter or so, somewhere in that range, and that's our funding facility through to the customer.

Andy Cross: That's a unique proposition in the buy now, pay later space. I just want to make sure our members understand. An average monthly rate, maybe of $15-16, and you're talking about hundreds of thousands of people now who are subscribing to the Sezzle subscription offerings. I just want to make sure, because that is different than what you see from some of the other buy now, pay later providers.

Charlie Youakim: Most of the other buy now, pay later providers are really focused on the merchant relationship, which was the original model. I think if you look at Sezzle right now, we're the most complete. There's one of our competitors, Zip, has what we call on demand. We saw them launch it, we liked it. We knew we wanted it, we needed it. But we're the only player that has a very strong subscription offering, from what I can see, at least. I know Afterpay launched one and they no longer have it. I don't know why. Klarna has one, but it doesn't seem to be a large percentage of their business, like ours is. I don't know why, again.

It's basically Sezzle with this subscription offering that it definitely is an important part of our business. We're definitely unique in that regard. I think part of the reason why it's such a good product for the customer is like all of us, we have this heuristic or natural human laziness. When you're signed up for a subscription, you don't have to think about when you re going to a site, which one of these am I going to use? You just use Sezzle. That's worth the $15 a month. I don't have to think about it, I just just use Sezzle. I don't have to look at the checkout, who's there, I just use Sezzle. It's solved that pain point for the customer.

Tom Gardner: I'm not a financing lending expert. I did talk to somebody who spends a lot of time studying buy now, pay later companies, and their primary question was, what happens as the model scales? Sourcing the capital to cover the x number of weeks that you are waiting to get the payment back from the customer, what happens if this company is five times larger? How do you see the pathway to making all the partnerships work and the financing arrangements work, including in different macroeconomic environments to the extent that that has an impact on your model?

Charlie Youakim: Great question, Tom. I believe in scaling big time when I'm building a company. That's what makes a company attractive, its ability to scale. A couple of years back when we were going through this reinventing of the company and getting into profitability, and continuing to push forward, we told investors, watch us. We are going to show you how well this company scales. I knew its scale. I'll tell you early example, when we first launched, we had our first holiday season, we probably had six people in the company. This is like 2017, the first holiday season, six people in the company. The thing just ran automated over the holiday season, no one's in the office. Intrinsically, I knew this scales incredibly well.

It was not a massive holiday season compared to what we have today, but it was like, it's software, it's just running. We knew it scaled. I said to investors a couple years back, and we keep on saying this because it's my favorite chart, we always talk about it, look at our operational expenses versus our gross margin dollars. We're going to show you how we can have a different angle of inclination on those two lines, and show you how well it scales, we don't need to grow OpEx to grow revenue and grow gross margin dollars. Then in terms of the funding mechanism, because people have a question about that, the beauty of BNPL is it's very funding light.

Personally, I don't want to go longer term with the company, because you create a really heavy cash burden. Driving cash flow in a business is important to the valuation of the business, and when you have a long term financing activity, there's a lot of cash demand. With our product, it's essentially, a three-week product because we take 25% at point of sale, and then the last payments at six weeks. Put the teeter-totter on it, it's a three week product. Our last couple of quarters, our draw on our line was 90 million, and 105 the last of this quarter. If you think about that, we're doing over 2 billion in terms of run rate and processing, but we're only borrowing 100 million to do it. That's because of all that turnover.

Then one of the really unique things, and it doesn't take a very complicated spreadsheet to see this, with our growth rates and our gross margin percentages, eventually, you can drive enough cash into the business, where in theory, if you keep these at a steady state, you don't need a line of credit. You can scale off the line of credit. I'm not saying it's the best decision, but that's attractive that you have the option to if you want to, which I think makes you very resilient, and potentially, a very bad economy that you may not even have that much of a dependence on a line of credit at all. I think that's one of the nice things. Then in terms of just resilience in economic downturns, that's why we shoot for a 55-60% gross margin.

Because the thing that's going to move the most in an economic recession or a very bad one, let's say, it's principal loss rate. No doubt about it. But we've got basically, the 6% on dollars, on the GMV, 6% NTM or gross margin percentage. That's a huge cushion for principal loss rates rising. Maybe we go from a 55% gross margin percentage down to a 35% in some maelstrom, but we still have a 35% gross margin percentage. We got a good barrier.

Mary Long: As always, people on the program may have interest in the stocks they talk about, and The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear. All personal finance content follows Motley Fool editorial standards, and are not approved by advertisers. With The Motley Fool Money team, I'm Mary Long. Thanks for listening. We'll see you tomorrow.

Andy Cross has positions in PayPal. Mary Long has no position in any of the stocks mentioned. Tim Beyers has positions in Chewy and Warby Parker. Tom Gardner has positions in PayPal. The Motley Fool has positions in and recommends Chewy, PayPal, Sezzle, and Walmart. The Motley Fool recommends Warby Parker and recommends the following options: long January 2027 $42.50 calls on PayPal and short March 2025 $85 calls on PayPal. The Motley Fool has a disclosure policy.

Chewy Fetches Growth was originally published by The Motley Fool