達樂 (DG) 2007 Q4 法說會逐字稿

Good morning.

This is the Dollar General Corporation fourth-quarter and fiscal-year 2007 conference call on Friday, March 28, 2008, at 8.30 AM Central Time.

Good morning, ladies and gentlemen, and thank you for participating in today's call.

This call is being recorded by Conference America.

No other recording or rebroadcast of this session is allowed without the Company's permission.

After a prepared statement by the Company, we will open the call for questions from the audience.

Before the presentation begins, the Company has asked that you listen to the following statement regarding forward-looking information and non-GAAP disclosures.

In addition to historical information, today's comments will contain forward-looking information such as the Company's operating priorities and plans and the expected results of those plans, the Company's 2008 outlook, expectations regarding the ability to meet liquidity needs, and plans for store growth and capital expenditures.

The words believe, anticipate, project, plan, expect, estimate, objective, forecast, goal, intent, committed, will likely result, or will continue and similar expressions generally identify forward-looking statements.

While the Company believes the assumptions underlying these statements are reasonable, any of these assumptions could be inaccurate; and therefore actual results may differ materially from those projected or implied by the forward-looking statements.

Factors that may cause actual results to differ from the forward-looking information include, but are not limited to, those set forth in the Company's Amendment Number 1 to their registration statement on Form S-4 filed with the SEC on January 25, 2008.

You should not unduly rely on these forward-looking statements, which speak only as of today's date.

Except as may be required by law, the Company disclaims any obligation to publicly update or revise any forward-looking statement to reflect unanticipated events or circumstances occurring after this call.

You should consult any further disclosure the Company may make on related subjects in its public disclosures.

In addition, the Company will refer to certain non-GAAP financial measures including EBITDA and adjusted EBITDA.

Reconciliations of these measures to net income are included in the press release issued March 27, 2008, which can be located on the Company's website at www.DollarGeneral.com under investing news.

Hosting today's call are Mr.

Rick Dreiling, Chief Executive Officer, and Mr.

David Tehle, Chief Financial Officer.

Mr.

Dreiling, you may begin.

Good morning and thank you for joining us today.

I want to say at the outset that we have a good deal to cover today; and because of that, our opening remarks will be longer than normal.

I want to start with an outline of what we will discuss today, and I am going to start with a brief history and an overview of the current landscape.

David will then go over both the fourth-quarter and full 2007 year results.

Following that, I will return to outline our team's plan for taking Dollar General forward.

Let me first give you a very brief summary of why I accepted the opportunity to be CEO of General.

In short, I see enormous opportunities for this business.

I've been a retailer for almost 40 years; and given that background, the decision to join this team was not difficult.

First, this is one of the most compelling retail models I have come across.

I'm impressed by the resilient nature of the business, evidenced by 18 consecutive years of annual same-store sales growth, and the fact that virtually every store in the chain is profitable.

I also view the market as promising, both the dollar store channel and the expanded discount space.

For nearly 50 years, Dollar General has been a leader in this channel.

But I'm also intrigued by the Company's growing ability to compete with other retailers such as drug, grocery, and supercenter chains.

The market opportunity is expansive.

Lastly, I embrace what Dollar General stands for, value and convenience, as well as its focus on ensuring customers have an inexpensive alternative for quality products in a small and friendly store.

Next, I want to summarize what has occurred in the recent time frame to help put some perspective around where Dollar General is today.

Over most of its more than 60-year history, the Company enjoyed consistent and profitable growth.

However, during the last few years Dollar General has faced some challenges.

There was aggressive store expansion without the operating discipline or the infrastructure to support it.

At times, changes in merchandising strategies were not supported by accurate research and analysis.

Senior management changes and high store employee turnover were disruptive.

Efforts to modify legacy practices while necessary, resulted in significant changes for the business to absorb.

Our inventory strategy resulted in overcrowded stores that were difficult to shop and lacked fresh seasonal product.

Collectively, these issues pressured margins and profitability and impaired our ability to grow effectively.

Despite these challenges, a great deal has been accomplished over the last few years as Dollar General has begun to transition its business.

Let me give you some examples of what has been done to better position the Company.

Number one, we created a stronger infrastructure to support the business and introduced process improvement initiatives.

These included capitalizing on previous investments in merchandising systems to drive efficiencies and analysis; overhauling inventory management by eliminating the packaway model; improving inventory handling in our stores by implementing the EZstore system; and finally, by opening a buying office in Hong Kong.

Number two, we enhanced our position as the innovative leader in our channel.

We have been first to market with many things, such as adding national brand consumables, coolers, as well as accepting food stamps and credit and debit cards.

We've been the first to recognize the importance of convenience and value in expanded categories such as pet supplies and automotive, both successful recent additions to our mix.

Number three, we modified our real estate strategy.

From 2000 to 2006, we grew from 5,000 to 8,200 stores and from 25 states to 35.

But more recently, to improve the base we have closed approximately 400 underperforming stores and have also slowed our store growth; and we've implemented new protocols in site selection and lease procedures.

Lastly, it's important to note that in July of 2007 the Company was acquired by KKR.

KKR, who recognized the value and opportunity in our business, brought further focus to our efforts and new ideas for improving our operations.

We're delighted to have their support and to be working with them.

We regard them as a very strong partner.

As you can see, there have been significant proactive initiatives and trends in our performance have begun to improve.

David will review results in detail; but let me call to your attention a few highlights from 2007 that signal returning momentum.

Annual same-store sales outperformed our peers.

Store manager turnover was below 40% for the first time in over 10 years.

Annual gross margins improved to 27.8%.

We reduced our inventories by $144 million or 10% on average store basis.

We generated cash flow from operating activities of $440 million, a 9% improvement year-over-year from 2006.

These results prove that a great deal of the heavy lifting has started.

However, the Dollar General journey is not nearly complete.

There are still things we need to improve and areas of opportunity to be identified.

There are also external risks that need to be addressed so we protect what we are building.

There is much more to do.

This is precisely why I am here, to ensure Dollar General builds on recent successes, introduces new operating discipline, and begins to take a more strategic approach to growth.

This requires a focused management team, a revitalized set of goals, and a formal plan based on fundamental but critical retail principles.

Developing that plan is what we've been focused on in the recent weeks.

We have been reviewing our operations, visiting stores, talking with employees and customers, meeting with vendors, and identifying risks and opportunities.

As a result, we've put a targeted set of initiatives together that will allow us to leverage our strong history and effect positive change so that we can deliver profitable growth.

I will outline our go-forward priorities in detail after David gives us an overview of 2007's financial results.

David?

Thank you, Rick, and good morning, everyone.

In my comments this morning I will be discussing our results of operations for our fourth quarter and the full-year 2007.

As you know, the full year includes premerger and postmerger periods.

For discussion purposes today, I've combined those periods; but you can see the breakdown in our press release issued yesterday afternoon, as well as our 10-K that we plan to file later today.

Of course, the entire fourth quarter of '07 fell into the postmerger or Successor Company period.

A few comments on the fourth quarter.

First of all, sales.

Sales for the fourth quarter were $2.56 billion, up roughly $6 million from last year, with a same-store sales increase of 0.4%.

But remember, that is up against a very strong 5.8% increase in same-store sales in the fourth quarter of '06, when we launched the Alpha Project and took the initial markdowns to clear our packaway inventories.

Christmas sales were below our expectations.

Our December comp was down 1.4%.

I'm pleased to report that comp sales rebounded in January to a positive 2.3%.

Sales by category to some extent reflect the impact of Alpha.

In total, Q4 seasonal sales decreased 7.3%; home products decreased 11.7%; and basic clothing was up only 0.6% from last year.

On the other hand, Q4 sales of highly consumables, which were not affected by Alpha, increased a fairly strong 5%.

Of course, we would have liked to have seen higher sales in all categories; but considering the tough prior-year comparison, as well as the difficult Christmas season, we believe we fared pretty well.

Like most other retailers, our customer traffic was down in December, but we were able to partially offset the traffic with a higher average basket.

In addition to sales rebounding in January, I'm also pleased to share that our February comp was 4.6%, which as you know is at the high end of retail comps.

Gross profit increased to 28.9% in the 2007 quarter from 25.3% in the 2006 quarter.

In the '06 quarter, markdowns at cost directly related to our inventory clearance activity, including lower cluster market adjustments and LIFO adjustments, accounted for approximately $87.3 million or 3.4% of sales.

The remainder of the increase in the '07 fourth-quarter gross profit rate primarily consisted of an increase in purchase markups, partially offset by increased distribution and transportation costs, shrink, and the LIFO charges you would expect in a period of rising cost.

Alpha clearance markdowns in the fourth quarter of '07 were less than $2 million.

100% of our packaway inventory has been cleared; and we have fully implemented end of season markdowns, successfully abandoning the packaway strategy.

Only very specific and limited items are now permitted in our backroom.

This is probably the last time you will hear us talk about Alpha and packaway; but I can assure you this project required tremendous effort, especially in the stores.

Thanks to everyone who contributed to this tremendous accomplishment.

The impact of these efforts is very evident in the appearance of our stores.

A few comments on SG&A.

SG&A for the quarter decreased $9 million from the prior year and decreased as a percentage of sales to 21.6% in the '07 period from 22% in the '06 period.

Increases in SG&A in the '07 period include $10 million of non-cash amortization of leasehold intangibles capitalized in connection with the merger, and an administrative bonus accrual of $14 million resulting from our meeting certain financial targets.

That compares to a discretionary bonus of $9.6 million last year.

As a reminder, SG&A in the '06 period included approximately $24.4 million of Alpha related expenses.

If you exclude the items I've mentioned, SG&A was essentially flat between the two quarters.

Interests income and expense.

Interest income for the quarter decreased by approximately $0.8 million from the prior year.

As expected, interest expense increased by $96.5 million with the increase resulting from interest on long-term obligations incurred to finance the merger.

We did have a gain on debt retirement.

In the fourth quarter, we were in an excellent cash position, and we took the opportunity to repurchase $25 million of our PIK toggle notes issued in the merger.

That resulted in our recording a pre-tax gain of $4.9 million on the purchase.

Net income and EBITDA.

For the '07 quarter, our net income was $55.4 million compared to $50.1 million in the fourth quarter of '06.

EBITDA increased by $113.8 million to $247.5 million.

After adjustments as defined in our credit agreements, adjusted EBITDA was up $0.8 million.

Now I would like to comment a little bit on our full-year results for '07.

Let me start out by saying that we are very pleased with our full-year results.

Sales.

First, net sales in '07 were $9.5 billion.

That is up $325 million or 3.5% from the prior year.

This included a same-store sales increase of 2.1% that accounted for $186 million of the total sales increase.

Gross profit.

Our gross profit increased by $275.3 million, and our gross profit as a percentage of sales increased to 27.8% from 25.8% in '06.

The '06 period included Alpha related markdowns of approximately $160 million or 1.7% of sales.

The remainder of the increase in the gross profit rate in the '07 period was due to various factors including higher purchase markup, which includes an improved mix of product within certain categories; although the mix of highly consumables did grow slightly in '07.

We also experienced some leverage on distribution and transportation as a result of logistics changes.

These increases were partially offset by higher non-Alpha markdowns, an increase in our shrink rate, and the LIFO charge.

SG&A.

SG&A increased $165.5 million or 7.8% in '07 from the prior year.

It increased as a percentage of sales to 24.1% versus 23.1% in '06.

I would like to call out a few incremental SG&A components in each of the two years.

Excluding these items, from each year, SG&A as a percentage of sales for the year would have been flat.

Fiscal '07 SG&A includes $23.4 million related to amortization of leasehold intangible assets capitalized in connection with the re-valuation of assets.

$27.2 million of accrued employee incentive compensation expense resulting from meeting certain financial targets; and again that compares to $9.6 million of discretionary bonuses in '06.

Approximately $54 million of Alpha related store closing and inventory clearance expenses incurred in connection with closing the remaining stores identified in our strategic review.

These expenses included least contract termination costs, incremental labor, advertising, repairs, fixed asset disposals, and payments to third parties.

This compares to about $33 million of these type of Alpha related expenses in '06.

'07 also includes an accrued loss of approximately $12 million related to the probable restructuring of certain distribution center leases; and $4.8 million of monitoring and consulting fees to affiliates.

Finally, as a reminder, SG&A expense in '06 was partially offset by $13 million of insurance proceeds received during the year related to losses incurred due to Hurricane Katrina.

Of course, we recognize that not all of these are onetime expenses.

We will continue to record the leasehold interest amortization and to incur the monitoring and consulting fees.

We also plan to continue to earn our incentive compensation.

Transaction and related costs.

In connection with the merger, we incurred $102.6 million of expenses reported in our financials as transaction and other costs.

These expenses reflect $63.2 million of expenses related to the transaction such as investment banking and legal fees, as well as $39.4 million of stock compensation expense.

Interest income and expense.

Interest income of $8.8 million in '07 consists primarily of interest on short-term investments, with an increase of $1.8 million over '06 resulting from higher levels of cash and short-term investments on hand primarily at the first half of the year.

Interest expense for '07 was $263.2 million, up $34.9 million in '06.

That is an increase -- excuse me, up from $34.9 million in '06.

That is an increase of $228.8 million.

Of course, this increase is due to our new debt obligations from the merger.

Loss on debt retirement.

Under the caption of Loss on Debt Retirement Net in our statement of operations, we have recorded $6.2 million of expenses related to consent fees and other costs associated with the tender offer of our premerger 2010 notes.

Approximately 90% of these 2010 notes were retired as a result of the tender offer.

The loss on the 2010 notes is partially offset by the $4.9 million gain on the repurchase of the $25 million of PIK toggle notes I mentioned earlier.

Income taxes.

The tax rate makes more sense if we discuss it in terms of the Predecessor and Successor periods in '07.

The income tax rate for the Successor period ended February 1 '08 was a benefit of 26.9%.

This benefit is less than the expected US statutory rate of 35% due to the occurrence of state income taxes in several of the Group's subsidiaries that file their state income tax returns on a separate entity basis; and also the election to include, effective February 3 '07, income tax related interest and penalties in the amount reported as income tax expense.

This was part of our FIN 48 adoption.

The income tax rate for the Predecessor period ended July 6 '07 is an expense of 300.2%.

This expense is much, much higher than the expected US statutory rate of 35% due principally to the nondeductibility of certain acquisition related expenses.

Net income and EBITDA.

Our combined net loss for the 2007 fiscal year was $12.8 million.

That compares to net income of $137.9 million in fiscal '06.

Fiscal '07 EBITDA was $478.2 million compared to $448.9 million in '06.

Adjusted EBITDA, which is defined in our credit facility and is considered a material component to the calculation of certain covenants, was $683.5 million for '07.

That is an increase of $37.3 million or 5.8% above fiscal '06.

EBITDA and adjusted EBITDA are non-GAAP measures, as we commented at the beginning of the call.

You can find the reconciliations of these to GAAP in the press release located on our website.

A couple of comments on the balance sheet.

During the fourth quarter, we made a few minor adjustments to the purchase price allocation on the balance sheet, primarily in fixed assets.

Of course, year-over-year, the most significant changes to our balance sheet resulted from the merger, including the allocation of $4.3 billion of the purchase price to goodwill, $1.4 billion to other intangibles, primarily related to training, and of course a significant increase in debt.

We continue to have very good news on inventory.

At year end, total inventories at cost were down $143.7 million, a decrease of approximately 10% in total and on an average per-store basis from a year ago.

Our accounts payable to inventory ratio increased to 43% this year from 39% at the end of '06.

This is good progress, but we believe we can leverage this even more.

Debt.

We had total outstanding debt at the end of the year including the current portion of long-term obligations of $4.25 billion, including $2.3 billion outstanding under our senior secured term loan, and $102.5 million outstanding under the asset based revolver.

As I mentioned earlier, we repurchased $25 million of the PIK toggle notes, reducing that balance to $700 million.

We also repurchased a promissory note for $37 million relating to the lease on our Ardmore distribution center.

On the balance sheet this shows up as the elimination of a financing obligation.

We currently have no borrowings under ABL revolver, with excess availability of $852.9 million.

We also have approximately $26 million in invested cash.

Just to remind you, there was no invested cash at year end.

A few comments on cash flow.

For the year, we generated $441.6 million of cash from operating activities versus $405.4 million in '06, an increase of 8.9%.

Excluding interest payments, we generated cash from operating activities of $679.5 million in '07, compared to $429.5 million in '06.

Most of the improvement is related to improved inventory and payables management.

We believe our cash flow from operations and existing cash balances, combined with availability under our credit facilities, will provide sufficient liquidity to fund our current obligations, our projected working capital requirements, and capital spending over the foreseeable future.

Importantly, given our success in debt paydown and EBITDA growth, our ratio of long-term obligations to adjusted EBITDA has fallen from 7.1 times to 6.3 times since the transaction closed in July.

A few comments on capital expenditures.

For the year, we incurred capital expenditures including amounts in accounts payable of $142 million.

That is consisting of approximately $60 million for improvements, upgrades, remodels, and relocations of existing stores; $45 million for new stores; $30 million for distribution and transportation related CapEx; and the remainder for IT and other projects.

A couple of comments on 2008.

In 2008, we are committed to our initiatives, and we intend to grow sales, manage expenses, and expand gross margins.

We plan to open 200 new stores and to relocate or remodel 400 stores.

Our average expected investment in a new store is approximately $250,000, including inventory.

In total, we anticipate our capital expenditures to be in the range of $200 million to $220 million in 2008.

Now I will turn the call back to Rick for some additional comments on our strategy going forward.

Thank you, David.

As mentioned in the beginning of the call, there is a strong foundation at Dollar General on which to build.

The team at Dollar General feels responsibility to protect Dollar General's long legacy and enhance our current position as the largest retailer in the United States by volume, number of stores, and the largest small box discounter in sales volume.

Dollar General's long and successful history shows how strong and resilient the business model is.

The model has delivered strong comps in good and bad economic times, and we have remained the channel leader.

Nevertheless, compared to other retailers, there is room for improvement.

Several areas need attention; and while performance is improving, we need to accelerate the progress.

Further, uncertain economic conditions require us to manage the business more efficiently.

Finally, we need a clear vision for the Dollar General of the future.

The best way to achieve all of this is to define a distinct short list of goals and have a formal but basic plan to achieve them.

Further, the plan needs to be driven by controllable actions and include measurable milestones so that progress can be driven, monitored, and measured.

In line with this approach, our full team has worked together to identify, number one, our collective vision for Dollar General; and two, our key operating priorities.

Certain initiatives were underway when I arrived, but our team has determined how to further build on those and has identified more that can be done.

Our overall approach is going to be twofold.

We will take some of the very best that is at the core of Dollar General; but we will also layer in a new discipline to help move the Company forward.

While we will protect Dollar General's proven strengths, we will apply a fresh and critical perspective.

Turning to the specifics, what is our vision for the Dollar General of tomorrow?

There are a few basic overriding goals for the business.

We aim to do the following.

Provide an enhanced price-value proposition to our customers.

Remain focused on our customers and gain a greater share of their wallets.

Develop an aspirational shopping environment and brand.

Be a low-cost operator.

And deliver profitable growth.

To achieve these basic overriding goals, we have identified a go-forward plan.

All of our actions will be driven by four very basic operating priorities.

They are, number one, drive productive sales growth.

Number two, increase our gross margins.

Number three, leverage process improvements and information technology to reduce costs.

Number four, strengthen and expand Dollar General's culture of serving others.

Let me now go into each of these in a bit more detail.

Our first operating priority is to drive productive sales growth.

At this time in our history, this is very much a same-store sales story.

We believe that by making some basic changes, we should be able to drive increases in comps and store profitability.

We plan to eventually get more aggressive in growing the chain.

But our current focus will be on maximizing sales productivity in the existing box.

We will work to increase shopper frequency; expand the basket size; and maximize square foot productivity.

Taking each one of these in turn -- number one, increase shopper frequency.

We intend to bring more people to our stores by providing a wide variety of consumable items; introducing new and broader convenience in basic categories; offering extended hours where needed; and improving our in-stock position.

Next, increasing the basket size.

We intend to encourage customers to buy more in our stores.

To do this, we plan to maintain our reputation for quality; provide extra value; and introduce new categories and products that our customers consider aspirational and may be buying elsewhere.

For example, we believe we can upgrade our offerings in home and apparel, driving higher sales and higher margins.

Finally, maximizing square foot productivity.

We will ensure we are achieving optimum in-store execution.

We plan to improve merchandise adjacencies; recapture flexible space; and introduce more consistent planograms that are proven to drive more sales.

In short, we will reengineer the Treasure Hunt experience to offer more structure and more definition, which should ideally result in greater conversion rates.

Our second operating priority is to increase our gross margins.

At times in our history, we have focused on growth for the sake of growth and haven't worked to aggressively protect margins and overall profitability.

This will now be at the top of our list.

We will work to reduce shrink levels; refine our pricing strategy; continue to grow the private-label offering; and overhaul our sourcing activities.

Taking each one of these in turn -- number one, reduce shrink levels.

Shrink is a challenge for many retailers, but has been a particularly big one for our channel.

So we are rolling out a number of initiatives to improve this metric.

For instance, we will continue to improve hiring practices and training related to store and inventory management.

Introduce new tools to identify the sources of shrink.

We have already added new reporting to the stores to increase accountability.

Finally, we will no longer use packaway.

We have cleaner stockrooms and improved processes.

Number two, refine our pricing strategy.

We see a large opportunity to optimize our pricing structure to enhance margins.

Specifically, we plan to ensure we maintain competitive pricing that drive sales.

Secondly, we will also work to improve vendor relationships and better manage vendor price increases.

Number three, grow the private-label offering.

Our private-label product enables us to offer a value-priced alternative to customers and it also provides higher margin.

Moreover, it allows us to differentiate Dollar General from our competitors and strengthen our brand overall.

We have put a team in place that is dedicated to finding the best way to maximize the private-label program.

Fourth, overhaul sourcing.

At present, we direct-source a small amount of our products from overseas.

We see an opportunity to both redefine purchasing standards and broaden our international sourcing scope.

This should not only save cost, but we should be able to deliver higher quality products to customers once we are sourcing the right products from the right markets.

Taken together, these various initiatives should enable us to drive meaningful increases in our margins.

Our third operating priority is to leverage process improvements and information technology to reduce cost.

Dollar General was built on the premise of being a low-cost operator.

However, an 8,200-store chain requires a significant expense to offering.

We have faced challenges in leveraging cost, and there is an opportunity to remove expenses that are not critical to our customers or our operations.

We have already begun to make changes in this area, beginning with modifying procurement, leveraging rent, and conducting e-auctions to secure the best vendor pricing available.

This is a start, but we will be more aggressive going forward.

We have identified opportunities in the distribution and transportation network and at the store and corporate levels.

Further, we have created a cost-savings working group and now have a formal process in place that will enable us to mine the organization and identify ways to lower expenses.

Our fourth operating priority is to strengthen and expand Dollar General's culture of serving others.

We recognize that customers in all of our markets across the US have many choices, and we are competing for brand recognition and customer loyalty.

We therefore need to offer a much more consistent experience in our stores and provide strong customer service and a product offering that meets or exceeds our customers' needs.

We are on a mission to make Dollar General the retailer of choice for those who want value and prize convenience.

We also want to be an employer of choice and a contributing member to our communities.

In all respects, we will continue Dollar General's culture of serving others.

Specifically, we intend to drive better consistency in the look and feel of our store base.

Develop more measurable store standards and an elevated level of customer service.

Define a stronger brand proposition that resonates with customers and drives loyalty to the Dollar General experience.

Create an environment that promotes strong careers for our employees so that we can continue to reduce our turnover and improve service.

Finally, continue to be a strong community player with focused corporate social responsibility initiatives in place.

We believe this renewed focus on service and serving others will protect and strengthen our leadership position and our brand, and will enable us to deliver solid overall results.

We are confident that these initiatives will have a measurable impact.

Also, we do not see this process as having a finish line.

Rather, this is another step in the Dollar General journey towards further improvement and consistent and profitable growth.

In conclusion, we recognize that external factors we face during this, what is a challenging time for retailers overall.

Further, as we roll out the new formal operating plan, we expect that we may uncover new or unexpected things that may need to be addressed.

While we are cautious, our team is excited about the current year.

We believe we will be able to drive continued financial improvement relatively quickly; and we have a positive outlook for 2008.

Many things will drive our performance.

We have a very solid and resilient business model, a focused management team, and a new formal list of operating priorities.

In short, as I mentioned earlier, we will leverage our strong history and effect positive change so that we can deliver profitable growth over the long term.

With that, I would like to open the call up for questions.

Operator?

Carla Casella with JPMorgan.

A couple of questions.

One, mostly around the gross margin improvement initiatives.

I'm wondering if you can -- if you have a target of how much you expect to be able to improve gross margin this year.

And if you could just flesh out where private-label is today and where you expect that to go, or where your target is.

Sure, let's start with the private-label first, Carla.

Currently, our penetration on the consumable side is about 17%.

If I look across the business, it is about 13%.

It's a little soon for me to commit to what our ultimate goal is.

But I think it's pretty safe to assume, when you look across the various channels, that ultimately we see ourselves getting into the 21%, 22% range on the consumables side.

We're throwing a lot of effort at this right now.

We are rationalizing unproductive SKUs out of the system.

We are looking at a branding proposition, and we are doing a lot of labeling work.

In regards to our gross margin expansion, we have a lot of initiatives underway right now.

What I would rather do -- rather than giving you a specific number at this stage of the game, commit to the fact that we are going to improve margin and ask you to allow us to update you on a quarterly basis on how we are progressing.

That's great.

Then where is shrink today?

That is part of the gross margin as well.

Yes, all I will say on shrink is I think as an organization we have defined our shrink to be unacceptable.

We have a very aggressive plan in place.

The elimination of the packaway model in the back of the store, we are now doing exception-based reporting.

We are doing a lot better job of training people.

I think as the year unfolds we will also be able to give you a nice feel for the progress we are making there.

Okay.

Is it similar to -- I know you made a lot of shrink improvements at Duane Reade.

Are they similar type problems or similar type fixes, do you believe?

Yes, you know, when you play -- when you work with shrink, I wish I could look at everybody and say there is one big ball you lift up off the ground, and all of a sudden shrink is fixed.

Shrink is like a lot of little ping-pong balls rattling around in a box.

Shrink usually is very similar across many retail chains.

So, to answer your question, a lot of the same initiatives we implemented there are in place here.

The team here has also done a good job of coming up with some additional thoughts.

Okay, then just one other gross margin and then I will turn it over to others.

But on the cost side, are you seeing significant cost inflation coming out of either your sourced product or even your domestic because of transportation?

Yes, we're seeing some cost inflation, probably somewhere in the range to 3% to 3.5%.

Of course it varies greatly depending on the type of products that you're looking at.

Our goal when we deal with this is, first of all, to talk to the vendor and see if there is a way not to have this increase.

We also have gotten more into e-auction and ways of getting more competitive with our vendors.

Then of course, there are times where it's necessary to pass it on to the consumer.

But we always try to push back on the vendor and see if there are other sources, so that we can hold our prices as much as possible.

Okay, great.

I will turn over the floor and I will get back in the queue.

Thanks.

Karen Eltrich with Goldman Sachs.

Thank you.

I was curious to know, obviously as you said for December a lot of -- for the declines in home goods and in seasonal was due to Alpha comparisons; but February obviously strongly positive.

Are you seeing lifts across the board in the store?

Are you seeing any notable changes in your consumers' behavior?

Or any evidence of consumers trading down into the dollar channel?

As I look across February, we're seeing more broad-based improvements across the categories.

We are feeling very good about that.

We are also seeing -- while I can't specifically say a higher income customer is trading down, I can say that we are seeing increases in transaction counts and basket size.

Do you think that is kind of just more from the stores looking good?

Or is this kind of reflective of the macroenvironment?

Or a bit of both?

I actually, to be honest with you, would think it's a combination of both.

No doubt about it.

Great.

What are you seeing on competitive environments?

Some of your competitors have gotten a bit more promotional.

What are you doing to kind of combat that?

Obviously you have mentioned that you're putting in ability to do zone pricing.

What is the timing on that?

Yes, let's do the first question first.

Obviously, everyone right now on the whole competitive arena, I consider anyone who sells what we sell to be a competitor irregardless of the channel it is in.

I do think that we are positioned greatly to deal within the competitive environment as it changes in the current economic situation.

We have 8,200 stores.

We are a small box operator.

We are in many convenient locations.

I do think we are positioned to deal with anything that comes at us.

We also, Karen, have a new set of priorities in which we have really focused the organization.

I also believe that is going to help us also.

Great, and final question, you guys obviously did an amazing job with working capital last year.

We love that you used it to pay down debt.

How big of an opportunity is left in fiscal 2009?

Is the focus in free cash flow for next year also still for debt reduction?

Yes, you know, we continue to press hard on our inventory as well as our Accounts Payable.

We will -- we started that effort, obviously, about a year ago, and we still believe there is some runaway left there in fiscal '08.

I'm not going to give out specific targets; but I will say that again we think there is continual improvement that we can have there.

Now we will balance the inventory moves, obviously, with the in-stock position in our stores, and make sure that we are not trading off sales in terms of getting too tight on inventory.

So we do believe there is some more runway there.

Also on the payables area, we had made some changes in payment terms late in fiscal '07.

We will continue to see some impact on that as we get into '08.

Great.

Thank you guys very much.

Grant Jordan with Wachovia.

Good morning.

Thanks for taking the questions.

Just to follow up on shrink, first.

Did I understand it correctly that shrink increased this year versus the previous year?

Yes, sir, it did.

Okay.

And that is even despite getting rid of some of the packaway throughout the year?

That's correct.

Okay.

Second question, a little bit more on the February comps.

What kind of comp were you up against last year in February?

Maybe if you could give us a little more color on how the comps progressed last year in the first quarter, just so we can put that into perspective.

Yes, give me one second here.

I'm pulling that information up as we speak.

I think for the quarters comps were up 2.5%.

Yes, I think that's right.

I want to give you February, though, to give you a flavor for it.

February was up 2.9% last year, so the comps did accelerate through February.

Okay, great.

Then my final question, whenever I look at your balance sheet, do you have any free cash flow sweep obligation on your term loan?

What other -- are there any limitations in terms of repurchasing more bonds?

Yes, there is an excess cash calculation that we do every year.

We're in the process of working through that.

It appears that we will not have a payment for '07 on that.

Okay, and then any restrictions on purchasing more bonds?

Yes, there are some restrictions in the agreement.

But I don't think anything that would restrict us beyond what we might consider doing at this point.

Okay, great.

Thank you.

Emily Shanks of Lehman Brothers.

Good morning.

Very nice quarter.

Just a couple of follow-up questions.

Can you speak at all about if you are seeing any trends by geography?

You know, I would rather not comment.

I would rather just talk about the Company.

Okay, sorry; I meant -- well, perhaps this is what you are saying.

I was just looking for any trends across the country.

Yes, right now I'm very comfortable just talking about the Company as a whole.

Okay, got you.

Then, in terms of your credit facility, can you remind us if -- what -- if any of it is hedged; and if so, what percent?

Then secondly if you have any fixed to floating swaps on your bonds.

Yes, we don't have any fixed or floating swaps on the bonds.

Your question on the hedge, right now we have two swaps out there on the term loan.

Just to refresh your memory, we have a $2.3 billion term loan.

We have $1.630 billion swap that we did that has come down a little bit.

That is the number where it is today.

We did a $2 billion swap when we closed the deal.

Then just recently we did a $350 million swap in February.

So about 10% of our debt is floating and 90% is fixed.

Can you let us know what those were struck at?

The bigger one all-in it's 7.68%.

The $350 million one is at 5.58%.

Great, that's really helpful.

Then just one other balance sheet question.

What are your short-term investments in?

What type of securities?

You know it's just market accounts.

It various day in and day out.

So a whole variety of things we use.

Okay, I was curious specifically about if you had any exposure to auction rate securities.

No, we do not.

Okay.

Then if I could, just one last question.

Can you just delineate for us what your free cash flow -- or what the priority is for free cash flow use?

Well, of course, we want to invest in the business.

We have talked about that with our capital expenditure plans.

Any capital expenditure we do has to meet hurdles in terms of a return on investment.

So it's a good investment to take the Company forward.

And then clearly paying down debt.

That is really what we want to do.

Grow the business through wise investments in capital and pay down debt.

Great, thank you very much.

Mary Gilbert with Imperial Capital.

Yes, just going back to the comp store sales strength that you saw in February, has that continued into March?

You know, March right now is still in process.

I will say that we were happy with what we saw over Easter preliminarily.

However, we're a little cautious because of the Easter shift into March.

We really are going to be looking at March and April combined as one time period.

But yes, to answer question directly, so far what we have seen in March and what we've seen over Easter has been good.

But it's early yet.

We really want to get through the two months combined.

We actually believe you might have to take the two weeks of Easter this year and April and add them together to really have a handle on where we are at.

Yes, that makes sense.

Then can you talk about the category performance driving that?

Driving February sales?

Yes.

Yes, our February sales were broad-based.

We're feeling very good across all of the categories right now.

Obviously consumables are doing very well.

Okay, great.

Thank you very much.

Mike Shrekgast with Longacre.

Yes, I was just wondering.

Can you guys talk a little bit about any changes or I guess specific changes in the consumables, the consumables portion of the business, that you might be making, given the inflation that is occurring across the category?

Yes, a couple of interesting things, Mike.

It actually breaks in an ad, I believe, tomorrow.

We had introduced Coca-Cola to the chain, again broadening the convenience aspect.

We were historically Pepsi only.

Coke will tell you it's one of the most aggressive rollouts they've had in many, many years.

We're looking at strengthening the breadth and depth of some of the consumables.

When I say that, what I mean is we're stepping back and assessing the amount of items and the planogram commitment, the square footage commitment, to ensure that we have the right items and, more importantly, we are staying in-stock on them.

Okay.

When you say Coke, are you just talking about regular Coke or all Coca-Cola products?

I'm talking about the Coca-Cola product line and all of it that goes with it.

Dr Pepper.

And by the way, for anybody on the call from Texas, we're introducing Dr Pepper in Texas, which is a very big item.

Okay, thank you.

[Ryan Blane] with Hartford Investment Management.

Yes, good morning.

I did want to follow up on the consumable discussion.

I don't understand.

Consumables have been growing.

I know your longer-term strategy is to move more to the higher margin.

Do you think there is any potential for a shift in strategy near-term to sort of slow that progression down, just until we get past the soft patch in the economy?

Yes, there is no doubt that we want our consumable businesses healthy; and we need to get the other side of the business as healthy as the consumable side.

We are viewing consumables as a way to drive transactions, number of customers in the store.

And we are focusing on the other side, which is more profitable, as our way to build our basket.

Okay.

Then I had a follow-up question, regarding -- I just want to get some details on how you expect to take out cost on the distribution side and transportation.

I know that's been a key source of concern for many retailers and consumer companies.

So if there are any sort of specifics you can give of that -- brief specifics on that account?

What I will do is give you an example of something that has just been completed, and that is the EZstore system, which was our way of redistributing product to the stores to speed up the stocking procedures in the store, turn the trucks faster, and make it easier to take cost out.

There are two basic things we look at.

We look at the cube on the truck, and what can we do to increase the cube, and what can we do to reduce stem miles that the trucks are driving.

All of our efforts are really focused around those two areas.

Thank you very much.

[Rashid Perake] with KBC Financial.

Good morning.

I believe you may have mentioned this; but can you give us an idea what traffic was like in the fourth quarter and what it was like in February?

Yes, our traffic was actually down in the fourth quarter; and it's up slightly over 1% in February.

As far as the fourth quarter goes, was it down 2%, 3%, or can you give us any numbers behind that?

Yes, it was down about 2%.

Okay.

With regards to your inventory, I believe the last time you updated your cost to retail inventory ratio it was about a year ago.

Have you updated that since then, or are you still using the same ratio from a year ago?

I am not sure what you mean by cost to inventory ratio.

Your RIM ratio, how you value the inventory.

Oh, no, that has not changed.

We still use the same 23 departments.

23, okay.

Maintenance CapEx, what should we be looking at on an annual basis?

Somewhere around $100 million.

I guess when you look at cash flow for operations in the sense of what you need to run the business, what is the base case cash level?

Well, you know that varies depending upon the investments that we make in the business.

I think I would rather not give a specific number on that.

I just think if you use that CapEx and you can look at our EBITDA; and essentially we pay very little taxes (multiple speakers) into that.

With regards to your gross margins or at least the percentage of inventory from overseas, where is that today and where do you expect that to be?

At least, what is your target?

We're at (multiple speakers) I'm sorry --

We're at about 9% today on the overseas inventory.

We do -- the specific targets that Rick outlined in terms of sourcing; and I am not sure how much more detail we want to discuss on this call on that.

Yes.

What I would rather say right now is what we're doing on our sourcing is we are stepping back and defining where we want to buy what, from where in the country.

It's a little soon for us to stand up and say it is going to be -- what number it is going to be.

Okay, that makes sense.

That is it, actually.

Thank you.

[Jay Rodgard] with [Plygon].

Thanks for taking the question.

I am trying to reconcile something.

You note that the inventory balance went down by $144 million in the year, and that is reflected in the balance sheet.

But on the cash flow statement it shows a $96 million reduction.

Is that differential due to the write-downs, or were there other factors at play?

I don't know; we will have to get back to you on that question.

Trying to confirm that to the extent that write-downs were indeed taken, were those -- those will lead to future EBITDA being a bit higher than would otherwise be the case.

Was that also reversed in your adjusted EBITDA?

Yes, any of the Alpha markdowns that we took were taken out of adjusted EBITDA.

Essentially we are done with Alpha, so you shouldn't see any more of that as we move forward into fiscal '08 that we are in now.

I think what you're looking at is last year did have -- if you're doing a comparison to last year, the difference -- we did have a lower cost [of] market reserve.

Okay, great.

Do you have an estimate as to the magnitude of the topline lift you got from the packaway liquidation?

No, we've never really broken that out separately.

But fair to say it shouldn't create much of a headwind in terms of same-store comps?

You know, as we look forward, you can see our February comp coming in at 4.6; and we feel pretty good about the efforts we have going on in the business right now that Rick has outlined.

Great, thank you.

I think we have time for one more question, operator.

Carla Casella with JPMorgan.

This is actually [Gretchen Hilly] for Carla Casella.

A couple questions.

Can you talk about what you see in the market for Family Dollar?

Has that added coolers to its stores?

Yes, I would rather not comment on Family Dollar.

I would suggest you call them.

Okay, sure.

Then any thoughts on the Canadian market?

Would you consider expanding there, either organically or through acquisitions?

You know, again, right now my focus is 100% on the 8,200 stores we have; and it's a little premature for me to comment on expanding outside of the geographic United States.

Okay, great.

Just to confirm, the revolver availability you gave, was that currently or at quarter end?

That was currently, actually as of yesterday.

Okay, and can you give the LCs at quarter end?

I think it is in our K, our document.

That will be -- you'll see that later today, yes.

Great, all right.

Thank you.

Well, once again, I would thank everybody for joining us today.

We appreciate your interest in Dollar General.

We look forward to keeping you updated through the course of the year.

Thanks again.

This concludes today's presentation.

You may now disconnect your lines.