達樂 (DG) 2015 Q2 法說會逐字稿

Good morning.

My name is Brandi and I will be your conference operator today.

At this time I would like to welcome everyone to the Dollar General second-quarter 2015 earnings call.

Today is Thursday, August 27, 2015.

(Operator Instructions).

This call is being recorded.

Instructions for listening to the replay of the call are available in the Company's earnings press release issued this morning.

Now I would like to turn the call over to Miss Mary Winn Pilkington, Vice President of Investor Relations and Public Relations.

Mr. Pilkington, you may begin your conference.

Thank you, Brandi, and good morning, everyone.

On the call today are Todd Vasos, our CEO, and John Garrett, our interim CFO.

We will first go through our prepared remarks and then we will open the call up for questions.

Our earnings release issued today can be found on our website at DollarGeneral.com under investor information, press releases.

Let me caution you that today's comments will include forward-looking statements about our expectations, plans, predictions and other non-historical matters such as our 2015 forecasted financial results and capital expenditures; our planned fiscal 2015 and 2016 operating and merchandising initiatives; 2015 and 2016 store growth and prototype initiatives; our capital allocation strategy and expectations and expectations regarding future economic trends.

Important factors that could cause actual results or events to differ materially from those reflected and or implied by our forward-looking statements are included in our earnings release issued this morning, our 2014 10-K which was filed on March 20, 2015, our 2015 second-quarter 10-Q filed this morning and in the comments that are made on this call.

We encourage you to read these documents.

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

Dollar General disclaims any obligation to update or revise any information discussed in this call.

Now it is my pleasure to turn the call over to Todd.

Thank you, Mary Winn and thanks for everyone joining the call today.

This morning we announced our results for the second quarter of fiscal 2015.

Once again, we delivered strong financial performance for the quarter.

I believe we have further opportunity to take significant steps to better execute our initiatives, to serve our consumers and build on our strong foundation for future growth.

I am excited to say we have strengthened our leadership team with Jeff Owen, EVP of Store Operations, and Jim Thorpe, EVP and Chief Merchandising Officer rejoining Dollar General.

Both Jeff and Jim have a proven record of driving results at Dollar General and know our Company and our consumer extremely well.

Getting this team back together should strengthen our ability to move at an accelerated pace.

With that, let's now turn to our results for the second quarter of 2015.

Second-quarter sales increased nearly 8% to $5.1 billion.

We delivered same-store sales growth of 2.8% for the quarter.

Same-store sales started out strong in May with June being weaker and sales strengthening in July.

It is my belief that this was reflective of the weak overall US retail sales report for June and mirrors what you have heard from some other retailers.

Sales per square foot reached a record $225.

For the 30th consecutive quarter-over-quarter, we increased both our customer traffic and average ticket.

Gross margin expanded by 36 basis points to 31.2% which follows our strong first-quarter margin performance.

For the quarter, diluted earnings per share increased 14% to $0.95.

During the quarter, we returned $265 million to shareholders through the repurchase of 2.6 million shares of common stock and the payment of a quarterly dividend.

Given our performance for the first half of the year, we are reconfirming our full-year financial outlook.

Our current expectation is that same-store sales will likely be closer to the lower end of our range of 3% to 3.5% growth, EPS remains in the range of $3.85 to $3.95.

We continue to grow transaction and item units in syndicated share data for the quarter.

We experienced consistent single-digit share growth in both units and dollars for the four, 12, 24 and 52 week periods.

With that, let me now turn to an update on our key initiatives.

As we shared with you last quarter, we are making targeted labor investments to grow market share in a competitive environment while providing for positive financial returns.

The labor hour investment in the select group of stores is designed to ensure we deliver on our customers' expectations in more competitive markets to enhance our in stock position for a more convenient shopping experience.

Our goal is to further reduce the truck to shelf time for merchandise in these stores providing our consumer with the right product at the right time at the right price.

For each phase, the store operations team has a specific metric and timetable for determining the financial return criteria for achieving results based on a similar 2014 test and learn program.

Currently we have completed the first of three phases of the labor investments.

Our phase one stores received the incremental labor hours during the second quarter.

I'm pleased to report that our phase one stores are delivering on our return expectations.

Specifically the key metrics of same-store sales, transactions, average basket and consumer satisfaction scores are all showing significant improvement.

I believe these strong results are driven by a notably better in-stock position post the incremental store investments.

With these solid results, we plan to accelerate our implementation of phases two and three in stores in the second half of the year.

The second investment in labor comes from the realignment of our store operations management structure to optimize the scale of our divisions, regions and districts to improve accountability and maximizing training and teamwork all while driving stronger more sustainable results.

We have reduced the time our district managers spend driving so they can invest more time mentoring and coaching our store managers on developing and strengthening their teams.

These changes have been in place since February.

We expect that over time this will help both our consumer satisfaction and store manager turnover.

We are pleased to see signs that this initiative is paying off.

Our customer satisfaction scores are improving and we are approaching our fourth consecutive month of declining store manager turnover rates.

Further, we are moving forward with a number of inventory management initiatives.

For example, our sky shelf program will be completely rolled out across the chain by the end of the third quarter to allow for placement of inventory directly above the respective categories.

This allows our teams to get product out of the back rooms to facilitate improved stocking and ultimately drive labor efficiencies.

Already we are seeing encouraging results with our receiving room inventory down by about 20% based on the most recent store inventories.

During the third quarter, we anticipate concluding our multi-year rollout of our enterprise resource planning software for our supply chain.

Our new supply chain solution provided by our vendors, Symphony EYC, is replacing our legacy system which has limited capabilities to support our growth.

This technology platform represents a significant improvement with enhanced integration to allow for demand forecasting from vendor to shelf.

Going forward, our new system is scalable to support our growth and configurable to support changes in our business.

Over time we believe this project will benefit our inventory levels at the DCs and in the stores and our allocation of merchandise on a store-by-store basis.

Our overall in-stock position on the shelf should improve as well.

This is a significant investment that will allow us to better service our stores and provide much better visibility into our business.

On a combined basis, we believe these labor investments and inventory management initiatives are significant steps to improving our in-stock position which is a critical component of our overall customer satisfaction and a driver of sales performance.

On the merchandising front, we had positive same-store sales growth across all categories in the second quarter.

Growth was generally balanced across consumables and non-consumables.

This represents the sixth consecutive quarter for improvement in our non-consumable categories.

Strength in consumables is driven by candy and snacks, tobacco and perishables.

In addition, we had broad-based strength across seasonal and home.

Our ladies and accessory departments within the apparel group continued to exhibit strong performance comping above the Company average.

Affordability continues to play a key role as we expand SKUs across the store at the sweet spot of $1 to $5.

For the second quarter, nearly 50% of our consumers' baskets contained at least one item priced at $1 and these baskets grew faster than our overall transactions.

Shrink improvement has been and continues to be one of our largest gross margin opportunities.

We remain committed to reducing our shrink at the store level.

For the quarter we are extremely pleased with our shrink improvement.

This progress was broad-based with shrink declining in 70% of the product apartments in approximately 70% of our regions improving year-over-year based on store inventories performed so far this year.

Going forward, our teams continue to be focused on leveraging our defensive merchandising tools, technology and training to reduce shrink.

Turning to the second half of the year including the holiday season, we are capitalizing on our consumer insights to strengthen our merchandising offering across product categories.

In turn, this will be supported by a robust print and digital marketing calendar.

We continue to capitalize on new ways to wow our consumers.

We are focused on expanding high opportunity categories and giving our consumer the trend right product she wants at affordable prices.

For instance, we know licensed products resonate with our consumers as they are on trend and communicate value.

As a result, we are broadening our reach across categories with more impactful licensed products.

At the same time, affordability is as important as ever to our consumers.

For 2015 more than 40% of our holiday seasonal assortment is priced at $1.

From a real estate perspective, we remain disciplined and focused on financial returns.

We continue to see our new store productivity at around 85% of our comp base all while driving strong returns.

We remain very optimistic about our new store outlook for 2015 and our pipeline is full.

The Dollar General stores in our three new states of Maine, Rhode Island and Oregon continue to ramp up nicely.

We have reduced the capital investment required for remodels while also driving strong sales lifts of 4% to 5% and an improved return on investment in excess of 200 basis points.

In total, the team has already executed more than 1000 projects across new store openings, remodels and relocations.

This represents around eight projects a day.

The real estate team has continued to build upon its progress for the 2016 pipeline.

The planned growth in selling square feet of about 7% translates to approximately 900 new store openings.

Our development pipeline is over 80% complete for planned 2016 store openings and we expect to be 100% complete by the fourth quarter.

Our strong track record of delivering exceptional returns and our new store program gives us confidence in our model going forward.

Now let me turn the call over to John.

Thank you, Todd, and good morning, everyone.

As Todd has taken you through the highlights of our second quarter, I will share more details on the rest of the financial results and our outlook.

We are pleased with our second-quarter results given our strong gross margin expansion and our SG&A performance.

Gross profit for the second quarter was $1.6 billion or 31.2% of sales, an increase 36 basis points from last year's second quarter.

As compared to the prior year, the most significant drivers were higher initial inventory mark-ups, improved inventory shrink rate, and lower transportation costs.

Partially offsetting these improvements to gross profit were increased markdowns.

SG&A expense increased by 9 basis points over the 2014 period to $1.1 billion or 21.8% of sales in the second quarter.

Using disciplined cost management, we were successful in mitigating our SG&A deleverage.

The SG&A increase was primarily attributable to higher store asset impairments, incentive compensation, repairs and maintenance and fees associated with the increased use of debit cards.

Our effective tax rate for the quarter was 38%.

Moving now to our balance sheet and cash flow.

At quarter end, merchandise inventories were $3 billion, up 2.7% on a per store basis.

Year to date, we generated cash from operations of $557 million, an increase of $70 million or 14% compared to the same period last year.

Total capital expenditures were $247 million.

During the quarter, we repurchased 2.6 million shares of our common stock for $200 million.

We also paid a dividend of $0.22 per common share outstanding totaling $65 million.

Since the inception of the share repurchase program in December 2011, we have repurchased over $3 billion of our common stock.

We currently have a remaining authorization of approximately $489 million.

We remain committed to our disciplined capital allocation strategy.

Our first priority remains investing in new stores and the infrastructure to support our growth.

We aim to create lasting value for our shareholders through anticipated quarterly dividends and share repurchases all while maintaining our investment grade rating and managing to a leverage ratio of approximately 3 times adjusted debt to EBITDA.

Turning now to guidance.

We are reconfirming our financial guidance ranges for 2015.

Details of our guidance are included in our press release.

Highlights include topline sales for the year are expected to increase 8% to 9%.

Expectations for overall selling square footage growth remain at approximately 6% and as you model out the third quarter to fourth quarter, please keep in mind that the day of Halloween falls into our fourth quarter of 2015 as compared to our third quarter of 2014.

We anticipate this could have a modestly negative impact on the third quarter due to the year-over-year comparison.

For the year, same-store sales are expected to increase 3% to 3.5% with the expectation that it will be closer to the lower end of our range.

Our expectation for diluted earnings per share remains $3.85 to $3.95 for the year.

As our long-term track record demonstrates, Dollar General is well-positioned to serve our customers in a wide variety of economic conditions and in turn deliver strong results for our shareholders over time.

With that, I would like to turn the call back over to Todd.

Thank you, John.

As I approach the conclusion of my first 100 days as CEO, I am excited as ever about the opportunities ahead of us at Dollar General.

I feel great about the team that we have in place and I am confident that Jeff and Jim will play an important role in Dollar General's long-term success.

The team is energized and excited as we look to help our consumers save time, save money every day.

Looking ahead to 2016, the team is focused on driving profitable sales growth.

We are deep into the planning process for this coming year.

While it is still early, I would like to share with you some of our preliminary initiatives.

A new store prototype will be rolled out in 2016 for all new stores, relocations and remodels.

The format will allow for a more customer friendly shopping experience and in this prototype the consumer will be able to and have faster, more convenient check out, an attribute that is a high priority for our core consumer.

We have value engineered the design to be capital efficient and easier to operate for our store teams.

Given the early results from our tests, we are encouraged about the prototype.

We have a significant opportunity to increase our cooler penetration across our store bases.

Perishables drive trips and basket size with our consumer as she looks for a quick meal solution or a fill-in item.

Across the chain, a basket with a perishable item is nearly 50% higher than the chain average.

This is a big opportunity that we know how to capitalize on as we have already increased the cooler count on average by just over 50% since 2008.

More and more our consumer is looking to DG for her health and beauty needs.

Based on our customer insights, we will look to expand our offerings across segments such as hair care, cough and cold and over the counter meds, skin care and nail care.

We are well positioned to capitalize on this trend given our brand offerings and price relevancy.

Our ongoing affordability initiative will be front and center with a new fresh approach.

Our underlying principles are to keep the business simple but move quickly to capture opportunities, control expenses and always be a low-cost operator.

All-in, 2016 is shaping up to have meaningful initiatives to drive our performance.

I look forward to sharing more details about our plans as we move forward.

Our long-term commitment to growth and shareholder value are unchanged.

We have a business model that is proven and resilient.

Our team is energized to seize growth opportunities.

Our business generates significant cash flow and we are in a position to invest in accelerated store growth while continuing to return cash to shareholders through consistent share repurchases and dividends.

My personal thanks and gratitude go out to all of the 112,000 Dollar General employees that fulfill on our mission of serving others by providing our consumers with convenience, value and service every day.

With that, Mary Winn, we would now like to open the lines for questions.

Okay, Brandi, we will go ahead and take our first question please.

Matthew Boss, JPMorgan.

Good morning, guys.

So, Todd, can you talk to some of the drivers of the top line re-acceleration in July, maybe what you have seen in August?

More importantly larger picture, just what is the best way to think about the lower gas prices, the wage increases?

Have you seen any impact and just the best way to think about it?

Yes, Matt, sure well.

When we looked at our sales, it really did mirror I think what the nation saw at retail out there.

What we saw was once we got through the month of June and into July, the weather patterns normalized, the heat returned and those torrential rains in Texas and Oklahoma and other areas subsided.

And we saw a return to a little bit of a normal pattern and where our consumable and non-consumable businesses both did very well as we moved into the weeks of July to the end of July.

So that is what gives us confidence in our guidance for the full-year in sales because we have seen that our sales have rebounded from that dip in June.

And to be honest with you, I think it is way too early to have seen and we really haven't seen any indication that the consumer is spending anything more because she has additional wage money in her pocket.

But again, our core consumer is a little different in that before she starts to spend, she really needs to have confidence and see a sustained ability that income will continue to come her way.

So she is a little bit slower on pulling the trigger on spending a little bit more money.

Great.

Then just a follow-up as we think about gross margins, so two quarters of pretty healthy expansion here.

Beyond thinking about the tougher back half comparisons, what is the best way to think about gross margins on a multi-year basis and any headwinds that would prevent continued expansion as we think beyond this year?

We do feel great about the margin expansion in the first half with 45 basis points of growth in Q1 and 36 basis points in Q2.

And as we look at it, it is very broad-based as we have utilized many levers.

We continue to reduce shrink and see opportunity for further improvement there.

We continue to grow our non-consumables business which helps our mix.

We had six consecutive quarters of growth with non-consumables and we continue to effectively manage the other levers including category management, private label and foreign sourcing.

As we look to the back half of the year, we don't see this structurally changing.

We do see it moderating somewhat as you bear in mind that we also always reserve the right to invest in EDLP as needed to drive units and transactions.

Great.

Best of luck.

Dan Wewer, Raymond James.

So, Todd, when we have been out visiting stores, visiting competitors, one thing that we have seen is a lot of Family Dollar stores that are closing as they are planning to transition to the Dollar Tree brand.

I am sure that you are giving attention to your stores that are adjacent to see how they perform after they make that change.

Are there any insights that you can give us?

I think it is way too early to really know exactly what is going on.

I think it is fair to say with the transaction closing in July it is in the infancy stages.

But what we are squarely focused on is controlling what we can control and we are always out there looking to capitalize on opportunities as we see them.

But I am encouraged on the labor front where we have invested in labor in some of our stores where the product is getting on the shelf faster.

And I can tell you that all of our consumer work in these stores are showing that the consumer is seeing the difference inside of our stores with our in-stock rates increasing.

So we feel very, very confident that in any way that we can capitalize, we will as we go forward.

And then just as a follow-up in your prepared comments and talking about Jeff and Jim coming back to the Company, you used the phrase getting the team back together.

One of the questions we have been getting from a lot of investors, why did they leave to begin with a couple of years ago?

What has changed that leads them to resume their career at DG?

I can't exactly tell you why they left because I am sure they have their own reasons.

I think the interesting thing is that they saw an opportunity as I do here at Dollar General and returned and really what I am excited about is that return because we have all worked together for many years prior to them leaving and they know the playbook, they know our customers and they know how to move quickly and drive profitable sales growth.

So we feel very confident that in the quarters and years to come they will be huge contributors with the rest of the executive management team.

Okay, great.

Thank you.

John Heinbockel, Guggenheim Securities.

Two related questions I think.

Smart & Simple, where do we stand and how much do you want to expand that or expect to expand that over the next year or two or three?

And then DG Market, now that you are in the top spot there, is it still -- do you still kind of look at that as an experimental lab and are you learning a lot that helps you against Aldi and Save-a-Lot?

Those are great questions, John.

On the Smart & Simple side first, affordability is still and will be and continue to be front and center here at Dollar General and Smart & Simple plays a huge role in that.

We doubled the SKU count so far in 2015 and we see that pace continuing as we go into 2016.

It really does give our consumer that price point that is magical in a lot of cases of $1 and even though some items are over $1 at Smart & Simple, it is a tremendous value.

So we see that brand growing and we see it as a price fighter to a lot of different disciplines out there across grocery and drug.

So we feel very good about it and again remember, our consumer looks to us first for value and price and that is what we deliver with that Smart & Simple brand.

So we are very excited about it.

As it relates to DG Markets, we continue to use DG Markets as a test lab, continue to learn in those stores.

But also the great thing is a lot of the learnings from DG Market we apply into our Plus stores and our traditional stores.

And quite frankly some of the pieces that you will see in our new store prototype in 2016 was generated from the Market store concept and the Plus concepts.

So we still see the Market store as a real viable kind of a store for us because of a lot of things.

One, driving topline sales, giving the consumer a great value with expanded grocery and perishables but also because of that test bed that it provides the rest of the chain.

So we feel good about it.

And then as a follow-up to that, if you are going to add more Smart & Simple, do you cut SKUs and do you cut maybe branded SKUs or do you just have less facings for what is out there?

And then I assume it would be nice to put traffic generating perishables in but I assume you are not going to play around with produce because you can blow yourself up pretty good expanding that.

Is that fair?

Yes, that is very fair to say.

Right now we don't have anything on the horizon as far as the perishable side but we are always looking.

Again in our Market stores, perishables play a pretty important role in those and we are learning a lot about that fresh side of the business on perishables.

But right now no big plans to do anything there.

As it relates back to Smart & Simple, I think the best way to look at Smart & Simple for us is that what it really provides us and the consumer is that it provides that affordability and then for our consumer, it gives her trial and then from that trial she moves into acceptance of an item and then she trades in or trades down.

So I think it is an important piece.

Now as we start to put more and more of these Smart & Simple items on the shelf, I think it is fair to say that something has to go and the great thing about Dollar General is we are very disciplined in our category management approach so I can tell you, John, that what we decide to eliminate to put in Smart & Simple will be the exact right decision for our customer at Dollar General.

Peter Keith, Piper Jaffray.

Thanks, good morning.

Thanks for taking the question.

Could you just give us some perspective on the comp guidance range?

Now it is at the low-end.

Was it simply a result of the slow June or is there something that's maybe not picking up here as we are getting into the back half of the year?

I think you look at it, we are very pleased with how our second quarter ended up.

We have delivered nearly 8% revenue growth and 14% EPS growth.

So we feel very strongly about it and that is what gives us the opportunity, Peter, to work and look at the back half of the year and our full-year guidance.

And it gives us the confidence that we will hit that range, that lower end of the range.

Okay.

Maybe a question to John.

Historically the Company has talked about advertising expense at 3.5%.

I was wondering with some of the labor investments coming on back half of the year and the pickup in-store growth next year, does that leverage point begin to move up the next couple of quarters?

Yes, you are correct, the SG&A leverage point has been and is around 3.5%.

What you will see as you move into the back half as we do accelerate our targeted investment in labor, you will see some deleverage from that on the front end.

This pays back by the great return longer-term but it does provide some deleverage to SG&A as it takes a couple of quarters for it to pay back.

And maybe you are not comfortable talking about 2016 but just on that store growth dynamic next year, should we be thinking about that as well?

Is it another point of near-term deleverage?

We will be coming back to you later with 2016 guidance later in the year but right now we are comfortable with our guidance for this year and the model.

We see this labor investment as a near-term impact that will provide great returns longer-term.

Okay, fair enough.

Thank you very much.

Scott Mushkin, Wolfe Research.

Thanks for taking my questions.

I wanted to kind of go down the same path.

I think I asked this last time and the last person was asking questions about as we think of 2016 and expenses, I know you guys are deep in the planning but labor across your companies is becoming in issue as labor markets tighten up.

Then of course we have the overtime rule changes being proposed by the government that looks like they're going to come in.

So I specifically want to understand a little bit about next year and labor expenses and how you guys are looking to maybe offset some of this pressure that seems out there?

You know, Scott, it is still a little early with a few of the things that are out there.

Obviously as we said before, we will always in markets pay a competitive wage to attract the right people and retain the right people.

So we have been doing that for years and we will continue to do that in 2016 and beyond.

But it is pretty early on a few of the fronts, especially the nonexempt and overtime legislation that is out there.

It is still in comment period.

So we are waiting to see exactly how that affects us but as you can imagine, only our store managers are exempt today within our store from a salary perspective.

So while it will affect us, it will be also an effect on everyone out in the marketplace.

But I think again, it is still a little early but rest assured we are watching it very carefully.

Do you actually think maybe since you guys have done a lot of work that it is an advantage to you just because it is just your store manager or should we not think of it that way that it is just going to affect everybody and you included or do you think maybe it affects you guys a little bit less?

I think for right now again because it is so early, I would think it is going to affect everybody but as this becomes clearer as time passes, we will have a better idea and get back to everyone on it.

Okay.

And then not to keep coming back to the sales trend, I know you have talked about June was soft, July picked up.

Pretty much everyone we've been talking to about August is saying things are a little queasiness about August and where that is really going to come in.

We are not done with it officially yet but it does seem like the kind of just give up and down, up and down and we are really running in place.

Is some of your consciousness -- caution about the back half maybe sales are going to be a little harder to come by even though gas prices are down or am I reading too much into that?

I think the way to look at it, Scott, is that the calendar shift has caused a little angst probably out there with the consumer only from the standpoint that Labor Day has been pushed back a week as you know and most states with schools, they sort of key off of that Labor Day date.

So in a lot of cases what we have seen is that back to school has been pushed back in the calendar a little bit.

Now the great thing here at Dollar General that we have seen is that where school has already started, our back to school comps are hitting and/or exceeding our expectations.

We feel very good about that but we have contemplated where we think we are here in August and where we will be at the end of the third quarter and we have embedded that in that guidance that we have given you and we feel pretty confident about that.

Perfect.

Thanks for taking my questions and it is nice to have the team back.

So I look forward to working with everybody.

Thanks.

David Mann, Johnson Rice.

Good morning.

A question about the IMU strength that you have been seeing.

Can you give a sense on your outlook for whether that would continue in the second half and any expected benefits from the wan devaluation that might help that into 2016?

Sure, sure.

We don't see anything structurally changing in terms of the drivers from the first half in terms of going into the second half.

In terms of the devaluation, there is no immediate impact.

The payment to our international vendors are denominated in US dollars to reduce volatility.

Of course we are monitoring the situation and this could translate to opportunity for lower costs down the road.

And then as a follow-up, in terms of what your comment about the holiday value offering, the 40% comment that you made, what does that compare to let's say for last year's holiday offering and will your overall holiday seasonal investment, how does that compare year-over-year?

We are, David, pretty bullish on that back half of the year with holiday because of all of the work that the team has done on category management.

That 40% I could tell you that it is an increase over last year.

And again, that was because of the success of holiday of 2015 where we saw our consumers gravitating to that affordability piece.

So we have had a full year to make sure that we deliver on the strong affordability for holiday 2016 and we are pretty excited about the lineup that we have coming.

Thank you and good luck.

Meredith Adler, Barclays.

A question about real estate.

I have one company now, they are based in a neighborhood shopping center but one company that has talked about lease costs going up.

Obviously your real estate is different but maybe you could just talk a little bit about the real estate environment and first in terms of availability and second in terms of cost?

Sure, great question.

We feel great about real estate.

We have a phenomenal team that does a great job finding great sites while holding down costs.

We have not seen a change and we have not seen a change to our great returns.

We are still averaging about 20% returns on our new build and less than a two-year payback.

So no change to that and we feel great about the pipeline going forward.

It is a very robust pipeline.

We are going to open 730 new units this year and we are targeting about 900 new units next year.

And we continue to see these new units perform at about 85% to comp base and we continue to see them as I said deliver great returns.

We feel very bullish about our returns going forward.

And based on those comments, it sounds like there isn't anything in the environment that would make you want to accelerate the pace of growth in markets that are most expensive.

I don't actually know how many stores you have in California now but either like California or the Northeast, is there anything that says we've got a window of opportunity now that might not last?

Meredith, this is Todd.

When we look at it, we are definitely looking at all opportunities that are out there.

But as you know us very well, we always take a very measured approach on how we accelerate growth and where we accelerate it and rest assured because of that discipline we have in our real estate model, that one, we are looking for every opportunity.

But also on the second side of that, we are making sure that we do it very measured so as we go out that we continue to outperform our expectations when we open new stores.

Okay, great.

Thank you very much.

Everyone, we just are hearing there is a little bit of technical difficulty on the phone so please bear with us and we will try to have our speakers speak louder.

Edward Kelly, Credit Suisse.

Good morning, guys.

So, Todd, a question for you on the competitive environment.

Can you maybe just talk a little bit in terms of what you are seeing there?

And I did hear you guys say something to the effect of you reserve the right to invest in EDLP in the back half if necessary.

Are you seeing anything out there that leads you to believe that you may need to do something like that?

Ed, I have to say that the environment is still very rational and when we look out, we don't see anything structurally where that changes.

But as you know anytime that we see necessary to drive units, we will invest in price to make sure that we protect and grow our market share.

So while we don't see anything that is immediate, we are always looking at opportunities to deliver further value to our consumers.

And then just one follow-up, something you mentioned on the call you talked a lot about improving in stocks.

Could you maybe just provide more color on sort of I guess historically what you think the issue may have been if there even was an issue?

And what you think you were leaving on the table from a sales perspective to give us some sense as to what we should be looking for in terms of the benefit going forward?

The fun thing about retail is that there is always opportunity to get better out there and in-stock is one of those for us that we can get better.

We have done a good job over the years on in-stock but there is always room to improve and we think that improving in-stock and we have proven it with these labor investments that we have done here in the second quarter that the consumer reacts very quickly to those in-stock pieces.

And she sees the products she wants on the shelf and we deliver a great price every day, we've just got to make sure when she comes in that it is there for her and she can pick it up.

So I think between the labor investments that we've made and the ones upcoming as well as our supply chain solution that I talked about, as that now starts to really get fully integrated into the system, it should as well help our in-stock position.

So we have got in my mind nowhere but up to go on in-stocks.

Great, thank you, guys.

Stephen Grambling, Goldman Sachs.

Good morning.

I was hoping you could first clarify a little bit on the back-half margin guidance.

The reiterated range is embedding declining EBIT margin.

Can you just walk through a little bit more the puts and takes between both gross margin and SG&A; and then I have a little bit of a longer-term follow-up if I can?

Sure.

As we look at the back half as I had mentioned previously, we do expect to continue to grow or expand our margins in the back half, but given the tougher lapse we do expect that to moderate somewhat.

On the SG&A front, as we mentioned we are investing in labor and that is ramping up.

And while that does provide great returns in the long-term, it does deleverage in the near-term.

So that would put some deleverage pressure on SG&A in the back half on the front end of that investment.

And then as you think about the health of the consumer, I know you have been able to segment the base into a couple of different types.

I'm wondering what are you seeing in terms of either spending from the trade-down consumer or the value-focused consumer?

Is there any different trends that you are seeing there that you can call out?

Thanks.

Yes, Stephen, we still continue to see the trade-down consumer gravitating toward Dollar General, which is great to see.

Our core consumer which obviously makes up a big piece of our overall sales and profitability here at Dollar General, while she feels a little bit better it appears financially, what she tells us -- and we knew this going in -- is that it takes her a little longer to start spending because she has to feel confident that what she is seeing is sustainable in her budget.

So it takes a little bit more time for her to let go of the purse strings a little bit more, but the great thing about Dollar General is that through our category management work and through our field operators that we have out there, our store managers and their staff, we can deliver a great product to her when she is ready to spend.

And I think we've proven that over the years.

Great, that is it for me.

Thanks so much.

Taylor Lebarr, Stifel.

Just wondering if you could discuss the apparel category a little bit?

That has obviously been a big driver of the shift in non-consumables over the last couple of quarters, that is going to be against a tougher compare for the next year.

Just wondering if this mid single-digit growth rate is the range we should expect and if that is part of the more conservative gross margin guidance for the back half?

Taylor, we are very proud of what the team has accomplished in apparel and in non-consumables in general but also our consumables business.

When we look out in the guidance that we provided, we feel good about both sides of those businesses.

As it relates to apparel, it is a key driver of profitability for us and we see that even through the back half of the year going into 2016 our teams have got great products lined up, great values for our consumer so that we really seeing that year-over-year we are going to see and continue to see increases in our apparel business.

Okay, great, and then one follow-up actually on the private label brands repackaging, is that pretty much complete?

I know you were doing that throughout this summer.

Have you seen a mix shift towards this private label brand, I don't if you can tease out any impact from the repackaging versus focus on affordability more broadly but just any comments there?

Private brands are really important to Dollar General, very important.

So we watch it very carefully.

We are essentially complete on our rebranding, the repackaging pieces of it but as you expect from Dollar General, we are always trying to improve everything we do.

So we are now going back to certain SKUs that may not have performed like we thought and are now tweaking those so we are in phase two I would call it of the packaging.

And right now we are pretty happy with what we see.

And again, private brands, Smart & Simple and the Rexall brands for us are extremely important as we go into 2016.

So a lot of emphasis being placed there and we will continue to see that grow for us.

Okay, sounds great.

Thank you.

Michael Lasser, UBS.

Thanks for taking my question.

How do you feel about the overall store standard and how they have tracked over the last four quarters?

These labor investments, these inventory investments would suggest that you have seen something in the business that perhaps has been slipping and you need to address them, perhaps that is an opportunity for some sales improvement especially as you have seen the phase one performance?

When you look out across our store base and the beauty of Dollar General is we've got over 12,000 stores and working our way to 13,000 stores.

And as you can imagine, we've got in some areas, we've got better standards than others and we are always working to make sure that we better our standards.

And the great thing with the labor investments that you have mentioned is that we have seen betterment if you will on both topline sales as well as store manager turnover rates going down not only in those stores but across the chain.

So we are doing something right here and we think we are onto something.

And when you look at it, that is one reason we want to accelerate these labor investments as we get into Qs 3 and 4. As we go into the back half of the year we think there is a big opportunity for us and to be honest with you, by the end of Q4 we should be approaching about one-third of the chain with these new labor investments and additional hours in there.

So we feel very good about going into the fourth quarter and taking that into 2016 with us.

And on the labor investments you mentioned seeing a lift in sales transactions, a reduction in turnover but you didn't mention profitability.

So are you finding that you are getting a suitable return for these investments from a profitability perspective?

When you look at it here at Dollar General, the great thing about the disciplines that we have put in place over the years, we do nothing here that doesn't have a return.

I can guarantee you this has return metrics in place and they are delivering on those returns.

Now is every store delivering?

Perhaps not but that is the beauty of us, we look at it by store and we either get those stores to produce or we will roll those off the labor investments and reinvest those somewhere else.

So we are squarely focused on making sure it returns.

Okay, one last quick question.

As the environment does get better and your consumer releases their purse strings a little bit, how do you feel about Dollar General's ability to capture that incremental spend?

What is the possibility that that customer is going to spend maybe even mass merchant channel as gas prices, fuel is cheaper, maybe make it cheaper to drive a slightly longer distance?

When you look at the beauty of Dollar General and the value that we create for the shopper as well as the convenience that we have, you couple that with probably the strongest category management disciplines that you can see out there and then with our store managers and their store teams squarely focused, we feel that we are in a great position if not some of the best positions out there to capitalize when she starts to spend.

And on top of that, we are always looking at other ways past the consumer to capitalize and anything that we see we will make sure that we get our fair share here at Dollar General.

Okay, thank you so much.

Dan Binder, Jefferies.

Good morning.

Thanks for taking my question.

You talked a little bit about the in-stock opportunity.

I'm curious if you could comment a little bit about where you have been, what the goals are and what you think that translates to in terms of a comp benefit if you achieve those goals?

Again when you look at it, we have got opportunities just like everyone out there and our opportunities -- the nice thing about Dollar General because of the disciplines we have, those opportunities that present themselves we feel very confident in as we put programs in place as we have done now with in-stock, we feel that we can capitalize quickly on it.

While I don't want to give you the exact metric around it, rest assured that the focus, the attention and any capital that we are throwing up this will have a return and we will definitely make sure that it returns to the consumer.

And that is really what this is all about is making sure that our consumer is satisfied when she leaves our store every time.

I apologize if I missed this, but are you able to quantify the Halloween shift between Q3 and Q4?

For us we haven't really quantified it but we know internally obviously what we expect on that Halloween day.

And because of our convenient nature as a retailer, the holiday is always late so it is always those last two days, so the day before and the day of the event so it is a significant piece of our business the day of the event.

Okay, thanks.

Matt Nemer, Wells Fargo Securities.

Good morning.

I wanted to follow up on an earlier question on the apparel category, your sales growth slowed from about 10% last quarter I think it was around 11% in the fourth quarter down to 5%.

Is there anything in particular going on there?

Is it mostly a comparison issue?

It is a little bit of a comparison issue.

When you look at it, it was seasonally driven and when we saw the return of the warm weather in the July month and now into August, we saw things normalize.

We feel very good about where we are on a sellthrough percentage rate, it is right on target.

So we don't think there is anything structural there, it was just a little bit of a blip.

Okay.

And then secondly, you mentioned the impact of markdowns to gross margin and I think that was a fairly sizable headwind in the second quarter of last year so I think you had an easy comp on that front.

Can you just square that with your comments that the competitive environment has been rational?

The markdowns were promotional driven and really ordinary course, nothing unusual with those during this quarter.

And as you look at it as far as the competition is concerned, we again really want to deliver value to our consumer so where we think we need to invest in price we do and in some cases, it may come in the form of promotional but the majority of our reinvestment in the price comes at an everyday low price value on the shelf.

Great, thank you so much.

Vincent Sinisi, Morgan Stanley.

Thanks very much for taking my question.

Good morning.

Wanted to ask about shrink.

You guys mentioned it a few times throughout the call this morning, sounds like you have been making or continuing to make some nice improvements on that end.

But can you give us maybe a little bit more color around maybe some of the specific initiatives and some of the categories that you are doing?

It sounds like it still is an opportunity going forward maybe even with some of the things that you are doing on the labor investment front?

That would be helpful.

Shrink continues to be one of our biggest gross margin levers that we have and the team has been squarely focused over the past 12 to 18 months on reducing shrink.

And I can tell you that between the use of our tools that we have available to us which I think are world-class, our defensive merchandising and just the complete refocus at retail on shrink has given us the benefit that we are seeing.

We don't see that slowing down.

As a matter of fact, we are putting more ammunition and tools and abilities for our stores, our district managers to reduce shrink and we will continue to do that as we move through the rest of this year and into next.

The good thing about shrink and the bad thing quite frankly but the good thing for us is shrink has a tail to it and anything that we work on now pays dividends down the road and into next year.

So we feel good about where shrink is headed and we will continue to work it hard because it is a big, big opportunity for us.

Okay, thank you.

Maybe just a quick follow-up on the prototypes for the 2016 class of stores.

Should we expect either just basic visually looking at the store or in terms of the level of investment that is needed on a per store basis with improving check out, coolers, etc., can you give us any further clarity around that at this point?

We are going to come back to you with a little bit more detail but just a tad bit of color, the store will visibly look different to the consumer.

They will definitely see a difference as they walk in the store.

The checkout area is a big, big difference and a departure from where we have been but really is consumer centric and I could tell you that all of the work that we have done around this and as you can imagine here at Dollar General, we don't do anything without bringing our consumers along with us.

She loves that new front-end, that new prototype.

And the investments will come in areas like cooler expansion and other areas but rest assured that our team has looked at ways to pull cost out of the build as well as the investments inside the box to help offset that so we feel very confident in maintaining the returns that we currently see today as we go into our 2016 pipeline.

All right, great.

Thanks very much.

Operator, I know we are at the top of the hour so we will go ahead and cut it off here and may have left a few people in the queue but Matt and I are around all day so please give us a call.

And thank you for joining the call today.

That will conclude our call.

That does conclude today's conference call.

You may now disconnect.