Rite Aid Corp (RAD) 2008 Q4 法說會逐字稿

Good morning. I will be your conference operator today. At this time, I would like to welcome everyone to the Rite Aid fourth quarter and year-end conference call. All lines have been placed on mute to prevent any background noise. After the speakers remarks there will be a question and answer session. (OPERATOR INSTRUCTIONS)

Mr. Twomey, you may begin your conference.

Thank you, and good morning, everyone. We welcome you to our fourth quarter conference call. Our agenda for today's call will be as follows. Mary will give an overview of our fourth quarter, along with a summary of the accomplishments during fiscal 2008. She will also briefly describe the status and outlook for the Brooks Eckerds integration. I will then review the fourth quarter financial results and cover guidance for fiscal 2009 which, by the way, ends February 28, 2009. Mary will wrap things up with a few summary closing comments , and then we'll take questions.

Before we start, I'd like to remind you that today's conference call includes certain forward-looking statements. These forward-looking statements are made in the context of certain risks and uncertainties that could cause actual results to differ. Also, we will be using a non-GAAP financial measure. The risks, uncertainties, and definition of the non-GAAP financial measure along with a reconciliation to the GAAP measure are described in our press release and/or our SEC filings. Also before I turn it over to Mary, I want to point out that this year's fourth quarter had a non-cash income tax charge of $895 million or $1.12 per diluted share related to deferred income tax assets.

Our deferred tax income tax assets consist primarily of our federal net operating loss carry forwards, often referred to as NOLs. We believe we will recognize the benefits of these NOLs because we expect to generate taxable income in future years, and these NOLs do not begin to expire until 2019. Nonetheless, generally accepted accounting principles required us to record a non-cash charge to establish a valuation allowance for the deferred tax assets. The non-cash charge also relates to the income tax benefits we recorded in the first three quarters of the current fiscal year. Those income tax benefits were reversed in the charge in the fourth quarter. That is why the fourth quarter income tax expense is $992 million greater than the charge for the year. With these introductory remarks in mind, let's get started.

Thanks, Kevin. Good morning everyone and thank you for joining us today. As we all know from industry reports, it was a challenging quarter for retail as customers pulled back their holiday spending and recession fears increased with worsening economic news. But while Rite Aid sales were softer than expected in December, they improved the last two months of the quarter as we increased pharmacy sales, filled more prescriptions, improved front end sales and grew gross margin rates. Disciplined cost control contributed to our adjusted EBITDA results in the fourth quarter and throughout the year. As we expected, expenses related to the Brooks Eckerd integration and acquisition contributed to a net loss for both the quarter and the year; however the fiscal 2008 net loss guidance we gave you in December did not include the sizeable non-cash income tax charge we reported today as Kevin just explained. Without the impact of the tax valuation allowance, which also eliminated a tax benefit we expected for the fourth quarter, our net loss would have been $0.06 per diluted share for the fourth quarter and $0.29 per diluted share for the year. We made good progress on integrating the more than 1800 Brooks and Eckerd stores during the quarter, ending the year nine months into our 16 month integration plan. We achieved the expected 200 million in cost savings synergies for fiscal 2008 and are on target to finish all systems conversions and minor remodels by this October. I'll share more conversion details with you later in my remarks.

We saw improving sales and margin trends for the Brooks Eckerd Stores in the fourth quarter even though same-store sales continue to be negative. Front end sales and overall margin trends were better in the fourth quarter than in the third quarter and pharmacy sales and script growth trends improved as the fourth quarter progressed. Performance of our acquired stores is moving in the right direction. Customer satisfaction ratings for our acquired stores are up substantially this quarter compared to last and customer complaints related to systems conversions in the pharmacy have dropped significantly, even as we ramped up store conversions to 60 a week in February. Private brand sales penetration was up nicely too, and the generic dispense rate increased. We expect margins in these stores to continue to improve as we cycle aggressive pre-acquisition promotions and continue to increase their generic dispense rate and private brand penetration, and we expect same-store sales trends at the acquired stores to turn positive in the third quarter of the year. As we've said before, when we got these stores, sales were significantly below where we expected them to be when we announced the acquisition. Much of the decrease likely due to the nine months it took to complete the transaction.

Now let me give you more details on the fourth quarter. As I said, the quarter started off slowly but we finished with solid same-store sales increases in both pharmacy and front end in January and February, giving us good momentum moving into the new fiscal year. Same-store sales, which do not include Brooks Eckerd increased 1.3% over the prior year, with pharmacy sales up 1.4%. We filled more prescriptions even with a weaker cough, cold and flu season than last year. Pharmacy gross margin rate also improved year-over-year, in large part due to our continued growth in generic dispensing. We finished the quarter with another industry high generic dispense rate of nearly 68% for core Rite Aid, an increase of 300 basis points for the year, and reaching nearly 66% in the acquired stores. While we don't expect as many new generic introductions in this fiscal year as we had in fiscal 2008, our goal is to raise our dispense rate for the total Company to near 70%. We filled more Medicare prescriptions in the quarter although Medicare scripts did not have as much of a negative impact on comparison this quarter. Our partnerships with leading Managed Care plans and our Living More senior loyalty program which now has more than 3.3 million members resulted in consistent market share gains in the senior segment throughout the year.

Also contributing to our pharmacy increases this quarter were continued marketing and operational support to battle competitive intrusions, strengthened partnerships with large PBMs and payers our health condition marketing programs that result in both script growth and front end sales increases, and increased compliance efforts by letter and phone focusing on generic refills. Compliance will be an even larger focus for us this year. We saw excellent results from our prescription file buy program in the quarter and throughout the year. Increasing the number of file buys by more than 80% over last year and the number of scripts acquired by nearly 90% with record retention rates. We set even higher targets for next year.

We continued to pursue our strategy to open in store clinics with established health care systems because we believe this is the best way to approach the concept, especially when it comes to staffing. You probably saw our announcement this week about a new partnership with Med Star Health to open physician supervised clinics in select Rite Aid stores in the Baltimore and Washington D.C. areas. In the front end same-store sales increased 1%. Core drug store categories especially cough and cold were strong contributors as the flu season picked up. Health and beauty performed well and we are currently in the process of revamping all of our cosmetic and skin care planograms to further strengthen this category. While Christmas sales were weak, Valentine's Day was a much bigger day than last year. Photo continues to be a negative contributor. As we said yesterday though, we have signed an agreement with Fugi Film to dramatically improve the offerings in our Rite Aid photo centers and expect these state-of-the-art photo solutions to have a significant impact on reversing this downward trend when they go into the stores this Summer. We saw good private brand sales growth in the quarter, with core Rite Aid private brand penetration reaching 12.9% for the year, and a significant increase in the acquired stores as I said before. Increasing private brand penetration in all of our stores is an important goal again this year, and we expect the new exclusive skin care, men's grooming lines and Pure Spring bath and body products we introduced this month to help us achieve our goal.

We opened 109 new GNC vitamin departments in the quarter to end the year with almost 1500 departments, including 125 we have already added to the acquired stores. With comp sales three times greater than our regular vitamin departments, GNC keeps us ahead of our competition in this core health and wellness category and draws customers to Rite Aid because of the GNC brand recognition. Our plan is to add about 350 to 400 more GNC departments this fiscal year with many of them targeted for the acquired stores.

We also made progress on our other critical priorities during the year. Customer satisfaction ratings improved significantly in core Rite Aid stores, especially in the pharmacy. We added 120 new stores as part of our new and relocated store program, which is in addition to the Brooks Eckerd acquisition. You'll remember our strategy is to grow in key existing markets. That's why we are acquiring Farm Stores in the assets in the greater Toledo, Ohio area which is a strong existing market for us and in contrast, why we sold our stores in Las Vegas which has never been a core market for Rite Aid.

For fiscal 2009 we plan to open 85 new and relocated stores, with a majority being relocations. With the Brooks Eckerd acquisition we have already added 1800 stores to our chain and improving conditions in those stores is our main focus this year. This will provide a faster return on investment than increasing our new store openings. Now let's get to the integration.

As of today, we've completed systems conversion in about 75% or more than 1300 of the acquired stores with all systems conversions to be finished in May. As we have continued to refine the process, we've dramatically reduced disruption to both customers and associates, evident from the significant decline in customer complaints I mentioned earlier. All of our stores have benefited from enhancements we've made to our next gen pharmacy dispensing system based on pharmacist feedback along the way. About 450 of the stores have also completed a minor remodel, with all stores as I said earlier expected to be finished in October.

Replacing all the front end merchandise with Rite Aid assortments and Rite Aid private brand has had the most positive impact on sales in the acquired stores. Private brand penetration for example, has already increased more than 200 basis points since June. 105 of about 150 planned store combinations are now completed, with the majority of them pouring prescriptions from an acquired store into a nearby core Rite Aid. We expect most of the store combinations to be completed by the end of this fiscal year. Many of those are pores of a core Rite Aid store into former Brooks Eckerd stores, which require a significant remodel. With most of the systems conversions complete, we have combined core Rite Aid and former Brooks Eckerd stores into one field operational structure, and at the same time, strengthened our entire field divisional, regional and district leadership teams. You'll remember that our plan was to initially operate the acquired stores under separate divisions because of the unique conversion challenges and then integrate all of our stores under one field operating structure. An integrated structure will help our new associates complete the transition to Rite Aid.

Our wind down of the Brooks Eckerd corporate headquarters continues as scheduled. Just over 100 associates remain in the providence location in one building versus three. We completed the sale of the recently completed new Brooks Eckerd headquarters building during the fourth quarter. The old headquarter building will be up for sale shortly. We made great progress with the integration in fiscal 2008 and we continue to be excited about these stores and the great potential they hold for Rite Aids future growth. I'll now turn it over to Kevin, and then come back with some comments about fiscal 2009 before we take questions. Kevin?

Thanks, Mary. Before we begin our comparisons for this year's fourth quarter results to last year's fourth quarter I would like to point out three items to keep in mind to assist in the comparisons. First, this year's fourth quarter included the results of Brooks Eckerd's acquisition and integration related activities. Last year's fourth quarter did not include Brooks Eckerd's results. Second, last year's fourth quarter included an $18.7 million charge for the early redemption and refinancing of secured notes. Third, we have treated the exit of the Las Vegas market as discontinued operations. Las Vegas results have been excluded from the other lines on the operating statement in this year and last year. So let's begin and talk through the operating statement which was attached to the press release.

Revenues for this quarter were $6.82 billion compared to $4.53 billion last year, an increase of $2.3 billion or a 50.5% increase. The increase was driven primarily by the Brooks Eckerd acquisition. However, there was also a positive contribution from the 1.3% increase in same store sales of core Rite Aid stores. The acquired Brooks Eckerd stores are not included in the same-store sales calculation but will be included in June 2008. We opened 47 new and relocated stores in the quarter, we also closed or sold 48 stores in the quarter, 28 were Las Vegas stores and 14 stores were related to combining stores in close proximity to one another. Pharmacy same-store sales which exclude the Brooks Eckerd stores increased 1.4%. This is due primarily to a 0.7% increase in the number of prescriptions. New generics had a negative 445 basis point impact on pharmacy same-store sales during the quarter. The Brooks Eckerd stores pharmacy sales trends were negative during the quarter. The cough, cold, and flu season for the quarter started weak but ended strong; however, for the entire quarter the season was weaker than the prior year. Overall, we have seen a slower rate of growth in prescriptions as has the rest of the retail drugstore industry. This is due to a lot of different factors. To name a few, slower growth in Medicare Part D programs, a growing number of 90 day prescriptions, and switches of prescriptions to over-the-counter products. We expect prescriptions to increase through our growth initiatives such as our focus on improving customer satisfaction, emphasizing medication therapy compliance, buying prescription piles, marketing to Medicare patients, promoting our Living More loyalty program, and continuing the new and relocated store program. Also, completing the integration of Brooks Eckerd is expected to have a positive impact.

In the fourth quarter, Medicare Part D sales grew further and represented approximately 15.8% of pharmacy sales. Our mix of generic prescriptions continued to increase. During the quarter all generic prescriptions were 67.0% of total prescriptions, which was over 388 basis points higher than last year's fourth quarter. We expect generics and Medicare Part D to continue to become larger parts of our pharmacy business. Medicaid sales represented approximately 9.4% of pharmacy sales during our fourth quarter.

Front end same-store sales increased 1.0%. It was a tough holiday season, and weaker cough, cold and flu season also negatively impacted us. There was a higher percent of promotion sales in this years fourth quarter when compared to last years fourth quarter, and as we've said in the past, we are recession resistant, but not recession proof, and all of our competition is more promotional. The Brooks Eckerd stores front end sales were negative during the quarter.

We've continued to believe we will grow front end sales for all of our stores by improving customer satisfaction, opening new and relocated stores and executing a promotion program that focuses on core categories, health, wellness offerings, and senior citizens. Gross profit was $1.89 billion or 27.67% of revenues for this quarter versus $1.22 billion or 26.91% of revenues for last year. Gross profit dollars increased due to the sales increase and an improvement in our gross margin rates. The current quarter included a non-cash LIFO credit of $25.3 million versus a $16.2 million charge in last years quarter. The LIFO credit in the current fiscal years quarter was due primarily to the fact that in earlier quarters, our estimate for product cost inflation was higher than what it actually was and the change in estimate required a catch up adjustment for the year in the fourth quarter. Excluding LIFO, this quarters FIFO gross margin rate was the same as last years or 27.25% but when you look at the component there was improvement. There was an increase in the gross margin rate for both pharmacy and front end. Distribution expenses had a small dilutive effect on consolidated FIFO gross margin rate.

Pharmacy gross margin rate was 71 basis points better, positively impacting the pharmacy gross margin rate were first the increase in the generic sales mix. The increase came from not only new generics but also dispensing more of the older generics and second the generic purchasing synergies related to the acquisition that lowered the cost of product.

Offsetting some of the positive factors were first our Medicare Part D business is a larger part of pharmacy sales. It was approximately 15.8% of pharmacy sales for the current quarter compared to 14.5% last year. Second, we continued to experience overall reimbursement rate pressures. And third, last years fourth quarter included a favorable vendor dispute and the current years fourth quarter had no such benefit. The front end gross margin rate was 4 basis points better. Although we had strong vendor support for our promotion programs, we had an increase in promotion sales.

Selling, general and administrative expenses for the quarter increased as a percent of revenues by 141 basis points compared to the prior year. 55 basis points of the increase was due to $37.7 million of acquisition related expenses in the current quarter whereas the prior years quarter only had $2.8 million. This years fourth quarter also had a 40 basis points increase in occupancy expense, primarily due to our new and relocated store openings and a 35 basis point increase in depreciation amortization, which was due to the acquisition, the prescription file purchases, and the new and relocated store program. The last item I want to spotlight which we described last year is that last years fourth quarter SG&A was reduced by 13 basis points from favorable insurance settlement related to Hurricane Katrina. After considering these items, SG&A as a percent of revenue between the quarters decreased 12 basis points.

Store closing and impairment charges were $18.5 million higher than last years charge. This was due primarily to more stores closed or sold, and a decrease in the discount rate used for the lease exit liability on some of the previously closed stores. Interest expense was $127.3 million for the quarter versus $69.5 million in last years quarter. The increase was primarily due to the increase in debt that funded the acquisition, partially offset by a decrease in the interest rates under the senior secured credit facility. Cash interest expense was $120.7 million for this years fourth quarter, versus $65.3 million last year, and non-cash interest expense was $6.6 million this year versus $4.2 million last year. Regarding income taxes, the current years fourth quarter includes a non-cash charge for the income tax valuation allowance related to our deferred tax assets. We have covered this in detail already. Net loss for this years fourth quarter was $952.2 million compared to net income of $15.1 million last year. Loss per diluted share for this years fourth quarter was $1.20 compared to earnings per diluted share of $0.01 for last years fourth quarter.

Each quarters diluted per share calculation included declared preferred stock dividends, please note that preferred stock dividends are not included in net loss or earnings but they are considered in calculating per share amounts. Adjusted EBITDA for the current fourth quarter was $276.3 million or 4.0% of revenues, an increase of $75.2 million from the prior year. The increase was primarily due to the increase in revenue and the resulting increase in gross profit. Gross margin rate improvements, along with good expense control, also contributed to the increase. The schedule attached to our press release reconciles our net loss to our adjusted EBITDA.

Now let's turn to the cash flow statement, which is also attached to the press release. Net cash provided by operations for the quarter was $309.4 million versus cash provided by operations of $126.4 million in last years fourth quarter. The increase was primarily due to a more significant decrease in inventory partially offset by a decrease in accounts payable. The inventory decreased from the sell off related to Christmas but we also reduced a significant amount of inventory related to the Brooks Eckerd integration. The increase is also due to an increase in adjusted EBITDA net of an increase in cash interest expense and a decrease in accounts receivable.

Net cash used in investing activities for this quarter was $158.3 million versus $104.4 million for last years fourth quarter. the increase is primarily due to the higher level of capital expenditures. For the quarter we spent $209.1 million for property and equipment and $12.1 million for prescription file purchases for a total of $221.2 million of capital expenditures in the quarter. During the quarter we opened 18 new stores, relocated 29 stores, remodeled 14 stores, and completed 444 Brooks Eckerds store systems conversions and over 150 minor remodels. The integration activities are fully ramped up again. ne they were shut down in December to minimize disruption during the holiday season. We had sale lease back proceeds of $72.5 million during the current fourth quarter. $28 million of it is shown in the investing section of the cash flow statement and $44 million of it is shown in the financing section because those were under capital leases.

Net cash used in financing activities for this quarter was $169.0 million versus $64.3 million for last years fourth quarter. The current years quarter cash used in financing activity was primarily due to the pay down of the borrowings under the revolver. Liquidity continues to be strong. We made great progress during the quarter in reducing our investment in working capital and funding the capital expenditures with less borrowings on the revolver. We reduced borrowings under the revolver $159 million during the fourth quarter. At the end of the fourth quarter, we had $849 million outstanding under our senior secured credit facility. We also had outstanding letters of credit of $184.8 million at the end of the quarter. $440 million of the revolver was available at the end of the fourth quarter for additional borrowings.

The accounts receivable securitization agreement continued to be a good source of liquidity liquidity. At the rent fourth quarter we had utilized the securitization agreements for $435 million. The eligible receivables will continue to grow and we expect to use the securitization agreements for additional liquidity. The sale and lease back markets continue to be open to us. We have strong liquidity and with current market conditions, we expect to use the revolver to retire the $150 million required maturity in fiscal 2009. Total debt at the end of the fourth quarter increased $2.885 billion since the beginning of the fiscal year, and advances from the sale of accounts receivable increased $85 million. The combined balances at the end of the fourth quarter increased $2.97 billion since the beginning of the fiscal year. The increase was due primarily to the Brooks Eckerds acquisition, and an increase in working capital.

Finally, let's discuss guidance. Our guidance is based on the following assumptions and outlooks. Successful completion of the Brooks Eckerds integration including realization of $300 million of cost savings. Integration expenses are expected to be $110 million. A tough economy and aggressive competition that will require us to be more promotional, a continuation of slower prescription growth for the reasons described earlier, fewer newer generics -- new generics than fiscal 2008, but more total generic prescriptions for the year, continued pharmacy reimbursement rate pressures, and opening 85 new and relocated stores during the year. We are estimating fiscal 2009 sales to be in the range of $26.7 billion to $27.2 billion, same-store sales guidance which includes the Brooks Eckerd stores starting June 2008 is 2.0% to 4.0%. We are estimating fiscal 2009 adjusted EBITDA to be in the range of 1.0 billion to $1.1 billion. Our first and fourth quarters will continue to be our strongest quarters.

We are estimating our operating results for fiscal 2009 to be a net loss between $260 million to $375 million, or a loss between $0.34to $0.48 per diluted share. The net loss estimates include acquisition related integration expense of $110 million and the full year effect of higher interest expense and depreciation expense related to the acquisition. Attached to our press release is a table that reconciles our adjusted EBITDA guidance to our guidance for net loss. Capital expenditures before sale and lease back proceeds which includes the continuing new and relocated store program and integration capital expenditures are estimated to be $600 million for fiscal 2009. We estimate sale lease back proceeds to be $150 million.

We expect fiscal 2009 investment in working capital to be lower than what it was today and along with results of operation, we expect fiscal 2009 operating cash flows to exceed our capital expenditures net of sale and lease backs. Our goal is to improve our leverage ratio and get it back to the level it was just before the Brooks Eckerd acquisition; however, our best return on capital is to invest in the store base. So our plans are not to reduce the borrowings on the revolver by a significant amount.

This concludes my prepared remarks. Mary has a few closing comments and then we'll take questions. Mary?

Thanks. Although our results for fiscal 2008 were not as strong as we had planned when we started the year, we continue to set the stage for our future long term growth with with the Brooks Eckerd acquisition, our integration activities, our sales and expense control initiatives and the increased steps we added to our senior management team especially in Operations. While it's going to to take more time than we initially anticipated to get our acquired stores performing at the level we expect them to perform at, we now have the scale and density in key markets to more effectively compete and improve our performance. In fiscal 2009 we will continue to develop and execute against three critical priorities. The completion of a successful integration, increasing the productivity of all of our stores and improving efficiency and expense control. We believe this will create shareholder value for the long term and give us a sustainable competitive positioning even in the face of a turbulent industry, increased competition and a challenging economic and consumer environment. All of our efforts will be targeted to building a strong future for our Company. Operator, now we'll be happy to take questions.

(OPERATOR INSTRUCTIONS) Your first question comes from the line of Meredith Adler with Lehman Brothers.

Thanks very much. Could we start by breaking down your $600 million of CapEx and just give us some idea of how that money will be allocated?

Meredith, $170 million of it is integration related and the remainder, 90% of it is investment in the store base and 10% is just other things like the distribution centers as well as systems and corporate back office functions.

Is there something specific in there for file buys?

Yes, and that's probably somewhere around close to I think it's $70 million or thereabouts.

Yes, we're expecting to increase file buys this year and that's still another area that we would probably increase more if more become available, Meredith.

Okay, and then I don't know whether it's too early to comment on the stores that have already gone through the minor remodels. I don't know if you've been able to do much advertising around those stores yet, but can you say anything about changes in trends in terms of either the front end or pharmacy?

What we are finding -- we have not been able to of course do any major markets because we haven't completed a substantial amount in any one given market but what we're seeing is continuous improvement in the trends especially of the later ones that we've done where we've really taken the steps that we needed to minimize the associate and customer disruption, and I think we did a lot of learning with some of the first ones and we had the holiday time period break to even improve the process more and so if I look at the improvement in trends in the stores that we did most recently, they're very encouraging.

Okay. And then I guess my final question is the borrowing or I should say the securitization of receivables, you had $435 million securitized at the end of the fiscal year. How much do you think you incrementally will be able to do in this coming year?

It's a function of eligible receivables which are growing and is a function of them going to through the Rite Aid system so starting at the end of our first quarter and then as the year progresses, it's going to be somewhere about another $130 million.

Okay, so that's incremental liquidity?

That's correct.

And actually just one more question. You talked about needing to pay down debt by about $150 million, I think that's a December debt payment. Is there any other amortization of debt on the term loan or anything that you're going to have to do this fiscal year?

There's a very small amount of required amortizations on the term loan, I think it's in total somewhere around $8 million, Meredith, but that's it for fiscal 2010 and then fiscal -- I'm sorry, fiscal 2009 and there's only that amortization of the term loan in fiscal 2010, so when you look out, we just have a very small amount, very manageable amount of required maturities.

Yes, that's great. Thanks very much.

Your next question comes from the line of Ed Kelly with Credit Suisse.

Yes, hi, good morning.

Hi, Ed.

Good morning.

Kevin, I think your CapEx guidance, you know, for this year, is a little lower than I think what you were initially expecting, call it a year plus ago. Can you just talk about how that's come down and maybe how you're thinking on remodels and what you're spending and how deeply you're going into remodeling the stores has maybe changed a little bit?

Let me just add something before Mary gives you more detail but remember we've set the framework of getting our leverage ratio back to where it was before the acquisition, and everything has got to be in balance.

And I think it's really important and just kind of economic environment we're in to be prudent and focused with what we spend and our number one priority is to get really the integration and conversions completed, get them done by that October time period, still keep our new and relocated store program with some forward momentum, but really put more effort on the things that will improve the productivity and the existing stores. That's why we're also allocating more to file buys too.

And we really have shifted as best as we can and they're difficult to emphasize relos as opposed to -- still looking for new stores in our core markets but relos are our top priority and they just take a little bit longer to bring to the opening stage.

Is there any way for you to quantify what the drag on earnings or EBITDA was this last year and even next year from new and relocated stores?

Yes. We can quantify it, Ed. I just hate to sort of start splitting the Company up into its pieces. As you recall in our earlier conversations and we've said this consistently, and it still holds true. New stores for the first three years on average of their existence are negative cash flow and operating contributors. They quickly become positive contributors and exceed the rest of the average portfolio for the next couple years but they are a drag, and in relos, at least on average for the first year and a half, although they're positive contributors, they don't reach the level of the store that they replace for about a year and a half. So we're just not going to start busting up the pieces of the Company right now and telling what the performance is.

Okay, I understand. When do you think you're at the point where this acceleration in new store growth is no longer a drag though on earnings when the stores opened a couple years ago start to contribute and offset what the new loss is.

We're about three or four years into any kind of significant change in that growth program because I think we did what, about -- we did 120 stores this past year and we did a little over 100 the year before so if you can give us another couple of years and we should be doing enough stores to help offset that -- the ones we did a few years ago will offset what we are still opening, and if you think about what Kevin said with more of our focus going into relocations and they also turn positive faster, that's also going to make a difference too on lessening that drag.

And are you pleased with the trends of the new and relocated stores and how they're opening?

Yes, we are.

Not only that, but the investment projections, I mean the projections that the investment decision were made on have always been post-investment review kind of things and we're very very pleased with the performance compared to those projections.

Okay. And Mary, could you maybe drill down a little bit into the stores that actually have been grand reopened? And I hear you that I don't think you have done major markets but I think there are stores that have been supported by advertising and how do the trends from those stores differ from just the overall population that's been remodeled?

Well we've done like three, what I call three different ways of grand opening ads, and each of the ways has gotten significantly stronger. I think as we really fine tuned what went into those, and when we run that grand opening ad, we see a really nice uptick in the sales and customer count, but it does drift back down so we know that we need to do more especially when you've got still the disproportionate share of the stores in the market aren't done yet. So we believe as we get more and more markets finished and can really do more with even our regular add to really keep getting customers to come in and test the store that we will see much more positive trend. Like I said, what we've done more recently over the last few months, we track them by how we actually did the conversions and integrations and so you can see on a graph the very definite improvement as we've continued to refine the process so it's not just the grand opening a, it's the whole conversion integration process making it less disruptive, and I think it's important that those systems conversions are behind us at the end of May, and so that puts us in a really good position for the back half of the year.

Okay, great. Thank you.

Your next question comes from the line of Lisa Gill with JPMorgan.

Hi, thanks and good morning.

Hi, Lisa.

Good morning.

As we look at the guidance for 2009 I just had a couple of follow-up questions. First, do you have anything in your guidance as it relates to changes for amp would be the first one? And then secondly, as we think about the economic downturn, your sales guidance that you gave is actually a little bit better than what I was thinking but the EBITDA is a little bit lower so can you just maybe walk me through sales getting into EBITDA? I would think that as you sell more private label products the margin should actually be a little bit better and maybe the hit would come more on the sales side so maybe if you could help us to understand that? And then lastly, the new in store clinics, Mary, that you've recently, have announced can you just maybe walk us through any of the economic positive impact that would come for Rite Aid?

Well, first, on your first question, Lisa on Amp, we don't really think it's likely that Amp is going to be implemented during our fiscal 2009. Something could happen later but I think you're always dealing with pharmacy reimbursement pressures and you're certainly going to have some things with states on Medicaid programs, so we've had to factor that kind of thinking into our overall plan. As far as our sales guidance--.

Economy?

And the economy itself, I mean, is a big factor. I mean, I think you've seen the IMS forecast for this next year relative to prescription sales and growth and , I think you got to be cautious when you look at the overall sales environment plus you got to be more promotional on the front end because you have to work a little harder to get customers in the store and that's why the continued increase in private brand and on the pharmacy side, the continued focus on generics are important so that can help that whole margin component and lead to as profitable a sale as we can get, but we have to be cognizant of the just pressures that will be out there in the competitive environment as well as the customer

Before you talk about the in store clinics if you or Kevin maybe could just remind us as we think about less new generics coming to the market but more overall generic utilization and penetration, can you just talk about how that impacts your margin? Is that going to be a positive factor this year or will it be less positive because the generics are better for you when there's a new entrant and less manufacturers?

Well, I think if I understand your question right, Lisa, I think, one of the things that was a real positive out of just becoming a larger Company is just the scale that we have in terms of just our overall acquisition costs, and so I think that helps us with old generics as well as with new generics so we're probably in a better position than you would have been if you didn't have the improved purchasing efficiency, but I think whether it's old generics or new generics, the more we have our mix shift to generics, the better our margin is going to be.

Yes, all else being equal in our pharmacy gross margin rate that we're planning for fiscal 09, Lisa, we are going to have an increase in our generic dispensing mix, which is positive. Offsetting, partially offsetting that is basically this lower amount of new generics, and then of course just the reimbursement rates are just, the downward pressure on that is not going to go away. So, we've got a lot of different moving pieces there but generally speaking we think we can kind of like keep our gross margin rates sort of like flat to slightly up.

Okay, great. That's helpful and then any insights into your relationships on the in store clinics from an economic standpoint?

Well, again, our strategy is quite a bit different than our other competitors in that we really work to partner with local well recognized health providers and even in the instance of the one that we just announced where we've got someone who is working with us on establishing that relationship, it's still again connected to a local provider and in this instance happens to be a physician staffed clinic which I think also gives us another avenue of really I think giving an even better clinic experience for customer s and I think that's something that as we find more opportunities to do that in the future we will too. I think on the economics of clinics I think for everybody, I think it's a difficult economic proposition. Now it may get better legs in the future but right now it takes a significant number of patient visits today and it takes, I think, a lot of that consistency in patient visits for even the larger clinic Operators to make money themselves, and you do have the benefit of the script is written, the customer is likely to get that script in your store, but in the scheme of things it's still a small percent of the patients that come into your store and the potential scripts that you can get.

Okay, great. Thank you.

Your next question comes from the line of Mark Wiltamuth with Morgan Stanley.

Hi, good morning.

Hi, Mark.

Wanted to hone in a little more on the pilot stores, the stores you first converted in the Brooks Eckerd base. Have those stores shown better trends than the rest of the group and are those comping positive?

They are not comping positive. Sales are still negative, but improved over the initial result, in fact we've seen steady improvement, and again remember those pilot stores were scattered all over, so it's not like they were a critical mass anywhere either where you could make a pretty dramatic opening announcement and we didn't really do any grand opening advertising for them until we did that first wave which was around the holiday time period. So again, I believe that we've got the right initiatives in place with how we have really streamlined and smoothed the conversion activities and the minor remodel activities, I think, to really make it less disruptive so that you don't have as much to try to make up when you're done with the remodel.

Yes, and until we anniversary the old promotion program, Mark, that negative comp probably will continue to exist but it's turning definitely the right way and getting closer and closer to being positive.

And Mary at the end of your comments there, you mentioned that you thought it might take longer than expected to turn the stores. Is that just a function of the economy or is it taking a little longer than you thought to go through the system situation?

Remember this is a pretty big acquisition. I mean, second largest in the, I think drug store space, and when you think about our timing on closing being June, things sort of moved a little bit more forward and so we stopped activity for the holidays. We refined the process during that time period and originally I think we had thought we would be through the systems conversions by the end of the fiscal year, and so the fact that they've moved into the end of May means it's going to go a quarter longer and you got to get through those conversions and no matter what when you change a system you're going to to have some minor disruptions so we believe it's just going to take a little bit longer than we thought but we feel very good about our expectations for the stores for the back half of the year.

Okay, and then just to drill in a little bit more on the prescription volume trends for the industry, they've been a little bit weaker than all of us would have expected. You mentioned the OTC switches and flu season. If you could just give us a little more tone there on what else you think is going on, and do you think any component of this could be the economy? Have you seen any change in patient compliance or anything like that?

No, actually, we've seen our compliance efforts really still paying off for us and we'll keep focusing on them that, again, I think it's really hard to sort of isolate that answer for just the prescription part. I think if customers are watching their dollars and a lot of our customers are seniors, they're going to be on a pretty tight budget so I think they will -- they could certainly take steps that could impact it and I think you just have to be a little bit cautious on the sales trends until we see what's going to happen over the next number of months.

Okay. Kevin, just final question, you talked about your leverage ratio getting better over time as you got through some of these synergies. Where do you stand now versus where you were at the beginning of the deal?

The way we calculate our leverage ratio is that 6.5 at the end of fiscal 2008 and it's going to be close to 6 by the end of fiscal 2009 so it's heading the right direction.

Okay and at the very start of the deal it was in that 6 range also wasn't it?

Before the acquisition, core Rite Aid was at 4.6 or 4.5, something like that.

Okay, thank you very much.

Thank you.

Your next went comes from the line of John Heinbockel with Goldman Sachs.

Yes, I wanted to focus a little bit on the guidance. If you look at the 2 to 4 comp, are you expecting a significant contribution from Eckerd? Do you think they will comp once they go into the base a lot better than the 2 to 4 or only a minor contribution?

I think I mentioned John, that we're expecting them to really show nice improvement in the back half of the year, so I think that the percent will be stronger just because again, they will have gone through all of the conversions and remodel activity, but we are also being reasonable in what we have as far as expectations for them too.

Because if you look at where core Rite Aid is right now, would you think if you take kind of the mid point of that range, is all of that improvement from say 1.3 up to 3, is the bulk of that of all of that Eckerd? What do you think core Rite Aid will do better in '09 as well?

I think we feel good about core Rite Aid too, but again, it's going to be I think a more promotional environment, so we're not going to get ourselves expecting a lot higher sales number, we're going to see what happens with the economy and the customer and go from there.

And also, there's an increasing contribution from it and dilutive effect on the sales from generic mix, John, so the actual percentages of core Rite Aid are nice. The Brooks Eckerd in the last half of the year are quite a bit more, so.

Do we have any sense of, in the economy like this with more promotional activity from a format like you guys have, is there enough demand elasticity where those promotions have a good ROI to them or it's something you just have to do to maintain traffic and share even if the ROI is not what you'd like it to be?

I think it's still important to really look at the ROI and in fact that's a big focus of our category management team and to figure out how to really put the mix in your promotional vehicle so that it doesn't give everything away but still has the right kind of values and the right places to draw customers into the store and make sure your value is represented in your store merchandising plan too. Big focus on how we're using ends and how we're using our signing to really be able to get the value message across, you're going to see a lot more private brand in not just the ads themselves but in what's featured in the store, because that gets your value message and it gives you a little chance to get a little bit more margin on what you're selling too.

All right and then finally, if you -- the synergies are going to go up 100 million year-over-year. EBITDA, at the mid point of your range probably could be up about the same. I know you're making progress beyond the synergies in the core business and even Eckerd. Is the reason, I guess the reason we're not seeing it -- more improvement in EBITDA, is that more because of the storing program or is it more because of the economic environment and promotional activity? Or is it equally split between the two?

I would say it's both of those and then another factor, John, that is there is -- you're seeing an increase in some of the expense inflation and it's a combination of that tough economy plus the new and relocated store burden, and that expense inflation it sort of takes some of the wind out of the sale.

And you guys still think that both Rite Aid and Eckerd, that the profit margins can can ultimately get a lot closer, maybe not exactly where CVS and Walgreen are, but a lot closer than where they are today, nothing has structurally changed in that regard?

No, we still feel that way. There are reasons why we probably are not going to get to their level but there's no reasons why we can't hit the kinds of numbers we've talked about in the past.

Okay, thanks.

Your next question comes from the line of John Ransom with Raymond James.

Hi, good morning. You mentioned I guess the Brooks, both front end and pharmacy were still comping negative in the February quarter. Just to make sure I understand this, when they go into the comp and I guess it's the second quarter, you expect them to have a positive contribution so you expect them to go from negative to positive between now and the middle of the year?

I think what I said, John, is that we expect them to be positive contributors in the back half of the year. So we won't be through the systems conversions until the end of May and the minor remodels will still be going on until October. So we've been I think probably a little bit more conservative on the results when they would first enter the comps.

So Mary can you give me some degree of magnitude, kind of pre and post integration what the comp looks like just to get a sense of the magnitude?

I don't -- yes, that's not really the kind of guidance that we're providing, John. I think it's too specific about the pieces of the business, so.

Okay. I got you. And secondly, just to hit the generic market for a minute. You mentioned reimbursement pressure. Is this mostly coming from commercial plans in the form of earlier mapping or could you be more specific about that?

I think again it's just what we've contended with the last number of years. I think whether it's from just third party plans or whether it's from the government influence now and what's going on with Medicaid programs and whatnot, we just factored I think the continued reimbursement pressure in our thinking.

Is the -- I think you've mentioned before generic gross profit per script is still something 50% plus better than branded is that still the case even with the generic--?

Yes, it is.

Okay. Thank you.

Thank you.

Your next question comes from the line of Bryan Hunt with Wachovia.

Thank you. I was wondering as a reminder if you could tell us when the Brooks Eckerd stores negative comp hit an inflection point?

It's during that second half of the year, Bryan. We just aren't going to be any more specific than that. You're sort of I think angling towards some kind of monthly or quarterly guidance and we're not prepared to do that.

Or Bryan are you asking about this last year that we've just come through?

Yes.

Yes, again, as I said, the sales trends improved in the fourth quarter and remember, the acquisition closed in June and we did the pilots up into the August time period so we have a lot of activity going on in what would be our third quarter and then we stop for the holidays and then pick back up in January and then our trends in the fourth quarter definitely showed improvement, and it showed improvement month to month.

Okay, great. And then I was wondering if you could tell us what the major components are of the incremental $100 million of cost saves in 2009?

It's primarily the full year effect, if you will, of all of the components that we've listed in the past and obviously the largest one is the generic purchasing.

Okay. And then when you look at a store pour going from a Rite Aid into an old Eckerd or Brooks store, you said you've done roughly 150 of those I believe. Are those stores running negative comps as well or how do you account for those in your comp numbers?

Well, I think what we said, Bryan, is that we've done I think 109 of the 150 combinations but these were really pours of what was a Brooks or Eckerd store into a Rite Aid, and those would be going into your comps and they would be a positive obviously on a comp. The ones that go the other way, the reverse pours where Rite Aid would pour into a Brooks Eckerd depends on when that would happen, if it happens before Brooks Eckerd enters the comp base then it the won't be in the comp.

Are the retentions on a pour into a Rite Aid store, I mean, are those meeting your expectations and what are your retention rates like?

It really -- there were projections by each individual store, in fact as we made the decisions, we had determined what we thought could leak out somewhere else and looked at the competitors around each store and made our estimates and our decisions on what we would pour and which way we would do it based on those factors, and we're pleased with the results of what we've done so far.

And we reset their plans and their budgets and then of course measure actual results to those plans and those budgets.

Okay. Just a few more. How much of the integration charges, I believe there's 154 add back as well as the 86 store closing impairment, how much of that was cash in fiscal 2008?

Almost all of the integration expenses is cash. And the store closing is almost all non-cash.

Okay. And then if you can explore this a little bit with us, how many of the stores, not including new stores because you explained that, are running cash flow negative out of the total little over 5,000 locations?

It's less than 10%. It's a bell curve. I think that we look at that on a regular basis. We do believe all of the stores in the portfolio have the future potential to be the performers that we want them to be, but you got to work with your operating people and keep working the dynamics of the marketplace and sometimes you decide at the end of the day that it's best to close some but I'd say just a bell curve.

Okay. And last question. What is your dark store lease liability and what's the anticipated work off of those leases?

The liability I think is somewhere around $325 million and the cash payments, if you will on the rent for fiscal 2008 was roughly $55 million but a full year effect so fiscal 2009 it will be probably around $65 million.

And I fibbed. Could you just talk about--?

No fibbing allowed here!

If you could talk about your new Fugi Film contract. How much CapEx is being to be dedicated to that, is most of that funded by Fugi itself and when do you expect to see your photo developing start to comp positive from that new merchandising effort?

We don't -- the CapEx is included in our CapEx guidance, Bryan, and we don't like to get real specific with regards to our vendor arrangements and things of that nature but that CapEx is included in our CapEx guidance, and I forget what was your--?

The timing on it is going to be the June, July time period before we're finished with really rolling it out to all of our stores, and you're going to still have your issues with the whole photo category but we think having the state-of-the-art equipment and having a lot of new services and offerings for the customers are going to help turn that business positive for us. Because it is a big drag on overall comp sales today.

Okay, thank you very much.

We have time for one more question.

Your final question comes from the line of Doug Cooper with UBS Securities.

Hi, Kevin and Mary.

Hello.

I was wondering if you could discuss whether you'd consider further disposals if your business struggles or the improvements don't come as you expect?

Well, if you're trying to ask what are our sources of additional liquidity, if we needed them, then I would say that our first and probably most logical source is to just become more effective in our working capital investments. Our second is, remember we own about 350 stores, and own about 12 of the distribution centers which could be sold in leaseback, but if you're then saying well what about markets or things of that nature, really, we think the markets that we've got and the stores that we've got have got future potential and we're really not exploring that.

Okay. Thank you.

Thank you. Thanks, everyone for your participation in our call.

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