Tractor Supply Co (TSCO) 2007 Q2 法說會逐字稿

Good afternoon, ladies and gentlemen, and welcome to the Tractor Supply's conference call to discuss second quarter results. At this time, all participants are in a listen-only mode. Later, we will conduct a question and answer session and instructions will follow at that time. (OPERATOR INSTRUCTIONS.)

I would now like to introduce your host for today's conference, Ms. [Karen O'Brien] of Financial Dynamics. Please go ahead, Karen.

Thank you, operator. Good afternoon, everyone, and thank you for joining us.

Before we begin, let me take a moment to reference the Safe Harbor Provisions under the Private Securities Litigation Reform Act of 1995. This conference call may contain forward-looking statements that are subject to significant risks and uncertainties, including the future operating and financial performance of the company. Although the company believes that the expectations reflected in its forward-looking statements are reasonable they can give no assurance that such expectations or any of its forward-looking statements will prove to be correct.

Important factors that could cause actual results to differ materially from those reflected in the forward-looking statements are included in the company's filings with the SEC. The information contained in this call is accurate only as of the date discussed. Investors should not assume that the statements will remain operative at a later time. Lastly, Tractor Supply Company undertakes no obligation to update any information discussed in this call.

With that out of the way, I'd now like to introduce Jim Wright, President and Chief Executive Officer. Jim, please go ahead.

Thank you, Karen, and good afternoon, everyone. I'm here today with Tony Crudele, our Chief Financial Officer. Stan Ruta from Store Operations, and Gerry Brase from Merchandising are also with us.

While Tractor Supply faced some of the same headwinds as other retailers, principally housing and fuel prices, our challenge in the second quarter was principally recovering from an extremely cold April, while experiencing severe drought in the southeast that was not only persistent but unfortunately expanded geographically throughout the quarter. Nonetheless, we achieved a revenue growth of 10.6% to $791 million, same-store sales growth of 1%, and EPS growth of 3% to $1.08 a share.

We believe that our continued focus on delivering innovative and differentiated products that appeal to our targeted customer base contributed to these results. Our customers are consistently returning to Tractor Supply to satisfy the everyday needs to support their life, "Out Here" lifestyle. That was evidenced this quarter by increased same-store sales transactions. Now, Tony will provide more detail of our transactions later, but overall we are pleased with the growth of our lifestyle merchandise during the second quarter. Now, specifically, our key growth categories, animal health and pet and apparel, continue to perform very well this quarter. Our customers are responding to our merchandise assortment in these areas, following the changes that we have made to both departments over the past 12 to 18 months.

In our animal health and pet category consumables, such as feed and pet food, were up strongly in the quarter. Our recently completed biannual tracking study indicates that our consumers consider tractor supply to be a trusted resource, offering compelling value and quality. We did experience some of the challenges of apparel that other retailers have reported, particularly in April. However, we are comfortable with our current inventory position in this category. Now, during the quarter we responded quickly by adjusting orders and implementing some seasonal markdowns. Overall, we are confident with our apparel offering and pleased with the results generated from this department.

In addition, the new spring outdoor dcor merchandise that we introduced in all stores has been well received by our customers and the sell through was solid. The merchandise included farm and ranch themed benches, rocking chairs, planters, and birdbaths. All the supply was developed by our merchandise, our merchants, and was unique to Tractor Supply. Now, we're happy with our strategy and mix in this category, and we expect to continue refining this collection for a relaunch next spring.

As I mentioned earlier, we did face some headwinds this quarter and this is most evident in our seasonal merchandise performance, specifically, riders were heavily impacted by the late spring and the drought in some of our key southeast markets.

As we stated in our last conference call, the Outdoor Power Equipment Industry Association had lowered the industry's annual forecast to a decrease of 8% back in February and have now again in May projected the decrease to be 10% for the model year 2007.

As planned, we improved the sales performance of riders in the $1,000 to $1,500 price point. There was some significant late quarter pressure due to promotional, on the promotional side and the price side of specific to zero-turn riders as two large competitors moved to clear-out heavy inventories. We remain confident, however, in the long-term viability of the zero-turn category here at Tractor Supply because our customers have large lots and as a result benefit the most from the timesaving features of zero-turns, while they also have the space to store these large machines.

We are pleased with the results of the high-end zero-turn units that we offered this year. At the end of the quarter inventory position for the entire rider category was balanced. We do not, however, expect considerable rider sales to flow through into the third quarter.

In summary, we believe that our unique stores, differentiated product assortment continues to appeal to customers living the rural lifestyle. While we faced a number of challenges, we aggressively made refinements throughout the quarter that produced the reported sales of profit growth.

I'll now turn the call over to Tony, who will provide more detail on our financial results.

Thanks, Jim. Good afternoon, everyone.

As Jim stated, this was a challenging quarter for most retailers, but we are pleased with our results given the weather conditions and macroeconomic pressures. Sales for the second quarter ended June 30th, 2007 increased 10.6% to $791 million compared to last year's second quarter sales. The comp sales for the period were 1.0. Non comp sales were approximately $87.1 million or 11% of sales.

Although sales were negatively impacted by cold weather in April, we experienced a strong bounce back in May when spring returned. Unfortunately, the expanding drought conditions in the southeast, which subsequently spread northward, slowed our rate of recapturing lost April sales. Although we incurred a comp sales decrease in April we achieved mid single-digit comps in May and June, reflecting the strength of the core business. We estimate that cannibalization impacted comps by slightly over 1 percentage point, which is consistent with our expectations.

With respect to regional sales trends, comp sales were the strongest in the southwest where moisture levels were above average and we began [having] drought conditions. Sales in the Midwest and Mid-Atlantic, where the weather impact was more neutral, were above company average, as well.

Comp sales were below company average in the mid south and southeast regions, principally as a result of the drought conditions. Del's comp sales were well above company average, which we believe is primarily attributable to the format changes we implemented last year.

We were pleased to see foot traffic to continue to increase as comp transactions were up slightly more than 2% for the quarter. This is representative of the strength of our consumables business and our [Brazilian] customer. Average ticket on a comp basis decreased 1.2 percentage points. Rider performance impacted the average ticket. As Jim noted, we are pleased with the performance of our entry price -- price point rider, although this negatively impacted the average ticket. Furthermore, the promotional rider environment we faced in Q2 also affected our average rider price point and ticket. Other than riders, big ticket items performed reasonably well in the quarter.

Despite a tough sales environment we improved gross margin by 30 basis points. Overall, our mix was favorable, primarily as a result of lower rider sales which tend to have a gross margin at below chain average. Our initial mark-on rate improved through better buying and increased imports. Import containers doubled for the quarter, and on a trailing 12-month basis imports rose to approximately 5.8% of cost purchases, up from 3.1% at this time last year. Our improved gross margins were partially offset by slight -- a slight increase in shrink, as well as higher freight expense resulting principally from the increased imports.

SG&A including depreciation as a percentage of sales was 22.7%, a 90 basis point increase from the same quarter in the prior year. This deleveraging resulted principally from the sales shortfall, with the majority of the deleveraging occurring in the occupancy and marketing line items.

In the previous quarter we disclosed that we expected a shift in certain marketing expenses from the first quarter into the second quarter. We did incur this shift during the quarter. The additional marketing spend in the quarter was for [ROP] in May to drive seasonal sales and additional direct mail campaign as we increased our focus on this marketing medium. Jim will speak a little more about the [CRM] initiative in a bit.

We are making progress on our initiative to reduce the deleveraging impact of our new store program. Year-over-year the occupancy as a percent of sales for the new stores opened in 2007 improved slightly over the similar group opened in the first half of 2006. These store also showed sales levels above the 2006 group.

Additionally, the future stores we approved in this past quarter had run ratios a full point below the stores that we approved last year during the same time period. Although it will be a few quarters before we realize the P&L impact of this initiative, we are confident that we are headed in the right direction.

It should be noted that for the first half, SG&A as a percent of sales is essentially flat with prior year, and is consistent with our expectations for the first half.

We opened 20 stores in the second quarter, compared to 17 in the prior year's second quarter. We sold our Del's Canada location that was acquired with the purchase of Del's because we believed that it was a deflection of management's time to focus on the western Canada marketplace without a significant market presence.

In the first half of this year we opened a total of 42 stores. This compares to the 46 stores we opened in the first half of 2006, which was approximately 60% of the store openings for all of last year. As we noted in Q1 call, we expected to open 50% of these stores in the first half of the year. We achieved that target for Tractor Supply stores but fell short on the Del's side. New store openings for Del's have been a bit slower as we developed our real estate pipeline, and the 4 to 6 Del's stores for 2007 are back weighted to the second half of the year.

We did not leverage our distribution center costs because we continued to differentiate our SKU assortment, increase imports, and bring additional SKUs into our distribution network from the vendor network. While there are additional expenses related to this approach we believe the benefits of incremental margin dollars will outweigh this near-term impact.

Consistent with our original guidance, our expected tax rate increased to 37.9% from 37.1% in the prior year. The increase in effective rate is related to the adoption of FAS Interpretation Number 48, "accounting for uncertainty in income taxes," referred to as FIN 48, as well as some changes that we had in certain state tax regulations.

Now, turning to the balance sheet, at the end of the quarter we had no debt on the books. We believe that this is a very positive achievement, considering that we repurchased 806,000 shares for a total of $42.4 million in the quarter under our stock repurchase program. For the year we repurchased a total of 1.2 million shares, totaling $63.7 million. We estimate that this program was accretive in the quarter by approximately $0.01 on EPS. We currently have approximately $136 million remaining under our current stock repurchase program. Subject to the prevailing market conditions we expect to continue to make additional purchases through the next two-and-a-half years.

On a per store basis inventory levels increased approximately 2.8% at the end of the quarter. Our calculation is based on average cost and excludes in-transit inventory and inventory held at unopened stores. In-transit inventory at the end of the quarter was $20 million, compared to $2 million in the prior year. We are comfortable with our inventory levels. Although there are some areas that need to be addressed, we believe our inventory growth is in line given the YOY impact of our clothing reset, expanded animal health and pet assortment, the added outdoor dcor category, and inflation. We came out of the season in good shape and did not have significant markdown exposure.

Based on our calculation of inventory turns on a cost basis, YTD turns decreased 10 basis points. Sales, which were below our plan in the first part of the quarter, caused our inventory turns to lag. We are pleased with our efforts around [E-3], our inventory management replenishment system, and our learning in the first half. We have a -- we have a better line, our supply chain team, we have refined processes, and we have tested options to better stratify our inventories and improve velocity. Although we'll have more data points as we move through the year, we're confident in the opportunity presented by the results of E-3 and the inventory reduction initiatives and will continue to focus on this area.

We did experience an increase in accounts payable financing of our inventory from approximately 46.1% up to 49.1%, resulting principally from better accounts payable management and vendor dating, offset slightly by increased imports. YTD capital expenditures were approximately $45 million. This generally tracks to our plan of $95 million to $100 million for the year, with the exception of an unplanned acquisition of two stores in which we exercised our right of first refusal to purchase those properties. This unplanned expenditure was approximately $7 million.

We expect to hit this year's new store opening target of 85 to 90 new stores. Although the pace has been slower than it was during the prior year, we have been more deliberate in our store selection to meet our more stringent site selection criteria. We have replenished our real estate pipeline with quality locations as we've moved through the first half of the year.

We are reiterating the full year guidance we provided in April. Although we anticipate that there will continue to be macroeconomic headwinds as we move into the back half of the year, we believe that the core business has performed well during the first half of the year and anticipate this segment of the business will continue to drive footsteps. We anticipate that we will deliver net earnings of $2.49 to $2.56 per diluted share in 2007. We expect this year's sales to be approximately $2.7 billion to $2.75 billion. It's an assumption that same-store sales increase for the year will range between 3% to 4.5%.

That concludes my prepared remarks about the financial results, so I'd like to turn it back over to Jim.

Thanks, Tony.

I'd like to discuss some of the activities that we will be working on in the second half of this year and beyond to continue to surprise and delight our customers. In addition, I'll review some recent changes to our Board of Directors that we believe will further contribute to the long-term opportunities and strategic direction of the company.

We are continuously learning and refining our merchandise to serve the needs of our customers. On any point in time we're testing around 300 different items. There are times we focus on updating a specific department. From these department wide changes we typically introduce a complete [reset] on a small scale, while we analyze and refine the offering before we roll it out across the chain. And we believe this approach reduces our risk and accelerates our ability to execute merchandise initiatives that we know work. As you know, we've had a lot of success in resetting our apparel department and updating our animal and pet departments using this approach.

Now, we are turning our attention to the left-hand side of the store, which includes hardware, truck maintenance, and tools. We're on track to roll-out this new concept test in 50 stores in the third quarter, and consistent with the approach I briefly just discussed, we'll study consumer reaction to the [hard lines] reset, modify accordingly, and then plan to expand the reset significantly in Q3 of next year.

Now, looking ahead to the holiday and winter seasonal merchandise, we plan to offer more products and to land them earlier in the season this year. This will develop consumer interest while they're still in the shopping and consideration phase. Specifically, we'll be setting heating, fuel, and winter clothing a few weeks earlier than we did last year.

We're also on track with our e-commerce initiative. We expect to launch our e-commerce site in time for the upcoming holiday season. We're designing the site with the anticipation that this will attract both new and existing customers of our offering a convenient and accessible option to purchase products that are relevant to their lifestyles. We are not, however, projecting meaningful revenue from e-commerce for this year.

I am pleased with our progress on CRM. While this initiative was only approved and launched last fall, we are already using the data capacity to refine our direct mail efforts. Recently we completed our first direct mail offering targeted to known customers and [mosaic] customers who have the same household attributes as our known customer base.

We tested each group with A through E offerings, and we were able to measure the cost, the response rate, the ticket, and the margin of each. Now, we believe this capacity will allow us to effectively narrow cast our mail promotions and target our niche customers with the products they want, when they need them, with the offer they find most compelling. As a result, we'll be moving more [RAD] spending from television to mail. TV will continue to be used for what it does best, which is brand development.

We are pleased with our store expansion plans. Earlier this month we achieved a significant milestone by opening our store number 700, marking the midway point to our stated goal of operating 1,400 Tractor Supply stores nationwide. As Tony mentioned, we opened 42 stores in the first half, and are on track to open a total of 85 to 90 stores this year, including approximately 4 to 6 Del's stores.

Additionally, I am pleased to report that we have gained traction on our Silver Mile versus Golden Mile initiative. The stores we approved in Q2 of this year have an occupancy cost 100 basis points lower than the new stores we approved in Q2 of last year. Now, we're having a lot of success staffing our new stores. We've already assigned store managers to the majority of the stores scheduled to open in the second half of this year.

We continue to place a very high value on staffing our new stores to ensure that each new team can deliver the expertise, value, and consistency of experience that our customers have come to expect from Tractor Supply. Indeed, the new stores opening this year, that opened earlier this year, are experiencing higher volumes, sales volumes, out of the gate than new stores opened in the previous two years.

I'd like to thank all of our systemwide Tractor Supply store employees for translating the "Out Here" lifestyle to each of our stores by providing the great shopping experience for our customers.

Before I open the call to questions, I'd like to make a few important comments related to our Board of Directors. I'd like to take this time to extend a special thank you to Joe Scarlett. In May we announced that Joe had fully transitioned out of his executive responsibilities with the company. That move was consistent with our management succession plan. Joe, of course, continues to serve on the Board as Non-Executive Chairman. His dedication to the company and the values he instilled throughout Tractor Supply has us firmly positioned for long-term growth.

In addition, two new Directors were appointed to our Board of Directors during the quarter, George Mackenzie and John Adams. George replaced the vacancy left by Sam Reed's departure earlier this year. George's business acumen combined with his focus on strong financial controls and thorough analysis will complement the strengths of our existing Board members. While John has a proven success in leading a fast growth retailer, we believe his experience will be very valuable to Tractor Supply. With these changes we currently have 11 Board members, with 9 Independent Directors.

In closing, we remain focused on serving the needs of the growing number of customers living the rural lifestyle. We're committed to optimizing our merchandise mix and refining categories as we continue to expand and dominate in this niche market. Our management team is strong, and we look forward to the opportunities that lie ahead for Tractor Supply, and I would now like to open the call to your questions.

(OPERATOR INSTRUCTIONS.)

Your first question is coming from Bill Sims from Citigroup.

Thank you. Good afternoon.

Hi, Bill.

Jim, you cited obviously the drought in the southeast in April, in the call, discussing your comp during the quarter, can you give us an idea of your experience in the Texas and Oklahoma and other rain and flood ravaged markets, how did you perform in those markets, and what worked and what didn't?

Generally, everything in Texas and Oklahoma this year was positive for two reasons. The flooding that we all saw on the news was actually fairly concentrated, and the rain was very broadly based, so Texas and Oklahoma are much greener than they were a year ago. We have been successful in diverting inventory into that market, and we're enjoying a pretty robust sales in the power equipment business and other spring and summer related products.

What's also interesting about Texas, though, is that last year when we were in the drought there's a lot of animals in Texas and in a drought environment there are many other products that we sell that fall out of demand when animals can go out on pasture, so while we're doing very, very well there in the categories related to the growing and cutting of grass, there is some offset in our business in the fact that animals are out on pasture instead of being fed.

With regard to April, the first couple of weeks of April, particularly the weekend of Easter, was just extremely, extremely cold and had a very, very severe impact on our same-store sales for that week. It got better as the month continued, but, as Tony mentioned, April was a very, very tough month for us.

Thank you. Just one thought, of the 20 stores you opened during the quarter, can you give us some examples of some of the changes you've made to reduce operating costs in the stores?

Well, the operating costs are pretty much going forward; is that right, Tony?

Yes, in -- the stores that were actually opened compared to those in the prior year was just a slight improvement. The initiatives that we've put forth in the latter part of last year really won't start to take hold until probably early '08.

And then a final question, can you give us an update on your Nevada [DC], where do we stand in that process?

Yes, that will still be out in probably '09.

'09, all right. Much appreciate it. Thank you.

Thank you.

Our next question is coming from David Cumberland from Robert Baird. Please go ahead.

Good afternoon.

Hi, David.

Hi. On your in stock positions, after some prior quarters you talked about higher end stocks helping sales, was that a factor again in Q2 or have you cycled the increases?

We are -- first of all, we are pleased with our in stock. There was a couple of places we could have done better. We had a very, very strong seasonal spike in the north. When spring came it came late and it came with a rush, so there's a few spring responsive categories that I was not extremely pleased with in maybe 20% of the stores. Other than that, David, we are in really in record in stock positions, but we're not critically bad a year ago. If you go back to when we had a drag on sales due to in stock it was principally probably almost two years ago now.

Thanks. And to what extent have you seen inflationary pressure in your categories, and how are you handling that?

Okay, principal, at this point the principal inflation is on foodstuffs, things related to corn and beans, sources of protein, so we see that coming through principally in animal feed, not much there in pet; is that right?

That's correct, Jim.

And we've been able to translate that back to retail, so there's an inflation on the cost side and an inflation on the sell side.

And my last question, for the second half, what is your weather consulting service predicting for conditions in your markets?

David, this is Gerry. And right now it looks like we're going to have some favorable selling conditions early in fall for cold weather products, and it appears as if December [cycling] on last year's warmest in recorded history December, is going to be slightly more favorable than what we had this past December based on the long range forecast that we've received up to this point.

Thank you.

Our next question is coming from Mitch Kaiser from Piper Jaffray. Please go ahead.

Thanks, guys, and good afternoon.

Hi, Mitch.

I was wondering, first of all, could you talk about -- I think in the past you talked about a $0.03 hit related to the e-commerce launch, would that come in the third quarter, do you think?

I think that's spread --

No, generally, it's spread throughout the -- this is Tony, Mitch -- basically, it was building the team and then going through the development phase, so it's really spread-out throughout the entire year.

Okay. So some of that's been absorbed already?

Yes, it has.

Okay. And then any updates on the my garage test for the right side of the store and where things are there?

Mitch, Jim commented on it a little bit earlier. We are on track to complete those resets by the end of the third quarter and then the opportunity to launch it into the fourth quarter, which is typically for most of those businesses the peak of annual sales, which is the reason why we timed this for completion of that test at the end of the third quarter. And, as Jim indicated, we'll be locked and loaded in 50 stores going into the fourth quarter, so we should get a good read on how some of the new categories and new merchandise initiatives respond.

Okay. And then, lastly, I'm calculating my numbers here, but I was wondering if you could comment on new store productivity, how that shook out for the quarter and just, you know, pleased or not pleased with that?

Generally we were pleased. As we stated on the call the sales volumes of the new stores are -- they're coming out of the block stronger than the past two years so generally more improved. And clearly the economics behind the model is the stronger the sales the more efficient the box, so generally very pleased so far this year.

Okay. Was it up relative to -- on a year-over-year basis?

Yes. Now, some of the strength of the sales are coming from the stores that we're opening in the northeast. They will have a higher cost structure, so they were slightly more productive but not significantly more productive than the prior year.

Okay. Thank you.

Our next question comes from John Lawrence from Morgan Keegan. Please go ahead.

Jim, would you comment just a little bit on some of the learning's and transfers that you've seen with another quarter under your belt from some of the experiences at Del's, if you take those practices back and forth?

Yes. We have -- we've taken a few key learning's back from Del's. We -- two examples would be, one, Del's does a tremendous amount of business in hay and straw. There's a unique demand for hay and straw in western Washington as there's a lot of horses, obviously a lot of construction where straw is used, and there's nothing grown locally. Del's has a unique sourcing agreement with eastern Washington, but so we've learned that. I learned about the straw from them and hay. We are now taking that to a select number of Tractor Supply stores where we have the capacity and the zoning authorization to sell hay and straw. We suspect it could become very meaningful because all of our horse and animal owning customers are also stopping someplace else for hay and straw. So, John, the benefit for us there is we could become much more of a one-stop feed store for our most, our most important consumers. That's one learning.

As we mentioned a few quarters ago that Del's has a delivery service. We continue to test that in two markets, one in Texas, one in Florida, and we're fairly early on in the learning of that test. And we're also giving some serious thought to bulk propane, which is a very unique to our lifestyle, a product that sell -- that sells really quite well at Del's, and we're just working through the discussion phase on that and have more to report on bulk propane sales in a quarter or two.

And just to follow, with the expansion plans at Del's, obviously backend weighted but no change in the plans looking out in the next couple of years there?

At this point in time, no. As we've said, we are learning, we're studying. It's 4 to 6 for this year. The determinal factor about the speed of growth will be how fast does Del's take share, existing, because again those customers are all being served generally by independent farm stores, feed stores today. So how fast does it gain share, how fast do they ramp to profitability will determine how quickly we grow.

We have now and only five weeks ago, so I really can't tell how well it's working, we have opened our first Del's store in eastern Washington. Eastern Washington has many of the same, the market attributes of eastern Washington are much more like they would be in the other 48 states. They're western Washington, meaning that, for example, hay and straw would be much less important there than they would be in western Washington.

Additionally, we have now staffed up to accelerate the growth. We've hired or are recruiting a real estate director to work in that geography and a construction manager to oversee the expansion of Del's, so we remain very confident but we as of yet do not know enough to say when it's going to be a 100-store chain.

Thanks.

You're welcome.

Our next question comes from Jack Murphy from William Blair. Please go ahead.

Just drilling into the comp a little bit, I was wondering could you give us some color directionally on how much the comp weakness relative to your plan was contributed to weather versus the macro factors? And then as a follow-up to that, has July weather been better relative to June and May? Thanks.

Sure. If we look at the impact of weather in April, and I think April was -- there was a couple of things -- there were some swirling currents in April -- for us it was principally weather and that was a very, very significant hit for the quarter. Of everything we could talk about, April business was the most significant hit. The next most significant hit with regard to sales volume, not with regard to profitability, was the tough selling season, again, for the outdoor power equipment business.

And July, so far this year, the drought has continued. Texas is green, Oklahoma, that's positive, and it continues to be pretty brown in northern Florida, Georgia, and Alabama. And then, unfortunately, it has now expanded up to Tennessee, Kentucky, and into Indiana and Ohio. So we continue to see drug correlation to the lack of moisture and the sales performance of categories related to cutting grass.

Thank you.

Our next question comes from Matt -- I'm sorry -- Dan Wewer from Raymond James. Please go ahead.

Jim, I was just trying to get my handles around the long-term operating margin opportunity for Tractor Supply. You know, if you look at some comparable companies, pet retailers are showing the ability to generate operating margins around 8%, the home improvement chains, you know, double-digit levels. And one would think that your soft line business could be your highest margin category, and after the last couple of years operating margins were tracked or running a low 6% rate. And I was just curious in your view are there -- there are two or three issues that account for the -- for that gap?

Yes. I guess the largest, the largest issue is one of the reasons that we exist is that we have assembled a collection of categories that would probably not pass their financial hurdles. And what's interesting about that is we've -- while they may have 8%, 8% to 10% EBIT level earnings and we have 6% moving up, we have a model that allows us to produce 6% from categories that they find unattractive. Those categories are very important to our consumers so not only does the fact that they don't want to participate make them important to us, the fact that our consumers, they're more important to our consumers than they would be to their consumers.

But looking forward, we certainly believe and, again, the current sales climate makes it challenging for improvement this year, but we are certainly -- remain dedicated to our long-term objective of mid 7s EBIT level profitability, and as we continue to grow our expertise and resulting mix in direct import, as we explore price optimization opportunities, as the growth rate of new stores comes more into our run rate and we lap the headwind of increasing occupancy costs, we certainly have the opportunity to begin moving up towards the 8 -- I don't see with our current mix of merchandise that we'll ever be in the 10s.

Also, I had a question for Tony. On the balance sheet for last year's second quarter inventory is reported differently than it was a year ago. And as I recall the same thing happened in the first quarter. Is that difference that you're adding in the inventory in-transit to the year ago financials which you did not do 12 months ago?

Yes, that's the majority. The in-transit, we started to adjust for in-transit in Q3 of last year, so this was a quarter that was not comparable. We do issue the financial statements that include both in-transit and any items that we had considered as consignment last year, basically, under our rider program, so it's basically those two numbers, and I provided the in-transit number to you, as well.

And can you remind me on the [pack away] inventories, what those amount to compared to a year ago?

Gerry?

Dan, it is down. When you talk about pack away inventories you're talking fall/winter merchandise so we carried over coming out of the winter selling season. The very strong sales that we experienced in January and February really cleaned out the shelves, so our inventory is quite favorable YOY in fall/winter merchandise relative to our pack aways.

So you said there's actually fewer pack away dollars now than there were 12 months ago?

Yes.

Okay. Great. Thanks.

Our next question is coming from Matt Nemer from Thomas Weisel Partners. Please go ahead.

Afternoon, everyone.

Hi, Matt.

My first question is on the outdoor power equipment and riding lawnmower category, do you have any market share data for you versus the home improvement guys? And then in that category, looking at -- looking forward, can you remind us how much of that season is ahead of us relative to what happens in the first half of the year?

Sure. Two things. Yes, the market share data that we have seen, first of all, we believe probably understates our overall market share, but we think the accuracy is consistent YOY and that would indicate that we have held or marginally increased share. Principally think of it as holding share this year.

With regard to the relative importance of lawn and garden power equipment in the second half versus the first, it is the second quarter, first half is most important, the second quarter is by far the most important, and on a half to half mix we're probably talking 70/30 with 70% of that business behind us.

Okay. And then my next question is for Tony, on the inventory can you sort of walk us from where -- from your reported numbers to the 2.8% increase? Because I -- I've got the absolute number of just under I think 18% or 20%, and I'm just -- I'm a little bit confused about the 2.8%.

Yes. We can go offline as far as the details. You know, just on a top level, the in-transit, we back out the in-transit, which is $20 million versus $2 million last year, and then we also take any stores that we have not opened at the end of the quarter that were carrying inventory. Those are really the two largest items, and then we take the remainder and basically divide it by the store count. So if you have trouble getting to that number we can try to walk you through it.

Okay. Great. And then, lastly, on the Q2 stores that opened with lower occupancy expense, I think you said they came in about 100 basis points lower YOY, which I assume is related to locating more on the Silver Mile. What is the -- what has been the sales experience in those stores as you've moved a little bit away from the Gold Mile?

Yes, let me correct that. If you go back through the notes to the conference call what we said, two things that I disclosed and Jim reiterated, the stores that we opened in 2007 are slightly better than the 2006 when it comes to the occupancy ratio. The stores that we approved in this last quarter that have not opened yet, that will open most likely more in 2008, those stores that we approved this quarter versus those that we approved last year at the same time, they increased 100 basis points. So -- I'm sorry, they decreased 100 basis points.

So if you're looking just at the actual results in this year's operations or improvement, it's been relatively limited, but we did note that there was a slight improvement because really we started this program at the second half of last year and we identified a limited amount of stores that we could take-off of our timetable, we -- and we also pushed back a few that didn't make sense, that were not as optimal. So you'll see just very limited impact as we move through this year, but as we look forward those stores that we're approving and the deals that are being brought to us are much more favorable because of the occupancy expense.

Okay. Thanks for clearing that up. And, actually, if I could just squeeze in one more. If you look at the categories that are working, which it sounds like animal and pet is one of them, it's also an inflationary category, can you split out the -- is it possible to look at the growth in those categories ex inflation and give us some color on how they're doing?

Matt, this is Gerry. And when we talk about animal supply products that is much more inclusive of product beyond just pet food, birdfeed, and livestock feed, because we include fencing in that category, pet supplies, pet containment, equine supplies and such that fall under that, that particular umbrella.

I would tell you that of the increases we saw in that total category in the second quarter the impact of inflation on the retail selling prices contributed about 20% of the overall comp increase, but it was a relatively small percentage of the total increase we saw in that piece of the business.

Great. That's very helpful. Thanks so much.

Our next question comes from Peter Benedict from Wachovia. Please go ahead.

Hey, guys. Thanks for taking my call. Just could you clarify the rider mower inventory position? I think you used the term "balanced," can you just kind of expand on that? And let me know what are the plans for that category in the third quarter? I know it becomes a smaller part of the business but, Jim, did I hear you say that you weren't looking to move through that? I'm just a little confused on what the plans are for the riders at this point?

Yes, my comment was that we did not expect to recover lost business, but we do expect business to run at current or maybe slightly better rates as -- if we do get -- if we get some rain, which Lord knows if we're going to, if we get some rain in the southeast we could have some acceleration of sales.

Gerry, do you want to speak to the inventory position?

Yes. Peter, a couple of things happened. First of all, we saw the business collapse in the month of April this year, we saw the revised forecast from [OPEI] in terms of what they were forecasting for the year. We pretty much set things in motion here and we shutdown incoming freight very abruptly, worked with our partners on the manufacturing side so they weren't hung with a lot of inventory, and by choke holding really the inbound freight, our inventories came through a very difficult second quarter and that category, in very good shape. We do not anticipate any margin exposure when it comes to the inventory that we have. And as we would in any other year, Peter, we will go through a typical sell down phase with the goal being to drive our carryover inventory down to record low levels coming out of the year this year.

Okay. Great. That's very helpful. Thanks very much.

Your next question is coming from David Magee from SunTrust Robinson. Please go ahead.

Hi. This is [Chris Rablejay] on the call for David today. I just had one question. You mentioned an acknowledgement of the macro issues affecting the consumer today, and I was just wondering if you could give some color on what your assumptions are in that regard for the balance of the year, whether it be the housing market or gas prices? Thank you.

Yes, the -- I guess we've learned there's more correlation to our business through housing turnover than we may have assumed previously. There certainly is some correlation. Everything, and we don't take time to study it, we all read the same reports that I'm sure you all see -- I guess the range -- the range of improvement in housing turnover I've heard is -- I guess the rosiest I've heard is Q2 of '08, and I read something this morning about '09, so we're going to have assume that this is business as usual for awhile on things related to housing, to housing turnover.

Fuel will continue to lap, and I believe that for many consumers, not so much our -- our average consumer is probably fairly unaffected, you know, they have [$50,000] of household income, they've seen $1,200 go away a year. We're lapping that, they've adjusted to it. But we do serve that $35,000 household income and the $1,200 of discretionary income is a third of what they have available, and it's structurally I'm gone for the foreseeable future. So we would suspect that to be a drag on comps for the foreseeable future, although, again, in retail at some point in time you lap that and it goes into the comp base and you begin to build again from that point.

Okay. And then just one other question, speaking in the Georgia market anyway, it does seem like there has been at least some improvement in the drought condition. You mentioned, though, in your outlook that things are still looking pretty brown in the southeast, so I was wondering if there are some pockets where things have improved or whether the dryness is really outweighing?

It is still a very -- it's either severely involved or involved according to the U.S. drought monitor. There has been some release -- relief, and actually I was talking to a district manager today from a part of Georgia who had seen a rainstorm on a Tuesday/Wednesday and saw sales on Friday/Saturday. So it can turn around quickly, the problem is that the stores that have seen the relief, do not constitute a majority of the stores in a drought involved area.

Thanks very much.

Sure.

Your next question is coming from Brad Thomas from Lehman Brothers. Please go ahead.

Hi, thanks.

Hi, Brad.

A couple of quick follow-ups, I guess. First of all, on the pet category, I was just curious if you'd seen any impact from PetSmart's exit of the equine category during the quarter?

Brad, this is Gerry. And just as a comment, within the animal sector of our business the equine supplies department performed very well. We were very pleased, but to be quite honest with you the reality is is that the PetSmart stores that had a [state line] tack department within them actually only affected a very small percentage of the total Tractor Supply store base out there today. So overall we believe that while there may have been a slight lift in a handful of stores it was not the majority of what we saw in terms of what was driving our comp store sales performance in equine.

Okay. Thanks, Gerry, that's helpful. And maybe just last -- one last question? Can you talk a little bit about some of the more recent product introductions you've had, how the Masterhand is doing, and maybe any future product introductions that you have planned for the back half of this year?

You know, from the standpoint of just commenting on a couple of the new category introductions that we've done, a couple of things. We've introduced some new product in zero-turn riders. I think Jim alluded to some of the premium zero-turns that we were carrying in our product assortment, and we're very pleased with their performance, in an otherwise very challenging year in outdoor power equipment from that standpoint.

I think we've spoken in the past about the success of the [Husforna] brand of outdoor power equipment that we've introduced. We are now taking that particular brand and carrying it through to other categories of merchandise that they offer. It seems to be a brand name that resonates very well with Tractor Supply customer base out there today.

In addition, we continue to be delighted with the performance of Masterhand when it comes to the rolling tool chest piece of the business which we launched last fall. We are gaining momentum and traction in the portable power tools, but again that's a longer term commitment and brand building effort on our behalf. And we will be launching this fall an expanded assortment of Masterhand hand tools which will be a significant new launch for us in the fourth quarter.

Okay. Great. Thanks so much.

Our next question is coming from Jay McCanless from FTN Midwest. Please go ahead.

Hey, good afternoon. Two quick questions. First, when you talked about rolling the Christmas and cold weather seasonal merchandise earlier, should we expect that by the end of the third quarter or is it going to be on into the fourth quarter?

It will be in the third quarter, as it was last year, but it will be a couple of weeks earlier in the third quarter. In the far northern regions, it's -- actually it may even happen in August; is that right, Gerry?

Uh-huh.

So if you look at -- if you think of our business as being stores north of I-80, I-90 we will be set mid-August, I-70 to I-80 will be set early September, and then south of I-40 will be set, I guess, by end of September?

That's correct.

But in all cases we're going in a little earlier. Our competitive store trips a year ago indicated, as you know, we spend a lot of time in the marketplace, and we happened to make a very extensive trip last year, and we noticed that many of our consumer -- many of our competitors were set and being shopped a week to two weeks earlier than we were. Consumers are in the consideration phase at that point in time, so we thought we would test that this year and then see what the payback was both in preseason sale and in in-season sale due to the fact that they saw the categories presented in our stores earlier.

Okay. Thanks. And one other question. In talking about the my garage concept, I know you're just rolling the test out at the end of this quarter that we're in, but what do you expect assuming the test goes well, et cetera, what is going to be the impact on per store inventory in terms of percentage increase over where we are now if you rolled that out to all the different stores?

Jay, there is an impact on inventory, but we expect that we will see an acceleration in sales as a percentage of the store sales base that exceeds the investment and the inventory, once we get exposure to this and it reaches a -- what we anticipate the run rate of those categories to be. So we are going to be monitoring this very, very closely. We're breaking through some paradigms, trying some exciting new categories for Tractor Supply and we truly are very hopeful that the results will pan out in much the same way the results of our tests in both clothing and pet -- and the pet area have proven out for us over the course of the last couple of years.

Okay. Great. Thank you.

There are no further questions. Please continue with any closing comments.

Okay. Well, thank you, all, for the calls. Great questions. We remain -- when we look at the core corporate business we're delighted. Those categories that are most unique to Tractor Supply performed very well. Those categories are not dependent on rain and grass growing performed universally very well. We're delighted to see our transaction counts increase in comp stores. And while we all recognize that this will be a challenging year for the retail industry, we feel comfortable in reaffirming our forecast for the year, and we'll work hard to deliver the earnings as projected.

Thank you, all, very much. Pray for rain, and we look forward to seeing you and talking to you at the end of Q3. Thank you.

Ladies and gentlemen, that does conclude our conference call for today. You may all disconnect, and thank you for participating.