Tractor Supply Co (TSCO) 2009 Q2 法說會逐字稿

Good afternoon, ladies and gentlemen, and welcome to Tractor Supply Company's conference call to discuss second quarter results.

At this time, the participants are in a listen-only mode. Later, we'll conduct a question-and-answer and any instructions at that time. (Operator Instructions). Please be advised that any reproduction of this call in whole or in part is not allowed without prior written authorization of Tractor Supply Company. As a reminder ladies and gentlemen, this conference is being recorded.

I would now like to introduce your host for today's conference, Miss Erika Petid of FSD. Please go ahead, Erica.

Thank you, good afternoon, everyone. Thank you for joining us. Before we begin let me take a moment to reference the Safe Harbor Provision 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 it can give no assurance that such expectations or any of its forward-looking statements will prove to be correct.

Important risk 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 Securities and Exchange Commission. The information contained in this call is accurate only as of the date discussed. Investors should not assume that this statement will remain operative at a later time. Lastly, Tractor Supply Company undertakes no obligations to update any information discussed in this call.

Now I'm pleased to introduce Jim Wright, Chairman and Chief Executive Officer. Jim, please go ahead.

Thank you Erica, good afternoon everyone. I'm calling in from the road, and Tony Credele, our Chief Financial Officer, and Greg Sanfort, our President and Chief Merchandising Officer, and Stan Ruta, our Chief Operating Officer, are together at our Store Support Center.

During the second quarter, our [largesse] in both sales and profits, we remained focused on our key priorities for the year, which are to grow our business and improve our business by continuing to differentiate our merchandise mix and execute our retail strategy.

As a result of our collective efforts to win in the current environment and beyond, we grew sales by 5% despite the challenging top line environment and improved gross margin by 150 basis points to 31.9% through a number of strategic initiatives that I will discuss in a moment. We were pleased to deliver better than expected net income of $54.8 million or $1.50 per diluted share, a 30.4% increase.

Let me briefly discuss some of the highlights that contributed to our performance. First, we continued to provide our customers with a compelling merchandise assortment that supports the basic and fundamental needs of the rural lifestyle. Our consumable, usable, and edible or "Q" categories remain our strongest performers, particularly animal and pet-related products.

We have successfully increased our prominence of these less discretionary SKU's and our advertising and our in-store presentations, while insuring that we offer a compelling value in these categories to our customers. As we anticipated, demand for replacement parts has grown as consumers continue to place greater emphasis on repairing and maintaining their existing tools and equipment.

During the quarter we experienced particular strength in repair parts for outdoor power equipment, small farm tractors, and farm implements. At the same time we narrowed our assortment of certain big-ticket items to reflect the anticipated weak trends in outdoor power equipment. We think we are very well positioned to exit the season at very appropriate inventory levels in those categories.

We also expanded our lawn and garden offering by creating a Destination Department within the store. Throughout the first half our team studied and responded to the "grow it yourself trend," consistent with what we would anticipate from our self-reliant customers. Products related to planting gardens, such as seeds, fertilizers and tillers had a very good sell-through. Additionally, our customers responded well to canning products.

We look forward to applying our findings in the future as we enhance those categories to fully capture additional opportunities.

Second, we effectively refocused our marketing program to align with spending and the offer with the current market conditions. In doing so this quarter, we eliminated our television ad spending and, frankly, have done so for the year. As you heard us say before, we believe that while TV advertising has somewhat increased our topline recall, we have never been able to correlate TV to sales or traffic. In a more normalized retail environment, we will re-evaluate television's role in our marketing mix.

We also re-invested a portion of our TV ad budget into our direct marketing program that includes mailing and e-mailing circulars with targeted offers to various customer groups, which we have segmented by spending profiles. As we enhance our CRM capacities, we are continuing to test and refine these offers through our promotions, drive traffic, and profitable sales.

Third, we continue to deliver improved performance through our inventory management initiatives. We have had a lot of success this year with our 20-250 Initiative that focuses on the top twenty categories and the 250 most important SKU's within those category.

We have very high in-stock level on these items, while driving total per-store inventory levels down on a year-over-year base for the seventh consecutive quarter. At the same time, we are investing in categories that are most timely and most important to our customers.

Overall we are delighted with our performance in the first half of the year, and as you know, we recently raised our earnings expectations for the full year. We're proud that other key metrics such as gross margin net of advertising and positive comp traffic.

Like to take a moment to thank all of our associates. The collaboration of our stores and store support teams has really been excellent and we continue to demonstrate our ability to navigate in the challenging environment. Our team has been very pro-active as we transitioned from last year's high inflationary environment.

We are successfully managing cost and testing the stickiness of retails on a daily basis. In doing so, we're mitigating the risk of steep deflation. Further, we have managed through the seasonal period, where big ticket items have in the past had a more pronounced impact on our business.

Now, I would like to turn the call over to Tony to review the financial performance and discuss our outlook for the remainder of the year.

Thanks, Jim and good afternoon everyone.

Q2 is our largest sales volume quarter, and we are extremely pleased with the overall results. On a year-over-year basis, we grew sales by 5.4% for the quarter and reduced our per store inventory levels for the seventh consecutive quarter. We believe these achievements continue to demonstrate the strength of our business model as we navigate through these tough economic times.

For the second quarter ended June 27, 2009, net sales were $946.5 million and net income was $54.8 million or $1.50 per diluted share. Total comp store sales in the period decreased 2.7% and non-comp sales were approximately $72.8 million or 7.7% of sales.

Comp sales were negatively impacted by a 100 basis points, due to one less selling day in the quarter because of the shift of the Easter holiday. We estimated inflation benefited comps in the 3% range, which was significantly lower than recent quarters. We have been successful in our efforts to manage pricing in an inflationary period by maintaining our gross margin rates and per unit profit.

While our customers are making more frequent trips to the stores, they are primarily shopping for essentials that support their rural lifestyle. The comp transaction count increased 4.6%, and we are very pleased that we continue to drive foot steps into the store, especially in light of the decreased marketing spend.

The average comp ticket decreased 7%, resulting principally from the softness in the sale of large ticket items. Our core consumable, usable, and edible categories, including live stock feed, as well as pet food and supplies, continue to be the key merchandise drivers of our sales.

Spring was delayed by a cold April and had a pronounced negative impact on comp sales in the quarter. May was slightly warmer and wetter than last year particularly in the Southeast. As a result, May was the strongest month on a sales comp basis. June was minimally cooler than the prior year and was wetter in the Northeast. However, as a result of the lower demand for big ticket items we did not re-capture the sales lost during the cold April.

Sales were the strongest in the South, where the colder April had less of an impact. We were happy to see sales in the Southeast perform well as we cycled against dry conditions and as the performance of our Florida stores seems to have stabilized.

Comp sales in our Del stores were approximately at chain average. Since feed and hay make up a significant portion of Del's product mix, we do not expect strong comp sales as Del's cycles last year's high inflation in these categories. Overall, we were pleased with Del's gross margin improvement and their ability to exceed plan under less than favorable economic conditions.

Turning now to gross margin, compared to the prior year quarter we increased gross margin by approximately 148 basis points, 31.9% of sales. The favorable LIFO provision relative to last year's abnormally large provision, accounted for 61 basis points. The LIFO provision was approximately $0.06 per share in the second quarter 2009, compared to $0.14 in the second quarter of 2008.

Four other components contributed to gross margin improvement. First, lower freight expense compared to the prior year was a strong driver of this improvement, resulting from fuel price increases relative to last year and some preliminary gains from our transportation cost savings initiatives.

Second, higher direct profit margins because of better purchasing as well as continued vendor support of our merchandise initiatives and promotions.

Third, a lower mark down impact. As we have kept inventories fresh, we minimized exposure to margin erosion from mark downs. Lastly, our loss prevention initiatives have resulted in a reduction in year-over-year shrink.

For the quarter, SG&A including depreciation and amortization was 22.6% of sales which was less than a 10 basis point increase over the prior year quarter. While we did not leverage this expense due to our negative comp sales, we are pleased with the SG&A expense control.

Importantly, our advertising expense offset a large portion of the de-leveraging and improved by approximately 110 basis points. As we noted in our business update press release earlier this month, we eliminated our TV spend and our direct marketing program is proving to be very efficient. As Jim mentioned, our focus on driving gross margin dollars net of marketing expense has been effective as evidenced by our comp transaction increase.

Although, we are pleased with SG&A cost reductions, some of the savings were offset by additional incentive compensation related to the better than planned operating results. The pre-opening expenses for the new stores were approximately $1.5 million, compared to $2.6 million in the prior year quarter. In the second quarter, we opened thirteen stores compared to twenty-three stores last year. Pre-opening expense per store was consistent on a year-over-year basis.

Turning to the balance sheet, we continued to improve our inventory productivity. At quarter end inventory levels per store were down approximately 7% on top of a 12.2% decrease at the end of Q2 last year. Our calculation based on average cost of inventory and excludes in-transit inventory and inventory held in unopened stores. Annualized inventory turns for the quarter were 3.32, nearly a 6 basis point improvement over last year's second quarter. We had a slight decrease in inventory financing to 53.4%, down 209 basis points as we have been more aggressive in working with our vendors in capturing discounts.

Capital expenditures for the quarter were approximately $15.3 million, related principally to our new store opening program. This was a decrease compared to last year's second quarter spend of $27 million because we opened fewer stores this year and spent approximately $5.3 million last year on our Waco distribution center expansion in that quarter.

During the second quarter, we made limited purchases under our stock repurchase program. We purchased approximately 21,000 shares for $742,000 for a cumulative total of $214 million since the inception of the program in February of 2007. Share repurchase program did not have a significant impact on EPS or the quarter or year to date results.

We are extremely confident in our cash flow and be liquidity position. We believe it is important to maintain a prudent balance sheet management in the current environment.

Turning to our outlook for the full year, in our business update release earlier this month we raised our previous financial expectations for full year net income to a range of $2.78 to $2.92 per diluted share compared to our original guidance of $2.58 to $2.74 per diluted share. We expect full year sales to range between $3.15 billion and $3.25 billion compared to our original expectations of $3.2 billion to $3.3 billion. Correspondingly, same store sales for the year were expected to be flat with a decrease of 2%, compared to the original expectation of an increase of approximately 1.5% to a decrease of approximately 1.5%.

So let me discuss a few of the underlying assumptions included in our estimates for the back half. With respect to sales, customer spending has generally remained in line with our expectations in the first half of the year. Although July sales have gotten off to a slow start, we continue to see our customers shopping our stores for a wide variety of functional nondiscretionary items that are very relevant to their lifestyle. They continue to limit discretionary purchases and search for compelling values.

Economic forecasters are projecting that unemployment will increase further in the second half and we are not immune to the negative impact that this has on consumer spending. We will be cycling a very difficult sales comparison in Q3 as inflation became more prevalent last year.

Also in Q3 last year, we had a very high level of emergency response sales related to Hurricane Ike and had above average pre-sales of heating stoves and fuel. Oil and gas prices are lower and accordingly there is less incentive to install or utilize alternative heating. At the same time there is less dependency on big ticket items in the second half of the year than in the first half.

Although we have a large variety of large ticket items throughout all the seasons, as we move into the fall season we believe that many of the fall and winter items will face somewhat weaker head winds than we had in the first half.

In general, retail sales have been generally consistent since the fourth quarter last year. And as such we believe that the comparisons will ease as we move into the fourth quarter. Overall we believe if our sales are somewhat softer as we expect, we'll be able to offset this through the related freight savings and strong gross margin management and reduced marketing expense.

With respect to gross margin, we expect some gross margin pressure as we move into the second half of the year. Although we'll be cycling against a very heavy inflationary period last year, we believe that the more significant cost reductions that we have negotiated have cycled through our moving average costing.

We anticipate that inflation impact will be limited, while the possibility of significant deflation has been substantially reduced because retail prices have been firm and we have been managing gross margin effectively.

We anticipate freight will continue to have a favorable impact on margins. Fuel prices remain well below last year's prices. And although fuel prices began to decline in 2008, the P&L benefit was delayed as the freight costs are capitalized into inventory. Additionally we believe that our initiatives to increase efficiency of transportation and freight will continue to gain traction.

With respect to LIFO, based on our expectations for a year end inventory level to mix, we are currently estimating a full year LIFO provision of $13.1 million, compared to our full-year estimate of $14.1 million at the end of Q1. As you will recall, the LIFO provision is dependent upon the combination of year-end inventory levels and the mix of products as well as the inflation rate for various categories.

We continue to project a LIFO provision despite various cost reductions in several key product categories because we will have a net increase in aggregate total inventory. This is driven by our mix, which continues to shift to fresh, faster turning goods as well as our store based expansion. As a result, we are adding merchandise that has higher inflation indices than the existing Company averages, and this creates a LIFO provision even as inflation moderates an inventory per store decline.

We are pleased with our SG&A expense management in the quarter. SG&A leverage will not be achievable in the second half of the year on the flat to negative annual comp sales forecast, especially as we cycle some of our cost-saving initiatives implanted last year.

Also as a reminder we are on track to begin to roll out a good portion of our POS system this year and expect to incur additional payroll in Q3 and Q4 to support this implementation.

Consistent with our approach in the first half we will continue to benefit from negligible television spend and continued efficiency in our advertising spend. It is important to note that the second quarter has historically been the quarter where we spend the most TV advertising. Marketing spend in the third quarter has been significantly lower and in the fourth quarter moderately lower when compared to Q2.

We continue to expect to open 70 to 80 new stores this year. We opened 41 stores in the first half of the year. We have been aggressive in managing our capital and limited our capital spend to store growth and essential strategic initiatives. We now expect that capital expenditures will range between $75 million and $80 million down from our original projection of $85 million to $95 million.

To conclude, we are confident that our ability to execute our retail strategy and serve the functional needs of the Out Here customer will be the key differentiators as we manage through the remainder of the year.

Now I would like to turn the call back to Jim.

Thanks, Tony. Given our performance in the first half, our team has certainly proven that we can adjust and win in the current environment. Through very deliberate actions, we've been able to enhance our organizational efficiency, strengthen the leadership team, while all the time doing more with less. We plan to carry the momentum into the second half of the year.

With that in mind, we do recognize that the state of the macro-environment remains challenging and overall consumer sentiment is low. Tractor Supply will remain nimble and react quickly to factors outside of our control to maximize our performance. We believe we have an opportunity to capitalize on the current marketplace, in the current marketplace and those trends by meeting the everyday needs of our customers as we continue to focus on executing our retail strategy.

As you heard us say before, we are committed to providing the best service in our stores and solidifying our position as the authority on the Out Here lifestyle. We are pleased that year-to-date, our total customer loyalty score has increased 400 basis points. This hard earned position must be protected and re-earned daily and we are dedicated to that effort, category by category and store by store.

Let me provide you with some more detail on some of our programs. First, we are planning some changes to enhance the shopability of our in-store presentations to help our customers find the products they need and make their buying decisions.

For example, we have recently re-organized our tool section by brand to make it easier for our customers to find brands such as DeWalt, Masterhand, and Kawasaki in one central location. Additionally, we are strategic placing more of our Q items in the traffic flow. However, our merchandising assortment will remain focused on the value-oriented needs-driven consumer. With that in mind our Q categories will continue to be the primary traffic drivers.

In addition, we are repositioning our C.E. Schmidt private label foot wear assortment to respond to a price conscious consumer. We also expect "Replace the Parts" to continue to benefit from the postponement of big ticket item purchases.

As Tony discussed, we do believe our heating category will face potential head winds as we face stronger and earlier sales from the alternative heating in the third quarter of last year. That said, we are planning carefully and believe we'll recover any drag in the heating category in Q4.

At the same time, we'll focus aggressively on managing expenses that do not affect our customer's overall shopping experience. We will look for areas to drive further efficiencies such as marketing and transportation. Additionally, we'll optimize our inventory initiatives through programs such as 20-250.

Turning to Del's, our teams are working closely to insure that we are appropriately managing some top line pressure as a result of less inflation this year compared to 2008. However, we expect this business, which exceeded plan in the first half of the year, to continue to meet expectations. As such, we remain comfortable with our position and are delighted with the leadership and the appearance of the Del stores.

Before we open the call for questions, let me take a moment to re-enforce why we believe that Tractor Supply Company is unique and well-positioned to succeed now and in the future. First, we serve a unique niche. Our loyal customers depend on us to support their everyday needs. We continue to develop deep understanding of our customers and how we can better serve their needs. This, combined with a strong business model, enables us to expand our store base and grow in this market.

With that in mind, we enjoy limited and fragmented competition. Therefore we're able to meet the functional and nondiscretionary needs of those living the Out Here lifestyle. We bring efficiencies to our market and are very pleased to say that during these challenging times our customers are returning to our stores more frequently than ever. We have a solid foundation in place with an excellent capital structure. Our balance sheet is strong and we have no long term debt.

Lastly, we have a seasoned management team that has successfully navigated through many retail cycles. In short, we continue to be a growth Company. We continue to collaborate across all levels of the organization, to provide our customers with relevant merchandise, a one-of-a-kind shopping experience, while increasing both our top and bottom line and enhancing our overall organization for both the current term and the long term.

Operator, that concludes our prepared remarks and we would now like to open the call for questions.

Thank you. (Operator Instructions). Our first question comes from the line of Peter Benedict from Robert Baird.

Tony, Can you talk a little bit more about the ad spend savings. Maybe just some numbers around how much was actually eliminated versus reallocated over to the direct marketing?

Yes, I can touch on that. We don't get too granular when it comes to the marketing dollars. The majority of the savings was translated directly to the bottom line as we eliminated principally all television ad spend. So in the 110 basis points that I quoted reduction, I would say principally the majority was that.

There were some additional savings relative to other programs that are new -- FBP, John Wendler had analyzed and we had eliminated as well. And the reallocation was probably much lesser proportioned of the 110 basis points.

And then as we look to the second half of the year, I know you said you didn't think you would be able to leverage SG&A on the comp outlook that you have. What do you think -- what kind of comp would you need to leverage the expense profile in the back half?

Difficult question to answer Peter, because depending on if we move back to more of a normalized situation, our response would be more in the 2% to 2.5% range. That could be less if we continue in a more difficult environment where we continue to focus on cost reductions and cost savings. But I would say in a normalized environment the number is still around the 2% to 2.5% range.

Thanks and then lastly just on the inflation impact, you said was about 300 basis points. You're not expecting any deflation in the back half of the year? As you start to go against the peak numbers in the third quarter, do you think net-net you're going to have what -- just kind of flattish pricing year-over-year, or do you will actually incur some deflation in the back half?

Clearly on a category to category basis, it will change dramatically. But on an overall basis, we are looking to somewhat flat, to potentially 1% when it comes to inflation. And a lot of it really has to do with the mix of the merchandise as we shift to more of the Q items and the pricing that related to the Q items relative to last year.

Great, thanks so much.

Your next question comes from the line of John Lawrence from Morgan Keegan.

Just real quick, Jim, could you comment on this environment? I don't know if Greg could comment on the ability -- so much of your history you have been able to find new products and put into the mix. Can you talk about -- a little bit about that in this environment and how much more difficult is it to find those new products that you can put in different categories?

Let me take that first, then I'll turn it over to Greg. John we have -- obviously as you have seen our inventory go down now for seven consecutive quarters. We have done a tremendous job of purging our stores with what may have been some of our more aggressive testing practices in the past.

So, today we find ourselves in a terrific position of having floor space, shelf space, and inventory dollars available to invest. And frankly we are now looking to more aggressively begin testing and resuming the Andy Grove phrase you heard me use from time to "fail often, early and cheaply." And I think there certainly is merit in testing new products and new offers with our customers. Greg, do you have a follow-up on that?

Yes, John, we continue to find new products out there, particularly in some of those core categories that support the Out There life-style. There is no lack of newness out in the market. As a matter of fact we just came through a session where we have open buying days. And we had a record turnout of new vendors, with new products attending.

So, as Jim said, we're in a great position right now with our inventories to react to things. And if anything, the faucet has been turned back on for looking at and bringing into the assortment much newness here about the third and fourth quarter.

And just a follow-up, there, if you look at the two private label categories, Red Shed and C.E. Schmidt, would both of those product lines be expanded say for the second half?

Two things to comment there. One is C.E. Schmidt will be expanding. We're actually adding the Missy component to that as a launch this fall. So that is a major expansion.

And also on the Red Shed side, we're taking a look at where that product category makes more sense.

And it really is in the home accent, home decor side. And we've really done a great job with this fall's assortment of narrowing the focus, looking at our price points to make sure we're competitive on a day in, day out basis. And I believe the customers will respond appropriately.

Great, thanks a lot.

Your next question comes from the line of Dan Wewer from Raymond James.

Tony, appreciate the help on impact of life and gross margin rate. Can you provide us some similar details on the impact of freight? And how much that benefited gross margin rates? And within the freight savings, how much of that do you believe is permanent through the initiatives you're implementing? And how much is reflected in the drop diesel prices year-over-year?

Sure, Dan. Generally freight, it has been consistent year-over-year. It is in the 40-50 basis point improvement range. And I would tell you that the majority, and by majority I mean in the 90% to 95% range of that improvement is related to the diesel fuel. The majority of the initiatives that we have in place as far as transportation, we believe there is significant benefit. But it is fairly limited when it comes to the impact that it has had on a year to date basis.

We do expect to capture some of that as we move forward. For example, we just renegotiated with our carriers. And that was implemented and effective as of the end of June. So we have some initiatives in place that we expect to get some additional benefits from. But year-to-date, the savings have been principally related to diesel.

And Jim, other retailers are telling us that they're seeing better same store sales in states that have lower unemployment; examples, Nebraska, Kansas. And on the other hand, seeing the worst sales performance in states with the highest unemployment rates. When you look at your regions do you see that kind of phenomenon?

We have seen some correlation, but not as direct, perhaps, other retailers are speaking of. We've actually taken down to look at in (inaudible) Ohio for example, the trends related to the proximity of a closing or a plant at risk. And there is certainly a correlation, but I would not say it is as significant for us as it might be for others.

And the last question I had going back to a pricing. PetSmart's been calling Out There, increasing their promotional intensity to drive traffic. I know there is not a huge over lap between your chain and theirs, but there is some over lap. Are you seeing any impact of their pricing strategies on your pet sales, which I know you called out as being strong. But are you seeing any impact in those regions or in pricing in stores that are nearby?

Dan, no, actually we know the presence and distance. We know the markets we share with them, which are much fewer than you might expect at the trade area level. And we also track our trends in those markets. And at this point in time, we see no reaction to their efforts impacting our trends.

Great, thank you and good luck.

Thank you.

Your next question comes from the line of Vincent Sinisi from Bank of America.

Thank you very much for taking my question. This is Vincent Sinisi with Alan Rifkin's team. Congratulations, obviously, on a great quarter. My question revolves around your 20-250 initiative. Now you clearly have been making good progress with that.

But my question is, in time, do you think that there will be any meaningful impact or benefit, I should say, on the gross margin end or is that initiative mainly a function of sales and inventory turns. And just a follow-up question. As you're expanding your private label goods, notably the C.E. Schmidt, any other progress that you have been making on the import goods side?

Greg, you want to take those.

Yes, I'll take it. First of all, on the impact of the 20-250, it is a list that we've developed. Really it is the core Q items as we have been talking about. And what happens is as you improve your stock position and the customers continue to come back and find that you're always in stock on these items, we start driving more volume, which then starts to relate to some efficiencies and some cost concessions that we can and have asked for. That's number one. So there is some margin gain there over time.

Number two on the import side in private branding, we continue to work that process. We have, over the next probably two to three years, a relatively aggressive plan to take in the key categories again that are part of the Out There lifestyle; the fencing categories, the feed and so on and so forth, the preparing maintenance and tractor, and so on and so forth. Those are the areas we'll focus on.

And we have already got plans to grow the penetration of private brand. We did already mention about C.E. Schmidt and some others. There is some margin expansion, but it is still a little ways in front of us. It is probably another good six months before we'll start to see that.

Great, thank you very much.

Your next question comes from the line of Robert Higginbotham from Goldman Sachs.

Good afternoon, thank you for the question. I wanted to dig into the gross margin a little bit more if we could. When you look at just your FIFO gross margin trends, your year-over-year improvement accelerated by about 50 basis points. And it sounds like maybe you got some incremental impact from freight. But I'm wondering if you could give a little more color in terms of what changed quarter to quarter. And maybe if you could throw whatever the mix impact might be into that. And then I have a follow-up on expenses.

Tony I think that is probably yours.

I'll take that. Yes, Robert, we tend not to give too much detail around the gross margins. But directionally, let me go over some of the comments that were in the prepared statement. Freight, obviously, is the biggest driver. And as I stated earlier, it's generally in the 40-50 basis points.

Shrink, we had very good shrink performance this quarter as well as in the first quarter. So that was the driver again to a lesser extent than freight.

As I mentioned in my remarks, we have been working with the vendors and have really been pushing very hard as far as getting the discounts as well as working with them on vendor support when it comes to pushing merchandise through the system. And some of the various promotions that we had in place. So as far as margin goes that was a benefit as well.

And then when it just comes to the freshness of the merchandise. As we cycled through last year, we really came into the quarter with very fresh merchandise, which obviously reduces the markdown exposure. I would say that the last three that I mentioned other than obviously freight and the 40-50 basis points, all were in the general category and sort of somewhere between maybe 10-15 basis point range.

Got you, that is helpful. And actually a follow-up on grosses before we get to expenses. When you look at price negotiations and actually if you look at the impact of deflation on your business overall, first of all, how far are you into price negotiations, kind of across your vendor base. And as I think of the impact on your margin rate, should I think of that more on your ability to further enhance those price negotiations or would the impact come more from your ability to hold retail?

I think currently it would come more from the ability to hold retail. Because as we continue to move through the cost reductions that we received and it continues to work through our costing model, we should be able to get some benefits there.

As it relates to our cycling through vendor meetings, we have a program as we cycle through most vendors over a three year period. But key vendors, we cycle through at least once a year. And we believe we've hit all the key vendors since last fall through the first quarter. And we constantly been working with those vendors.

So I would feel very comfortable in saying that we worked with a majority of the vendors to recoup cost reductions in these key categories where we saw price inflation in the cost of the merchandise last year.

Got you, go ahead.

Robert this is Greg. Just quickly, we're negotiating working on price every day. It is a daily exercise. So as prices move, commodity prices move, we are moving along with that in negotiations with the vendor community.

Understood, and then just a really quick one on expenses. You had one less selling day, in other words your stores were closed. How should I think about the impact to expenses during the quarter?

Generally, the impact would be very limited. I wouldn't allocate very many basis points at all to that. Sunday is a shorter day for us as far as payroll goes. A lot of times, those sales will be spread throughout the day before and the days after. So we'll have some additional payroll allocation relative to those days. So net-net of course there is a slight positive impact but it is very limited.

Great, thank you.

(Operator Instructions). Your next question comes from the line of Peter Keith from Piper Jaffray.

Thank you for taking the question. This is Peter calling in for Mitch Kaiser. If I did hear you guys correctly you may have commented that July was currently off to a slow start. And I wanted to see if that is the case is there anything unusual going on in the quarter with regards to weather or rain that you might be able to comment on.

I'll take that. Primarily it is a fact that July last year we had an abnormally positive and early sales of principally heating fuel, and also woodburning and wood pellet burning stove. So it was a very unusual event last year. Consumers had a lot of emotion around the anticipated cost of heating oil and propane. So that is one factor.

And then the weather has been -- probably -- a neutral force across the chain. And we do continue to see some head winds on just general big ticket sales.

Okay. And on the follow-up to that, the heating fuel, I know last year you had very strong sell through in Q3. And I think last year you thought maybe there was a some pull forward out of Q3 into Q4. So when you're thinking about that category for the back half of the year, are you now thinking of it as being flat? So, in other words down Q3 and then potentially up in Q4?

Yes, generally we feel much better about the half than we did about the quarter; about the third quarter. And I believe that because last year we were in a very poor inventory position in Q4 that we'll recoup quite a bit of anything we missed in Q3.

Okay, thank you for the feedback. One last question on expenses. I know at the analyst day, you talked about your initiative around the tractor value system. And had been able to manage down about $3 million in expenses regarding distribution of merchandise to the stores. As your meetings have progressed has there been any other initiatives that have come up that you might be able to discuss with us today?

I won't give you dollars, but I am frankly been delighted with our TVS or lean initiative. We have certainly identified value to be captured going forward. It comes to us rarely immediately, but frequently after we go forward and initiate the plans that our TVS process does develop.

It has also helped us a great deal frankly with how we work and how we look at waste. So, I am delighted, I can't really give you numbers but I'm really delighted with the progress we've made.

We are now three years into our lean initiative. And that is generally around the time that companies begin to get some traction, and I would say we're certainly on that track.

Okay, thank you.

Your next question comes from David Magee from SunTrust.

Yes, hi guys, just a couple of questions. You mentioned earlier some new products coming up the pike that has some excitement. Would you care to talk about which categories they would be in? Is it the gift side, is it the home that you're seeing some excitement?

Greg, that is yours?

Yes, David it is primarily in the seasonal categories, and we'll get much more specific than that. But I would tell you that the seasonal categories are where we see a lot of the newness. We are finding in the apparel and in the footwear elements some interesting new products that we'll also be introducing. So, generally, in seasonal, we're going to see most of it.

Secondly are you seeing much benefit -- your traffic numbers look very good. Is it in part because of consolidation out there? I would think that a lot of your smaller, fragmented competition would be under a lot of stress right now.

We are seeing some of the small -- particularly on the feed side. The small independent feed stores, frankly they have been consolidating for a number of years. We're seeing some acceleration in that rate of consolidation.

But I would, frankly, attribute most of our increased traffic to two fundamental initiatives. One, the constant focus and now for the last seven quarters the measurement of customer satisfaction. And all the initiatives in a store level that follow on that scoring system.

And then secondly, our Q item initiative, which has -- stands on many legs. One, obviously, the assortment through the pricing, and three the promotion of those more frequently purchased goods.

Great job, thanks a lot.

Thank you.

Your next question comes from the line of Jay McCanless from FTN Equity.

Two questions for you. First one, I was going the see if we could get an early read on the POS roll out and what, if any, effect that is having on the 20-250 plan?

Okay, Tony?

Yes, as far as the POS rollout, we have several stores in test. And we anticipate that we'll begin the roll out in the latter part of August. And we're looking to do a good portion of the stores prior to the holiday selling season and then we'll complete the remainder of the stores in the January and February time frame. Relative to some of the benefits, I'll let Stan speak to that.

Sure, Jay, benefits on the -- there are many, many benefits that we get from it. But starting from the customer experience just the quicker transaction speed on all transactions is going to benefit our customer experience, specifically, around the whole return process.

We also get some big benefits on electronic storage of customer data at Company level that we can share with all stores and learn, become smarter about our customers. We have got a lot of increased security and more internal controls with the new system as well as real time inventory. So a lot of reporting and a lot of enhancements that this new POS system is going to give us.

Okay great. The other question I had is that the base consumables that I believe you indicated the people coming in right now are buying. What percentage of the SKU's in 20-250 make up those base consumables; 50%, 60%, something in that range?

Greg, that would be yours.

I would say to you that a very high percentage is in that product. There are some seasonal products that move in and out based upon spring or fall, but it is a very high percentage that would be in the consumable, I will call Q category.

Better than 80%?

Really don't want to give you a specific number, because it does move between seasons. But it is a high percentage.

Okay. Great. Thank you.

Your next question comes from the line of Joan Storms from Wedbush.

Hi, good afternoon. Tony, I wanted to ask a question about with the LIFO looking out towards 2010, if we had the big negative impact to last year and the positive impact this year? Do you have any preliminary guidance you can give us for 2010?

A little bit difficult to do, my Crystal ball is pretty good for a six month period. But after that it is a little bit more difficult. I would caution my remarks by first saying that clearly last year was an aberration.

So at the $13 million to $14 million mark relative to prior years we have been in the $5 million to $8 million range. I don't think it was an extremely favorable year.

I would expect at these inventory levels that we would generally be in the $8 million to probably $13 million range for the most part in most years unless there is significant inflation or deflation.

Very helpful. Thank you.

Your next question comes from the line of from David Strasser from Janney Montgomery.

Thank you, as you guys are navigating through this environment you seem to be doing obviously a very good job doing it. There is cheaper real estate out there. How are you thinking -- any difference in how you feel longer term about the opportunities more or less; opportunities from a store-growth standpoint over the next say three the five years? As you continue to navigate through this, and square footage tends to go negative in this space?

David, let me respond to that. First of all, we'll be 75-80 stores this year. We expect the same level for next year. Sometime early next year we'll begin assessing the overall marketplace of how the base stores are doing. That will give us an indication of cash flow. And will allow us to set an expectation for the number of stores we open in 2011.

So for the most part it is really being driven by our read of the future health, I guess, of the American consumer. So at this point in time we see 70, 80 stores for a while.

Having said that, there has not been a significant change in the amount of product available, land available, or sites available for our growth.

Principally due to a lot of things that we all read about with retail failures. That is principally urban, suburban, mall-based and strip-mall based, much less of that happening in rural America. So there is not a tremendous inventory out there. And then our developers are also facing headwinds of ability and capital and debt to build up properties.

I mean okay -- are you seeing actually in this environment though in sort of the rural markets the square footage go away somewhat to what we're seeing in the more urban areas? Particularly, I guess in the home improvement area?

No, I'm not seeing that. Stan, do you have any insight on the space availability in rural America?

For all of the real estate deals that we've approved so far David, I mean we're running about the same percentage of retrofit versus prototype as last year.

So to Jim's point earlier, a lot of that space that we are all reading about, we're not finding it in the markets we serve and the markets we're entering.

All right great, thank you very much.

You bet.

Your next question comes from the line of Andrew Wolf from BB&T Capital Markets.

Thank you, good afternoon as well. I wanted to ask about your string of SKU or inventory reductions. And kind of ask you to flesh it out a little bit about whether this is more of a SKU and item reduction or just reduction of buffer stock or is it mix, or some combination thereof. I'm sure it's a combination thereof. But maybe help us understand sort of proportionately where it is coming from?

And secondly, as a follow-up. To the extent it is item reduction and SKU reduction and/or buffer stock reduction, could you ascribe are you able to quantify whether any of the fall off in the average ticket is coming from maybe being out of stock on some items or having actually discontinued some items?

Let me take a shot at a few of those, Andrew. First, I would attribute primary drivers of where we are today versus where we were seven quarters ago, when we began to gain inventory efficiency.

Is that, some of it is philosophical. We have taken over a period of time a different approach towards expectation of inventory productivity. That then runs through the fact that we are further down the path on e-3 and have significantly staffed up in expertise on our e-3 system.

We have also begun to be much more accurate with forecasting, both for seasonal, front end buys, and for ad goods.

There has been some obvious shift as we've talked about on the Q items. And the Q items, be they pet feed or animal feed, turn at a much higher velocity level than kind of the base mix.

So we're mix-advantaged, we're philosophically in a different place than we were seven quarters ago throughout the entire leadership team. We've also -- improved our forecast in demand accuracy.

Throughout all of that, across all categories including the big ticket goods, we have actually successfully improved our in-stock position. So average ticket is absolutely not being impacted by our ability to be in stock on those great weekends when customers are looking to purchase product.

Thank you, I think you covered the waterfront for me (inaudible).

Lastly, on the C.E. Schmidt footwear, I think you mentioned some repositioning in that because of the value conscious consumer. Could you elaborate on that given that it is your private label offering. It pure price points or is it just getting more into basics, away from maybe more style oriented foot wear?

Yes, really what we're talking about is looking at the mix of product, number one. Remembering that C.E. Schmidt serves a work-wear customer. Then number two, looking at the price value equation. C.E. Schmidt is an alternative to what I would call some of the other national brands that are priced a bit higher.

So it's some SKU reduction, some SKU focus. Really getting back to what I would call the work wear segment versus maybe some places where we may have, to be honest with you, strayed a little bit off with the styles that didn't make as much sense to the consumer.

So it is a pretty tight re-evaluation, but yet kind of a let's get in business, stay in business on the things that matter to our customer. And C.E. Schmidt from a price value equation just is a terrific product.

So, I feel very, very good about it. And that is sort of what the repositioning is all about.

Thanks and congratulations on the good work in the quarter.

Thank you.

Your next question comes from the line of Jack Bayless from Midwood Research.

Hi, regarding the new POS system is that going to have further advantages in terms of giving you better data of movement by SKUs particularly for faster turning items that would make you more effective in supplying the stores?

No, I think that the real advantage is more of the ease and the facilitation at the front end. It does give us real time inventory at the store. So the store can check and know exactly that they're in stock. But for the most part, we do have significant amount of information available today under our current POS system as far as SKU movement. And it will not provide any significant additional benefits in that area.

Okay, regarding looking ahead to 2010 in terms of your advertising expenditure there comparing with 2009. Would you expect an increase going forward perhaps in line with your store growth?

Because we moved to principally direct mail and print, the answer is yes. We'll see the absolute advertising dollars grow in tandem with Uni-growth because every new market will result in incremental spending. That said however, we have recently changed agencies and our new agency has very deep competencies in what I call print multi media, which is obviously the newspaper itself.

We expect to gain efficiencies there with hitting more of the right potential and the current customers as opposed to those that were perhaps fringe or non-customers. They also have deep capacities or capabilities in the marriage mail and in the direct mail.

So we suspect that while advertising costs as a percent of sales are likely to inch back up marginally in the future, our impressions, frankly will if anything increase against our most profitable target.

When did this new agency start working for you?

It started -- I think it was June 30th. So we're very early in the process. We started the -- we went out with an RFP back in January. And ran out the existing contract to the first half. And we are dark now until Labor Day. We'll see some benefit of the work in Labor Day. And by later in Q3, should be already beginning to gain benefit from their expertise.

Okay, thank you.

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

Well, thank you all very much. Glad you are on this journey with you. I'm personally delighted with the team and certainly with the results. And we look forward to speaking with you at the end of Q3.

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