Tractor Supply Co (TSCO) 2010 Q3 法說會逐字稿

Good afternoon, ladies and gentlemen and welcome to the Tractor Supply Company's conference call to discuss third quarter 2010 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) Please be advised that reproduction of the call in whole or in part is not permitted without prior written authorization of Tractor Supply Company. And as a reminder, ladies and gentlemen, this conference is being recorded. I would now like to introduce your host for today's conference Ms. Erica Pettit of FD. Please go ahead Erica.

Thank you. 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, it can give no assurance that such expectations for 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 with 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 the statements will remain operative at a later time.

Lastly, Tractor Supply Company undertakes no obligation to update any information discussed in this call. Now I am pleased to introduce Jim Wright, Chairman and Chief Executive Officer. Jim, please go ahead.

Thank you, Erica. Good afternoon everyone. I'm here today with Tony Crudele, our Chief Financial Officer, Greg Sandfort, our President and Chief Merchandising Officer and Stan Ruta, our Chief Operating Officer. We're delighted with the results for the quarter and year to date. The team executed very well and produced solid results broadly across the business. As a result, we exceed our expectations for the top and bottom line and achieved SG&A leverage. At the same time, we continue to drive margin enhancement and expect to maintain our momentum.

Now turning to our performance during the quarter. We maintained solid in stock positions while once again reducing our average inventory per store. The team also executed very well against our merchandise, planning and marketing initiatives. Let me go into a little more detail. We recognize that our customers continue to shop our stores for functional everyday items that offer compelling value. This is most evident within our consumable, usable and edible or Q categories which remain sales drivers and help sustain multi-quarter traffic increase trend.

Additionally, we repositioned our clothing line to offer great values on key items and are pleased with the initial consumer response. Overall, however, consumers remain hesitant to make discretionary purchases. We continue to refine our merchandise mix and decrease our per store inventory through improved inventory management. The team has done an outstanding job with purchasing, allocating, and merchandising. Accordingly, we are getting the right items in the right geographic locations at the right times. We are accomplishing this while exiting quarters with clean inventory and making smooth seasonal transitions. At the same time, our enhancements in marketing are continuing to drive footsteps as we are more effectively utilizing product space allocation within our circulars.

During the quarter, we continue to benefit from refined print distribution which allowed us to reach our highest potential spending households while eliminating the low potential households. We believe we are still in the early stages of benefiting from the efforts to refine print distribution and leverage our CRM program. We are employing y greater discipline around marketing to grow our profit margin dollars net of advertising spend. We are pleased that our results for the quarter reflect broad based strength across the business and solid store traffic in the majority of our markets.

We've developed and are maintaining solid relationships with our customers and encouraged that scores remain in the top two deciles of all retailers. Overall, we planned for normalized third quarter and delivered another period of strong performance as we build on our momentum. I would now like to turn the call over to Tony to review our financial results and discuss our outlook for the remainder of the year and I'll then return with some additional comments.

Great, thanks Jim and good afternoon everyone. We are very pleased with our performance in the third quarter.

To a certain extent, it was simply a continuation of positive trends as we have been reporting in the recent quarters. Strong same store sales, high gross margin, and expense leverage continue to drive top line and bottom line growth. For the quarter ended September 25, 2010, on a year-over-year basis, net sales increased 10.9% to $829 million and net income grew by nearly 46% to $32 million or $0.43 per diluted share. Comp store sales increased 5% compared to last year's of 5.1%.

We view this as a very strong performance as we discussed previously although it appears that we are cycling an easy comparison, we believe that 2009 was a normalized sales run rate for the quarter. The negative comp last year resulted from cycling against hurricane related sales activity, inflation, and the pull forward of heating sales in Q3 in 2008. Non-comp sales were $44 million or 5.3% of sales.

The transaction count increased 6.3% as current and new customers continue to make frequent trips to purchase basic and necessity items. The trend in average comp ticket continued to show year over year improvement with a decrease of only 1.3% versus last years 10.4% decrease. The decrease in this quarter was attributable to deflation and softness in big tickets. Average ticket excluding big ticket items was flat. Similar to Q2 the sales strength was broad based with respect to both merchandise categories and geographic regions. We continue to experience comp sale gains in all of our six major reported categories. The highest comp categories were our core consumer useable and edible or Q products.

Seasonal warm weather merchandise as well as clothing and footwear also performed well as we focused on key value price points. All of our geographic regions had positive comp sales with the strongest regions being in the Midwest and southeast both areas where moisture levels prolonged the summer season. Comp sales in our dell stores exceed chain average. Dell continues to improve product gross margins which was offset partially by increased freight costs. Units and transactions for feed at Dells continue to grow. We continue to effectively manage the impact of deflation at the gross margin level as we encountered an estimated deflationary impact of 149 basis points on top line sales. The deflation was most evident in the livestock and bird feed, agricultural fencing, certain lawn and garden and lubricant categories.

Turning now to gross margin which increased 76 basis points to 33.7% of sales. Direct margin remained a strong driver as our strategic initiatives continued to enhance our gross margin. We are still executing very well in our inventory purchases, allocation, price optimization and markdown management. Lifo had a favorable impact of approximately 67 basis points on a year-over-year basis. Although we anticipate some inflation in Q4 as a result of the most recent runup in grain based products, we have experienced deflation throughout the first three quarters. As a result of this trend, combined with the improved merchandising purchasing, we have reduced our full year estimate to essentially flat from our projection of $6.6 million at the end of the second quarter. This resulted in a credit of $3.5 million in the quarter or slightly less than $0.03 per share.

As we had forecasted, freight expense increased over last year and we estimated was 31 basis points higher. This increase was driven by higher fuel costs than last year, increased import activity of winter seasonal goods and a mix shift to higher freight cost merchandise.

For the quarter, SG&A including depreciation and amortization with 27.5% of sales which was 58 basis points improvement over the prior year's quarter. Our SG&A leverage for the quarter reflects our sales growth and continued expense management. We leveraged occupancy for the third consecutive quarter which is particularly noteworthy as we grew the store base by more than 7%. Additionally, our newer stores continue to ramp sales very nicely.

We continue to see leverage in the general administration area, store support center, field management and the distribution network contributed to the leverage relative to the strong comp sales. Incentive compensation reduced SG&A leverage in the quarter by approximately 17 basis points. The 27% increase in incentive compensation was solely at the store and field level as a result of the strong sales performance.

The Company's tax rate was 37% which is consistent with our planned full year rate. The rate is below last year's tax rate of 37.8% as various favorable book tax adjustments, principally disqualified incentive stock options and had a greater impact on the effective tax rate.

Turning to the balance sheet. At quarter end we had $171 million in cash compared to $95 million last year. Inventory levels per store at quarter end decreased by approximately 3%. Annualized inventory turns for the quarter were 2.82 times a 12 basis point improvement over last year's third quarter. Year to date turns were 2.98 times up 16 basis points. So we're very pleased with our inventory levels as we head into the winter selling season.

Capital expenditures for the quarter were $30.2 million related principally to the new store opening program and equipment for upgrading our distribution centers. This compares to $15.3 million in last year's third quarter. We opened nine stores this quarter versus 17 stores in the prior year's third quarter. We purchased one of our lead stores during the quarter for $4 million. We expect to open a total of 25 to 27 new stores in the fourth quarter.

During the third quarter purchases under the stock repurchase program were approximately $9.2 million. This was approximately $33.64 per share adjusting all the shares purchased in the quarter for the stock split. The impact of the repurchase program on Q3 EPS was de minimus.

Turning to our outlook for the full year. As noted in our release, we have increased our expectations to reflect our strong third quarter performance and given the consistent consumer behavior we have experienced, we have greater confidence in the fourth quarter. Accordingly, we now expect net income to range from $2.09 to $2.13 per diluted share compared to our previous guidance of $2 to $2.05 per diluted share.

We expect sales for the full year to range between $3.53 billion to $3.55 billion compared to our previous expectations of $3.49 billion to $3.53 billion. Correspondingly, same source sales for the year are expected to increase 4% to 4.5% compared to our expectation of 2.5% to 3.5% increase.

Additional detail on a few of the underlying assumptions for the remainder of the year included in our full year guidance. Our guidance anticipates our customers will continue to shop our stores at the same frequency and that they will remain price conscious and value oriented. We have tailored our assortments accordingly. We anticipate a more stable consumer environment than last year as we move into the holiday season. We have not assumed any strengthening in big ticket sales.

Our Q products and special buys will continue to be sales drivers. Additionally, our branded feed program continues to build momentum even as we cycle the launch of the program in early October 2009. We continue to believe that this program additive through 2011 as the large animal bag feed category is still less than 10% of our business and we believe we have years of solid comps ahead of us in that category.

We expect weather trends to be generally neutral. As we mentioned on our last call October and November are projected to be slightly warmer than last year and November should be cooler that be last year. To date, the weather and Tractor Supply's performance in October are tracking in line with our expectations as we are comping nicely against the colder weather of last year.

As I mentioned earlier, we experienced a slight deflation in certain categories in the third quarter and we believe we will have slight inflationary pressure in the fourth quarter. Our current guidance reflects a full year LIFO estimate of approximately zero. Recall that in the fourth quarter last year, we had a LIFO credit of $1.5 million.

We believe that our gross margin for the quarter will be flat to slightly up. We expect a direct product margin will continue to expand as a result of our gross margin initiatives. However, this will be off set by increased fuel and import costs as well as cycling against the LIFO credit in Q4 last year that I just mentioned.

Consistent with the third quarter, we anticipate that the marking spend for Q4 as a percent of sales, will be even to slightly higher compared to last year. We do not expect to be more promotional but we are continuing to make investments in customer research and improving CRM database.

We've narrowed our 2010 new store and capital expenditure projection. We expect to open 72 to 74 stores and expect capital expenditures should be $93 million to $98 million. Our CapEx projection included $11.3 million for leased TSC stores which we purchased during the first three quarters. Although we will continue to opportunistically purchase lease stores when the economics are accretive, we currently do not foresee making any purchases in the fourth quarter.

To conclude, we are well positioned heading into the final quarter of the year. By all accounts, 2010 has been an excellent year so far with great execution driving strong growth. Now I'd like to turn the call back to Jim.

Well thanks, Tony. Our record of consistent growth has focus on continuous improvement demonstrates that Tractor Supply Company can deliver sustainable results. We've increased our top line quarter after quarter and expanded our margin. We are in the early stages of benefiting from our margin driving initiatives which include price optimization, strategic sourcing, private brand development and improved planning and allocation of seasonal goods.

We remain encouraged by the traction we've gained and are excited about the opportunity to further build on this momentum. We continue to refine our merchandising strategy and inventory management in response to our customers' purchasing patterns.

As I mentioned earlier, our customers are focusing on needs and value and we believe this trend will persist through the winter and the holiday selling season. We prepared our stores regionally, planned our marketing accordingly and as a result are ready for this important selling season. Additionally, we remain focused on reducing waste within the organization. We've instilled a low cost and conservative operational discipline and we will continue to operate as a lean organization. At the same time we're making investments to support our growth. For example, we recently partnered with a price optimization solution provider to provide a more systemic approach to price optimization. We believe we selected a system that best meets our test and learn model and will allow us to balance market share growth and gross margin expansion appropriately. We'll be implementing and testing the software in the first half of 2011 and expect to begin realizing benefits later in the year. Additionally, we are investing in store growth and infrastructure development. We'll be breaking ground soon on new distribution center in the mid-south that will be completed in approximately 14 to 18 months. We're also enhancing our distribution network with a warehouse management system and conveyors to help drive further efficiencies. Given our store growth we believe it is time to implement a more automated and effective method to process inventory and increase the throughput capacity of our existing 3.2 million square feet of DC capacity. We're installing the system in our distribution center in Waco, Texas, and plan to roll it out to three additional distribution centers in 2011. Overall, we are experiencing strength across the business. We're able to support our unique niche through the collective and cross functional efforts of our teams. We have the right systems, the right capital structure, and the talent in place to continue improving our business. During the third quarter and year to date, we have continued our record of making the Company better while we also make it larger. Tractor Supply is well positioned for the remainder of this year and very well positioned for the long term. Operator, this concluded our prepared remarks and would now like to open the call to questions.

Thank you. (Operator Instructions) One moment please for the first question. We'll go first to John Lawrence Morgan Keegan.

Yes. Jim, would you talk a little bit about -- we talked a little bit about the customer with the feed program. Can you talk about that customer now that you're cycling against that and you've still got some gains to go? How long is it taking for that customer to move to other parts of the store and what are your benefiting from that and is that part of the gains we go into '11 with?

First of all, we've only cycled for three weeks now. We're cycling promotional periods a year ago but at this point in time we are performing as expected which is performing very well. John, when we look at that branded feed customer, the most important thing to recall is that they exist within the two most profitable of our seven customer segments. And they are most profitable because they tend to shop more the store and they tend to shop almost twice as often as average tractor supply customer. So as we see them coming in and quite a few of them are brand new to the company. Others were identified as Tractor Supply but are new to the feed category. So we win in both those cases. Obviously, those who are new to us come in and buy the entire menu. And those who were shopping us for other things are now buying feed are coming in twice as frequently. So the overall and it has proven to be a win and we also believe that we have, you know, several years of growth ahead of us for not only branded feed but the feed category overall.

Yes and just lastly, thanks for that. And then would you touch on outdoor power equipment as you sort of end the season?

Yes, we ended the season extremely well. I guess the momentum slowed a little bit in third quarter as it normally does. But we frankly ended the season as lean as we've ever ended.

We did. We're in great shape for next year.

Great. Thanks a lot.

And next we'll hear from Vincent Sinisi with Bank of America.

Good afternoon and thanks very much for taking my question. My question is dealing with your marketing efforts. I know that last quarter you had said that total marketing up about 10, 15 basis points with more of a focus that's for the second half of the year with more of a focus on direct marketing. Jim, wondering if you could just give us any further insight into, you know, what specific efforts are, you know, working the best for you and how you're looking at your advertising as we get further into the fourth quarter as well as next year?

Sure. I'll let Greg take any gaps I leave. First of all, Vincent our major benefit is coming from the fact that we changed agencies a little over a year ago. And the agency that we went to has very deep competency in the distribution of print. So today -- and we've now gone through the entire chain literally store by store trade area by trade area and have done an overlay where we were advertising versus where we believe our highest potential households are and where we were not reaching the high potentials we are and where we were advertising to low potential households we are not. So as a result of that effort, we've actually been able to increase our distribution about 30% I think. Is that about right?

It's up about 20 some odd percent.

We've actually increased the distribution over 20%. And spending the same or a little less in total. And current with that we're also obviously in a position with CRM now through our test and learn cycle that we have been able to continually refine the offer through the target household and begin to get a higher level of a response and an improved market basket from those on our CRM program.

That's very helpful.

I can give you a little color on fourth quarter. We will be basically copping similar events to the fourth quarter. The one thing that we have accomplished, we did a research project on the animal food and care customer. Just completed that inside project. Quite a bit of learning came from that. And it was mostly focused around the growth strategies in the company which of course are feed and food. And we're applying some of that knowledge as we start to move through fourth quarter into first quarter. But we know a lot more about our customer. And the more we know, of course the better we can target them. So we continue, you know, to get close to this consumer through research and then apply that research. And you'll see some of that and we'll be using some of that as we get in the fourth quarter with some of our CRM efforts and even our distribution of our tabloids.

Okay. That's very helpful. And one other quick question if I may. As you had commented in your outlook for gross margin during the first quarter. I know you said that you're expecting some higher costs such as fuel. Do you feel pretty confident that whatever pressures may be there they you have the correct strategies in place to hedge against them?

I believe that we do. We anticipate a little bit of pressure because of some of the freight impacts and rolling off of that benefit from a year ago. And looking at container costs. Container costs are coming down. So, as we go into the fourth quarter, the costs are rolling back. We have landed most of the higher freight products the fourth quarter season and third quarter so my anticipation is that the margin will continue to improve. And I don't see the drag on margin from that as it had been in the third quarter.

Okay. Thank you very much.

And from Credit Suisse we'll move on to Simeon Gutton

Thanks. Tony, I realize it's only been a few weeks here in October. But I believe that you mentioned that the business is comping nicely so far versus the colder weather last year. Should that tell us that comps actually should strengthen as it gets colder this year?

As we move through the quarter as we talked, November will be a colder month and then we'll head into December which will be slightly warmer. When you look at the quarter as a whole. As much as we like the start in October. It's really November and December months that are the most critical. We had a very weak November as we moved into last year. But again December is a five week month for us and really will tell the tale as far as the overall comp for the quarter.

And if you do get a compression in a given quarter meaning if it stays mild for October and then it dips a lot colder towards the middle to the back half, in any case, is the compression neutral for the business? Does all the sales end up happening or when it gets depressed something benefits?

Overall we like to see as cold as possible as early as possible to lengthen the winter season as well as the impact of potential or the actual occurrence of winter storms generally will provide a boost to sales. So we believe generally the sales will come but a prolonged season is most beneficial. And that's why we're generally very pleased with the results we're seeing in the early part of the quarter.

Okay. And then I have I guess two more. I'll ask them both upfront. Can you comment on the ticket in the store? Last quarter you got very close to getting back to positive. And you mentioned you have some of these marketing initiatives going after the highest potential households. What's happening with that? I realize it's early days. Are you seeing more items but just lower price points on those items? And then second question on LIFO, any early guesstimates about next year because realizing that you've probably had positive benefits this year. I think next year it will play impact on how gross margin progresses.

I'll take the ticket and let Tony handle LIFO. For the quarter if we take out big ticket which we define as skews above $350. We saw flat ticket average. All of our pressure in ticket which again was modest compared to the run rate and compared to last year's 10% in ticket average a result of the sale in big ticket items.

Great. Relative to LIFO, I wish I could tell you I have a great crystal ball when it comes to predicting the inflation. As we move into next year, given the deflation that we've experienced this year, we would anticipate to have slight to moderate inflation overall throughout 2011.

Okay. Thanks.

Next we'll hear from Chris Rapalje with SunTrust Robinson Humphrey.

Hi. Thanks for taking my question. First with regard to holiday, you mentioned that you expect customers to remain need and value focused. And I was wondering as far as your offering goes, should we expect a similar focus as last year with more focus on trying to highlight the utility items as potential gifts.

I'll answer. This is Greg. It's going to be in our opinion very similar to a year ago. People will be buying in our opinion things that are necessary and needed and we believe the way we've set our line up of product offering and the way we'll have our store set. We can make some of these everyday items with great value offer them with great value and drive considerable units.

This is really just a continuation of what we've seen all year. We are enhancing our offering from a year ago. But we're not going to go outside, especially the structure of useful needed type items. That's our customer. That's what they expect. And that's what they've been spending the money on all year. So we anticipate they'll do that for the fourth quarter.

Okay. And with regard to the store openings, you opened -- your openings were less than what we had modeled. And a fair number of openings slated for fourth quarter. Have a good number of them been completed? And do you expect them to be wrapped prior to that sort of Thanksgiving kickoff to the holiday?

Yes. So the new stores in the fourth quarter are on target to meet the range that Tony referred to a little earlier in the call, 72 to 74 for the year. And just a little bit about the store, why the stores are later if that was your question. If you go back to 2009, we as a management team we were very cautious because of the economy at the time. We thought it was important to be cautious on new store approvals. And we actually approved fewer stores in 2009 than we did in 2008 and 2007 because we were being cautious additionally. We had some what we call dead deals. Deals that fell apart because of developer financing or several other issues. We had more deals fall apart in 2009 than we did traditionally in 2007, 2008. That's since reversed itself. As we look at 2010 approvals, the approvals we had in 2010 exceed 2008 and 2007 so we're back on track and you'll see more stores earlier in 2011.

Okay. And then just one final question if I could. You mentioned that you didn't expect any near term increase or change in big ticket trends. And I was just wondering if you have any early thoughts yet on next year's mower season and what the current ticket trends might be suggesting about how you approach that season next year. Thanks.

We have a great mower line, a great plan, a great strategy, and at this point in time. We hope it's as green and lush as it was this year. It's the wildcard in the business.

Thank you.

Sure.

And from William Blair, Jack Murphy has our next question.

Thanks. Let me just ask a couple. First, on the price optimization software, can you just talk a little bit about the type of benefits that you expect and maybe give us a sense of the way you were doing price optimization up 'til the rollout. And, you know, some specifics on what benefits you could see there. And a second question just on the both the new DC plus the new conveyor systems. What your early read might be on CapEx for 2011.

Okay, Jack. That's a numbers question. I'll try to start out with price off and maybe let Tony wrap up on the CapEx side as well on DC's. The current process that we use here is very manual. And we have several analysts and we've been looking at by category some of what I'll call price elasticity on some high volume and even some low I'll call it low volume items to try to get comparisons of when we move price what happens. That process has been in the works for probably the better part of nine to 10 months.

What we saw from the results was that there was quite a bit of upside movement we saw on margin where we had success. We said it's time to go out and capital expenditure this the systemic way. So we did the research, due diligence, met with a number of these price optimization companies and chose Revionics primarily because it was the best fit for what we felt was our needs here at Tractor Supply. The flexibility, the approach that they use and the math and so on and so forth. So that system -- we're doing the loading and information into that now. That will take about three months maybe to four months. And we'll do some testing in the first part of 2011 and really start to gain some benefit for it in the second half of 2011.

So it's not like your just turn the system on Jack and it goes. It takes time to put the information in. You have to test it. You have to make sure that it's giving the proper reads. And we'll do this thing basically running parallel with the old system to make sure that we check ourselves as we go along.

As far as absolute gross margin improvement, too early to tell. We have some internal estimates. But it's just not something we should share at this time.

Switching to the new DC, and what we're doing with automation, due to store growth we knew we needed to add more DC capacity. The automation side of the current distribution centers is to add efficiencies and throughput capability. So we are working right now in the Waco DC in Texas and we actually have the conveyor systems up and running in that building. And as we turn the corner on the install on WMS which is the Manhattan system, that'll be here in the fourth quarter. But we anticipate working our way through some of the typical snags and hangups that you have in a WMS system when you turn it on. At the same time we're moving to the other distribution centers with automation. And we'll do the same thing as far as getting them up and running on WMS. So this is a staged approach that will take a year to possibly 18 months. The benefits will be efficiency, throughput, probably an improvement in our labor capture and overall it's the network that we're going to need to support the store growth for the next three to five years. Tony, you may want to talk about the CapEx allocation.

Jack, as far as CapEx allocation, generally a normal year we'll be running in the $90 million to $95 million range. That supports our store growth. Top level we're looking at $45 million for the new distribution facility as well as $15 million to $20 million for retrofit for conveyor at the other distribution centers. So general guidance is in the range of 90, 95 plus another 55 to 60. So it gets you into the $150 million to $160 million range next year. And of course in January we'll give you precise more detail to the CapEx projection.

Thanks a lot.

And next we'll hear from Matt Nemer Wells Fargo Securities.

Good afternoon everyone. My first question is given your outlook for a little bit of unseasonal weather at the end of the year, could we see an accelerated markdown cadence this year versus last year. Merchandise margins in the fourth quarter?

This is Greg. I'm still feeling very good about it. It's early in the season. We are seeing some initial reads on our product. That's been good. But if it stays very moderate, you can bet that we're going to act appropriately to move through the inventory. Right now I don't see any margin degradation. And we're in great shape with our inventories. We haven't receipted everything. We've got some flexibility there. I'm positive on the fourth quarter margins.

And then on the store growth shift into the fourth quarter, does that have any impact on the financials? It doesn't seem like your preopening expense was all that different from the last year.

Generally it will run a little bit higher into the fourth quarter. But we don't think it's significant impact to the quarter and obviously, taken into consideration in our full year guidance.

And then lastly, just to piggyback on LIFO for next year, could you give us a sense of where you'll see the most pressure by category? I assume that feed and pet food is pretty high on that list. As you look to 2011, where will you see the most inflationary pressure?

Currently, you're correct in your assumption, Matt. We'll most likely see it in feed. Steel has been a little slow this year and there could be an uptick as we move into next year. Petroleum we're not necessarily projecting an increase there. Overall, I think you're correct in your assessment. Most likely in the grain. The good thing about the grains is we can, it turns the quickest, we can make the most quick assessment as to the impact when it comes to the margins and the LIFO implication.

Great. Okay. That's all I've got. Nice quarter.

Thank you.

Thanks.

And next from JMP Securities, Peter Keith.

Hey, good afternoon everyone. Congrats on the good results. I was curious on the ocean freight contract. It sounds like maybe that reset in Q3. Is that true? And I guess the next time it would reset itself would be in Q3 of 2011?

No. Actually we negotiate these accounts in six month increments and you basically allocate for the container usage. And we knew that going into third quarter we had to pay more. That was just part of negotiation period. Since that point, container costs have come down. The industry has back some pricing. We're going to take advantage of that of course. And if we can front load into the latter part of the year in December, benefit everyone, benefit us. But that's really what happened. Industry at this point has more in the fleet than they may have anticipated and the costs have come back.

Thanks, that's helpful. And one other question for Tony circling back on LIFO which seems to be a popular topic today. Expectations for slight to moderate inflation. If you look back in history, you guys have historically had four to 7 million. Is that something that we should kind of expect based on what you call a slight to moderate inflation environment as you see it today?

I would agree with you. Generally, LIFO has been between zero and $10 million. Four to seven is somewhat of a sweet spot. Consistent with slight or moderate inflation.

Okay. Thanks a lot and good luck in Q4.

Thank you.

Moving on to Peter Benedict with Robert W. Baird.

Hey, guys. Just want to dive into the fourth quarter plan a little bit further here. I think during the call you guys had said you've now got increased confidence in your fourth quarter plan given the strong results in the third quarter. Do we take that to mean that you haven't changed that fourth quarter operating plan versus where you were let's say at the end of the second quarter? I mean I understand the LIFO has changed. Core operations are you expecting the same thing?

As we move into the quarter, it's really the performance to date has been a confirmation of where we had our original operating plan for Q4. So that's a big portion of it. We believe as we headed into the quarter that we've added up side as we look out at the quarter. Generally, it's consistent with the original outlook as we planned at the beginning of the year.

Okay. Thanks, Tony. And as for the comp, looks like your guys are expecting two to 4%. A slight slowdown comparisons get a lot tougher, but you're expecting a favorable swing in terms of inflation, 200 basis point sequential swing. Help us understand what that two to 4% plan for comps in the fourth quarter assumes in terms of traffic growth and average ticket.

Generally, we think that the trends will be consistent. We expect the traffic will be generally in the range in which we've experienced to date with most likely a moderate slight decline in the average ticket. So as we move into the fourth quarter, we look at those two components as being relatively consistent with the way the consumers behaved in the first three quarters.

Okay. And then lastly on the flat average ticket excluding the big ticket items, I guess that was the experience in the third quarter. How was that in the first half of the year. Better than what it has been or similar to the first half?

We had a nice move in the average ticket in Q2. And the big ticket came back a lot stronger in Q2 as we moved into Q3 it did not necessarily, we did not see the continuing improvement in big ticket. So we anticipate that big ticket will be soft and less exposure in the fourth quarter to big ticket items. Heating is the only one that is critical as far as some of the wood burning stoves, et cetera. But we feel we have less exposure and so we again expect that as the average ticket excluding big ticket has continued to be flat and improved, we believe that we can maintain that in the fourth quarter with just a limited impact from the softness of big ticket.

One last one. Do your guys have the sales mix break down available where you kind of talk about the breakdown by category for the quarter? Or do we have to wait for the Q for that?

We generally do not disclose that and I would look at it in the Q.

Okay, all right, thanks.

Sure.

And from Think Equity we'll move on to Christian Buss.

Congrats on the nice quarter. Just wondering if you could provide perspective into the real estate environment if you've seen any changes there looking forward into 2011?

Nothing significant, Chris. Over the last 18 months or so we've had some obviously with the financial situation out there. Financing continuing to be challenging for some of our developers. And we're very comfortable with the developers we've got on the team now and confident that they're financially strong enough to meet our needs. As we look at used real estate, there's some out there. But most of the inventory on vacant buildings out there today is in newer plazas. And they're very expensive. And they really don't fit our needs. Construction costs remain to be in favor of tractor supply and we're seeing that contractors are wanting to work and the prices have been very competitive and in favor of tractor supply. We're seeing no significant changes on the material costs although they're edging up slightly, nothing significant. And land prices remain about the same. There is some softening in some markets, but overall, they're basically the same they've been over the last 18 months.

Okay and one housekeeping question. Looks like payables came down. Wondering if you could provide some color there.

Generally with accounts payable. And this has been the trend for the last three quarters, we have made some significant progress as far as streamlining payments and had a very stringent program in place to make sure that we receive all the available discounts that we can. And so with that, we have seen the accounts payable balance decrease relative to inventory balance. We monitor that on a monthly basis. But the incremental income that we're receiving from the discounts from our vendors has far exceeded the carrying cost of the inventory.

Thanks and good luck in the fourth quarter.

Thank you.

Thank you.

Next Brent Rystrom with Feltl and Company.

A couple of quick questions. Looking at some of the seasonal stuff, noticing a lot of the stores particularly in the northern states selling through very well on log splitters. Is that something power equipment trend?

Brent, this is Greg. Log splitters as you know, we are one of the key fall items along with heating and we have seen an uptick. You've probably seen a little bit of expansion in the assortment. But very pleased with the overall, you know, first pass performance. We haven't hit the peak of the season yet.

You know, that's what I was going to ask you because there were stores that I had been at two weeks ago that had six or seven. Sidewalk on both sides to have walk. Not the stores that are parallel to the buildings but out to the parking lot. Stores that six or seven of them and there was one the last couple of days. So how quickly can you replenish that assortment?

Very quickly, within the week.

Noticing Greg or Jim or whoever also wood pellet presentation appears to be much much more aggressive this year. Is that an attempt to build a consumable business tied to that?

We started Brett, with a very aggressive strategy several years ago. The presale and then the follow-up. And our feeling was with the installed base of heating that we've had over the last three to five years. Fuel was going to be the key element. And so we did selected our stores and yes, there's a commitment on that consumable just like it is on feed.

And are you seeing out of curiosity, are you seeing, what percentage of people prebuy? And what are instore purchases of that product?

I won't share with you the presale numbers were Brett, but we had significant improvement over last year. And what your inseason of course what you hope for is the business will continue. We've got a preseason and we're seeing it as the season is starting. Our stock position is the best it's ever been.

When I look at the pricing on the price per ton versus the price per bag there's about an 11% discount. Is the presell a bigger discount than that?

Typically, we do give customers more incentive on the front side of the season. But we're very cautious about the local market pricing on that commodity. So what you'll see in one market may be different in another.

A couple of other quick questions. You know, as I walk into stores, managers are very excited about the fashion this fall compared to last year. They're really starting to sense the colors and the patterns. How casual apparel is doing?

Casual apparel I would say is we look at work wear. Worn both ways. Initial response has been very solid. You know, we made a buyer change about a year ago. We are very happy with the performance of the business, the flow of the product this year, and the customer is responding, there's no question. What you're hearing and seeing is exactly what we're sensing here.

And then two quick final questions. Is the holiday merchandise being flowed in earlier this year. I'm seeing a lot of the John Deere type tractors and toys and stuff. I don't recall that being in the stores at least in visible quantities as much this early last year.

The difference, Brent, is in a last year some of that product -- we separated if you remember correctly. The set a little later in some stores and we had a split between our insulated outer wear and gift business. We had all stores set similar this year. We decided to move the gift business in the north to a left front side of the store.

It's off to the left.

Exactly and use the center court for the expansion of insulated because we needed more space last year.

It's up about 25% in square feet. The insulated outer wear.

Probably.

And final question for you. New price cut drops on Sunday. Every store I walked into when I grab the price cut sheet the manager's mentioning how many people keep asking about the price cut for each quarter. Has that been a huge driver for business?

It has been a very nice program. We're very happy with the performance of it. And as you know, it changes out quarterly. It also gives us some indication on price elasticities on certain products and certain categories. Very happy with it.

Thanks, guys. Congratulations.

Thank you.

And from Raymond James, Dan Wewer.

Thanks. Tony, I wanted to double check a number from your script when you were discussing LIFO. You mentioned that this had a $0.03 impact, I wasn't sure for which period you were alluding to. I was getting something closer to $0.04 to $0.05.

In Q3 the amount of the credit was $3.5 million pretax which amounted to approximately $0.03.

Okay. I was comparing it to the charge from a year ago and looking at total swing of about $0.045, would that be accurate?

Yes, if you look at the total swing, correct. I try to make it as clear as possible that the impact specifically to this quarter was 3.5. If you're looking at a year-over-year swing you'd have to look at the credit that was -- that I had in last year in Q3.

So when you look at gross margin, I don't know if you call it FIFO or margin excluding LIFO, I think it was essentially unchanged, slightly higher year-over-year is the take away that the drag in transportation costs was almost like exactly offsetting the improved merchandise margins.

It was not a direct off set. Obviously, some other components that are in the margin. When we look at just the direct margin and sort of the markdown management piece, we would look at that as really closer to 30 to 40 basis point improvement. The offset from freight was a little bit less. Obviously, there's other components in there as well that we did not detail out. When we look at sort of the direct product margin itself, it was slightly higher than the freight deleveraging.

Back again to your fourth quarter guidance, looks like it's $0.51 to $0.55 a share was checking the consensus estimates and they were at $0.55 and several were above that. You noted that business is starting well during the fourth quarter. What do you see as a head wind in the fourth quarter that perhaps the analysts are not recognizing?

I think first off the one thing we mentioned, there is a LIFO credit of $1.5 million in Q4. And also as we discussed the freight impact would be a head wind as well. And otherwise, we think that generally business will be conducted consistent with the way it has been throughout the second half, first half of the year as well as the third quarter.

Same for the fourth quarter. Good sales, good expense management, but there's going to be some challenges on gross margin rate.

Yes, yes.

Okay, great. Thank you.

Next from Janney Montgomery Scott we'll move to David Strasser.

Thank you. Just two questions. The first one, just understanding from a Investor Relations standpoint. You have a very strong quarter. In the past you've preannounced. A little bit of thought process behind what would drive you to do one verse the other and how you think about it? Not exactly to the day-to-day operation. Just trying to understand it a little bit.

Sure. A lot of different variables are evaluated as far as looking to prerelease. First we're going to look at our own operating performance and our expectations. I think that's first and foremost. Obviously, an assessment of where the street is. Because that's part of the deliberation. We're going to look to see if there's any unusual events in the quarter that would drive the performance one way or the other. And so it's a myriad of things.

We'll look at as many analysts refer to, the quality of the earnings. So if there are certain items that may not have been impactful or LIFO is one that we'll make assessment on. Look at those variabilities and then given the magnitude of the quarter itself, make a determination of how significant that beat the. When we're in the first quarter and it's early in the year, we've always made the assessment that we want you to look at the whole half. Unless the bead is sizable, specially on a small number that ranges from zero to $0.10 the bead would have to be significant. Where if we move into a larger income quarter such as the second quarter you're working off a larger basis and significant.

As we move into the third quarter, we believe that street expectations were managed properly. We believe that we had significant improvement over last year. But we were in a very reasonable range relative to what we perceive the street to be at as well as our internal observations. In addition, we did have a LIFO impact as well. Those are some of the criteria that we go through. It's obvious a little bit more art than science.

I was just -- just wanted to make sure I understood you. I've gotten that question in the last week or so. If you don't mind, I'm changing topic a little bit. Looking at going back to the marketing, direct marketing. As you looked at that, what was the biggest surprise that you see. Anything that you said wow about your customer, who your customer is or which customer is doing what?

There are several great points of discovery in the last 18 months. First and probably most significant we did the most rigorous customer cementation research that we've ever done and understand the seven macro profiles of our customers and then the relative lifetime spending power of each of those seven. And each of the seven was divided into a top and a bottom by thirds rather. And then we began to set about using CRM to move those customers from a lower third to a higher third in each -- in the segment they've been.

And then moving them across segments through different offers. There's a significant lifetime value variability from the lowest to the highest. We understand the common denominators of the two or three highest. And weaver beginning to learn how we move the consumers up the continuum within their own segment and move them across segments. We learned a lot of our customers. Maybe not surprised by what we didn't know. Delighted with what we learned and what we are now learning to that we're applying to making them even more valuable in the future.

The other piece was a tremendous discovery on the capacity we had to make our print more productive on the distribution side and also to make our print more productive with the space allocation to the categories and the cuts and the skews within the categories. So a lot of rigger to measuring our advertising today. And as a result of that event by event is becoming more profitable for us.

Sounds like there's still a huge opportunity. Just really starting in some respects.

We're not done by any means. We have several initiatives to improve both print and direct mail and then we have the opportunity over the next couple of years to develop a great content and community on our multichannel website.

Listen, thank you very much.

Sure.

Thank you.

Next we move on to Mitch Kaiser with Piper Jaffray.

Thanks guys. Just a couple of quick questions. Just in terms of capturing the information, how many customers do you have in your database now and kind of how that's expanded and how do you track those on a go forward basis?

Do we disclose the actual number of customers?

No, we haven't.

Less than half but not much. The way we track them is warranty, method of payment, telephone capture, and reverse appending, and also our tax exempt customers which is a fairly significant subset of our customers. Hello? Mitch?

The sustainability of that is pretty robust so that's how we should take away?

There are several things. We continue to grow the list of customers and we'll continue to refine our capacity to increase their frequency and average ticket.

Tony, you talked about the ability to recognize discounts and payables. Where do you think you are with that? Is that something we should see continuing going forward? What sort of impact did that have on margin?

We have another quarter ahead of us where we might have a decrease in our AP to inventory ratio. But after that, I anticipate that we'll be cycling and you'll see that flatten out. We have not disclosed, but I would tell you that the work we've done with our vendors and the buying team's relationship with the vendors as we've moved forward, we've had significant benefit in buying and we continue to work with our vendors and they've supported us extremely well. And not necessarily pure discounts, but in supporting some of the programs that we have out in the stores. But it has been a very significant effort and the reward has been significant throughout the year and as well as half of last year as well.

Okay. So just as you think about that is that going to limit your opportunity to drive margin on a go forward basis? Or are your still feeling good about that?

We feel that we'll continue to have that type of relationship with the vendors as we continue to build. Obviously, as we purchase merchandise and expand the chain, we have the ability to capture more discount. Although it has been a significant push over the last couple of years and we would anticipate that it wouldn't increase at the same volume. We do think there's still potential to improve our purchasing.

Okay. Great, guys. And good luck in the fourth quarter.

And Adam Sindler from Deutsche Bank has our next question.

Yes, Hi. Sorry just real quickly, first. Looking at the two year comps, you guys have more difficult comparisons in the front half of next year relative to the back half. Do you think that the price optimization software could impact sales? And then just secondly, just to make sure I have this understood correctly on the ocean freights, the freight is really the rate that you negotiate and container costs those are more sort of market price depending on how many are available. Is that the correct way to think about that?

Yes. This is Greg. Yes, for the most part, that's correct. On the container side, you place your order through allocation and you do your best to use all that allocation because the next round costs could be up. This time around, costs are coming down. On the price OP, from a risk stand point on sales, that will not happen. We will roll this slowly. We will test it. We will understand it. We will stay with our current system until we are comfortable that the systemic approach is right. It will not be anything to stall sales.

And no benefit in first half either.

No, it would all be in the second half.

Very good, thank you.

Thank you. Operator, do we have any calls holding?

No, Sir. We have reached our allotted time for the questions today and I would now like to turn the conference over to management for closing remarks.

Okay. Thank you very much. Well again, I'm delighted and very proud of the team and delighted with the quarter. And remind everyone that we are growth company and that we have the capacity and the ability to grow and improve our company. And we are also a delighted with our new store performance as we look back across the first three quarters of the year. Things are going well at Tractor Supply and we look forward to talking with you at year end. Thank you.

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