Tractor Supply Co (TSCO) 2012 Q2 法說會逐字稿

Good afternoon, ladies and gentlemen, and welcome to the Tractor Supply Company's conference call to discuss second-quarter 2012 results. At this time, all participants are in 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 this 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. Leigh Parrish of FTI Consulting. Please go ahead, Leigh.

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 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 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'm pleased to introduce Greg Sandfort, President and Chief Operating Officer. Greg, please go ahead.

Thank you, Jennifer. Good afternoon, everyone. I'm here today with Jim Wright, our Chairman and CEO; and Tony Crudele, our CFO. We are very pleased with the second-quarter results; which, again, underscored the underlying strength of our core business. Given what continues to be a challenging retail environment, we are extremely pleased with our team's execution. the progress we are making in the areas of inventory management, merchandise assortment, and expanded regionalization, continues to accelerate our operational performance.

Now let me provide a little more detail on our second-quarter results. As mentioned in our previous call, we experienced a pull-forward of sales into the first quarter from the second quarter, due to the early spring weather exhibited in March. Sales for the second quarter were not quite as strong as we had hoped, given the strong trends we experienced early in the quarter. However, with the cooler weather trends in late April and early May in the Northeast, and the extreme drought conditions that developed throughout much of the US during the second quarter, we are very pleased with our ability to manage through these variables successfully.

Our core businesses ran solid increases in the second quarter, with performance very consistent throughout the first half of the year. Within our seasonal category, some big-ticket products, such as outdoor power equipment and riding mowers, slowed during the quarter primarily due to the weather shifts I just mentioned. Our ability to recognize and react quickly to the trends that develop in our business allowed us to effectively manage through significant weather shifts this year, and drive strong profitability in the second quarter and first half overall.

Additionally, we are pleased with our inventory position coming out of the second quarter. And as we have stated in the past, we believe it is most appropriate to look at Tractor Supply's performance by the halves rather than the quarters.

In terms of specific sales drivers, our CUE categories remained key to both traffic and sales, contributing to our 17th consecutive quarter of comp transaction count increases. To mention just a few of our successes that speak to our ability to adapt our merchandise and add new products to maintain newness, customers responded well to our expanded assortment in live goods and our recent reset in footwear. Our forage business continues to gain momentum as we expand the program to an estimated 600 stores by the end of this year, compared to just 300 stores at the end of 2011.

EquiStages, our private-label equine feed, was introduced about four months ago, and it's also doing very well. We continue to test and refine our assortments while pursuing our strategy to balance product selection of national brands, increase private brand mix, and the addition of new products across the entire store.

Now I'd like to speak briefly about our new store performance, which also contributed to our solid second-quarter results. This year, we opened 18 stores in the second quarter, compared to 16 stores in the second quarter a year ago. We opened our first store in Colorado in May, and we are encouraged by the initial sales results. We are on-target with our goal of opening 90 to 95 new stores in 2012. And as we continue to expand our footprint into new regions, we remain very comfortable with our targeted annual square footage growth rate of approximately 8%, and our domestic potential of 2100 stores.

So, in closing, our second-quarter results confirm the operational benefits from the progress we are making on many of our key strategic initiatives. Today we are planning, preparing, executing, and reacting better than ever before. We continually strive to refine our assortments, to provide customers with compelling values every day. And at the same time, we are improving our ability to meet customers' needs with the right products in the right regions at the right time.

So looking to the remainder of 2012, we are very excited about the opportunities that lie ahead, and we remain committed to furthering our key gross margin initiatives. We believe we have the right tools and a motivated team in place to capitalize on those opportunities, as we grow the Tractor Supply brand.

I'd now like to turn the call over to Tony, to review our financial results for the quarter and discuss our outlook. Jim will then share his closing comments.

Great. Thanks, Greg, and good afternoon, everyone. We had another very solid performance in the second quarter, to complete an extremely successful first half of 2012. For the quarter ended June 30, 2012, on a year-over-year basis, net sales increased 9.6% to $1.29 billion, and net income grew by 17% to $106.6 million, or $1.45 per diluted share.

As discussed on our first-quarter conference call, we had estimated that approximately $34 million to $38 million of sales had been pulled forward into Q1 from Q2 as a result of early spring weather. Based on our analysis following the spring season, we believe that the actual pull-forward was at the high end of our range. This pull-forward negatively impacted Q2 comp sales by approximately 300 basis points.

Comp store sales increased 3.2% for Q2, compared to last year's reported increase of 4.6%. However, adjusting for the one-week shift as a result of the 53rd week in fiscal 2011, we are actually cycling a comp store sales increase of 7.1%, resulting in a solid two-year double-digit comp. Non-comp sales were $77.4 million, or 6% of sales. The comp transaction count increased for the 17th consecutive quarter, gaining 2.9%.

As Greg stated, we are very pleased with the core business, as CUE products continue to drive footsteps, resulting in transaction count increases.

The trend in average comp ticket increased slightly by 11 basis points. The benefit to average ticket from inflation was offset by a decrease in big-ticket purchases and other mix impacts. Big-ticket purchases decreased principally as a result of the warm March weather that pulled riding mower and power equipment sales into Q1. Additionally, Q2 was cycling emergency response equipment sales, related to the tornadoes last year in the Southeast. This mix impact had a correspondingly favorable impact on gross margin in the current quarter, as I will discuss later.

Now looking at the business for the half -- which, we believe, is the best way to analyze our business to neutralize the sales shift related to the unseasonably warm March weather -- comp sales increased 6.7% on top of a reported 7% increase last year. Although some of our seasonal categories did not perform as well as planned, due to the cooler-than-average weather in the north in late April and early May, and then the subsequently -- the drought conditions which spread throughout many regions of the country in the latter part of the quarter -- overall, we are pleased with the performance of the underlying business.

Looking at our CUE categories -- sales comp growth was in the low-double-digits percent, with unit growth in the upper-single-digits. Also carving out the key seasonal category such as riding mowers, lawn and garden products, et cetera, that were most impacted by the sales shift into Q1, comp sales for the remaining categories increased in the strong mid-single-digits. Again, we are very pleased with our performance in the second quarter and year to date, with results exceeding internal net income targets for both periods.

Other key notes regarding the quarter -- on a regional basis, sales were strongest in the Southwest, as we cycled last year's drought conditions in Texas. Comps were strongest in regions with moderate seasonal variations relative to last year, as the majority of the Northern regions were negatively impacted and Q2 by the pull-forward of spring seasonal sales into Q1, and the cooler spring weather during several weeks in the quarter. For the first half, all regions posted mid-single-digit increases or better.

As planned, April was the strongest month of the quarter; May was the weakest month of the quarter; as we cycled last year's cold spring that pushed April sales into May. June sales were solid, and above the average comp for the quarter. The impact of inflation was approximately 275 basis points, which was nearly 100 basis points below our expectations for the quarter, and contributed to missing our internal sales targets. The inflation impact moderated by the end of the quarter. And inflation was most evident in birdseed, livestock feed, lubricant, and the fencing category.

Turning now to gross margin; which, as a percent of sales, improved 79 basis points to 34.9%. As noted earlier, direct product margin benefited from product mix as key big-ticket, lower-margin sales were pulled into Q1, and we cycled lower-margin emergency response sales in Q2 last year. We estimate this resulted in a 30-basis-point benefit to product margin in Q2.

Additionally, we have been very successful in partnering with our vendors to create value-oriented programs for the consumer while managing profitability. We also continue to see receive benefits from price optimization, imports, private brands, and markdown management initiatives.

Freight was essentially flat as compared to last year, as diesel prices have eased on a year-over-year basis. This easing helped offset the cost related to increased import activity of seasonal goods and the negative impact on freight related to the mix shift to freight-intensive CUE products. Import purchases in the quarter accounted for 7.7% of the total purchases, which represents a 16.3% increase year over year. Overall, we are extremely pleased with our ability to capture gross margin benefits while continuing to provide great values to our customer.

For the quarter, SG&A, including depreciation and amortization, was 21.8% of sales, reflecting 12 basis points of improvement from the prior year's quarter. SG&A leverage came principally from store-level payroll and expense control. Our field leadership in stores maintained very strong payroll management as we anticipated the variability in the sales between April and May. Our effective income tax rate increase to 37.2% in Q2, compared to 36.7% last year. The increase in the tax rate was principally due to the lower federal tax credits, primarily WOTC and HIRE credits, which expired at the end of 2011; as well as a reduced incentive stock option disqualification deduction, relative to a higher taxable income base this year.

Turning to the balance sheet -- at quarter-end, we had $179.1 million in cash compared to $185.5 million at the end of the same period last year. During the second quarter, under our stock repurchase program, we acquired approximately 1.1 million shares for $98.4 million. We estimate that the share repurchase program had a favorable impact of $0.005 on EPS for the quarter. Average inventory levels per store at quarter-end were 0.3% lower than last year. Year-to-date annualized inventory turns were 3.27 times, or nine basis points better than last year.

Although there are some pockets of spring inventory that we will clear through during our summer selling season, we are very pleased with the ending inventory composition and our overall inventory productivity, especially given the embedded inflation and having one more distribution center than at this time last year. We do not expect any material margin risk as a result of the lower-than-expected sales of seasonal products.

Capital expenditures for the quarter were $33.7 million as compared to $45.2 million last year. We opened 18 stores in the second quarter compared to 16 stores in the second quarter of 2011. The decrease in spend relates to the cost incurred last year for the construction of our Franklin, Kentucky distribution center.

Turning to our outlook -- as a result of our stronger-than-expected operating performance in the second quarter, we are increasing our net income expectations for the full-year 2012. We now expect net income to be in the range of $3.58 to $3.66 per diluted share, as compared to our previous guidance of $3.52 to $3.60 per diluted share. We now expect full-year sales to range between $4.58 billion and $4.65 billion, compared to our previous expectation of $4.61 billion to $4.68 billion. Correspondingly, same-store sales for the year are expected to be 3.5% to 5%, compared to our prior expectation for an increase of 4% to 5.5%. Our lower projection for full-year sales results principally from the lower-than-forecasted sales in Q2.

I'd like to quickly discuss a few of the specific drivers and underlying assumptions for the remainder of the year, embedded in our full-year guidance. Our guidance is based on the assumption that the retail environment will remain stable, and that our customers will continue to shop our stores for basic and everyday needs, as they did in the first half of 2012. We anticipate customers will remain price-conscious and value-oriented.

With over 64% of the country in severe or moderate drought, weather is not ideal for a strong summer selling season in Q3. However, along with these challenges come opportunities. And we have been adjusting our assortments to include drought-related merchandise and the potential of post-drought lawn restoration. As we have shown in the past, we have been able to react quickly to adjust to changing weather patterns and maximize the sales potential. Additionally, we believe there is less dependency on big-ticket sales in the fall-winter season compared to the spring season; and we believe that this will be less of a headwind for average tickets in the back half of the year.

As a reminder, last year in the third quarter, we had strong emergency response sales related to hurricane Irene. This provides a headwind to comps in the latter half of the third quarter. However, offsetting this in the current year, we have already experienced significant emergency response sales related to the power outages in the Northeast, which has bolstered July sales and gotten the quarter off to a solid start. Therefore, we do not expect any gross margin benefit from a mix shift in emergency response in Q3.

We will continue to work towards achieving our target of 20 basis points of EBIT margin improvement in the back half of the year through implementation of our key gross margin initiatives. We believe that these initiatives, particularly our import program, will be more impactful in Q4, due to the more seasonal nature of the quarter. Additionally, gross margin comparisons are somewhat easier in Q4, as we booked a $2.7 million reserve for welding gas in the fourth quarter of 2011. We do expect that freight headwinds will continue to moderate in the second half, as fuel costs continued to ease and we began to cycle the accelerated fuel costs we experienced in 2011.

Inflation began to moderate in Q2, and we expect this trend to continue, subject to potential volatility in grain prices. Overall, we expect inflation impact of 1% to 2% in the third quarter. And we maintain our inflation forecast range of 2% to 3% for the full year. This range includes a modest estimate for potential increases in grain prices.

With one less selling week in the fourth quarter, it will be difficult to leverage SG&A in the back half of the year. For the full year, we are now forecasting that our effective tax rate will be approximately 37%, an increase from 36.5% in 2011, and just slightly higher than our previous guidance of 36.8%. This will result principally from a reduction in expected federal tax credits and reduced ISO disqualifications, relative to the higher taxable income base in the current year.

We have made no changes to our expected store growth rate or plans for capital spend. We plan to open approximately 90 to 95 new stores in 2012. We project capital expenditures in 2012 will range between $160 million and $170 million, which includes approximately $40 million as a placeholder for our least store acquisition program; $11 million for the initial phase of construction for our Southeast distribution center relocation, as we've broken ground in Macon, Georgia; and an incremental $6 million, as part of our e-commerce re-platforming.

We will continue to make purchases under our share repurchase program as part of our long-term objective of reducing our cost of capital and maintaining a targeted cash balance of $100 million to $150 million. We currently project that the full-year, fully diluted shares outstanding calculation, exclusive of any additional share repurchases throughout the remainder of the year, would approximate 73 million shares.

To conclude, we are very pleased with our performance in the second quarter. We are proud that our initiatives are driving both top- and bottom-line increases, and believe that the Company is well-positioned for another record year in both sales and earnings.

Now I'd like to turn the call over to Jim.

Great. Thank you, Tony. Good afternoon, everyone. Our results continue to demonstrate the operational impact of our key strategic initiatives. Our proven ability to plan, react, and execute allowed us to navigate through a challenging retail environment, delivering double-digit profitability and two-year same-store sales growth, while successfully managing the business in anticipation of, and response to, shifts in the weather.

Regarding the current retail environments, consumers continue to look for compelling value. Purchases are being made by need, and are taking place closer to need. We remain firmly committed to our strategy to provide exceptional value to our customers, a strategy that has rewarded Tractor Supply with strong customer of loyalty and increased market share. We continue to test and enhance our assortments. We also continue to build our private label initiative across multiple categories, to provide our customers with great quality and value. This has been a highly successful strategy for us, particularly in areas where there is not a strong current brand allegiance.

We believe we can provide outstanding value to our customers while further strengthening customer satisfaction and loyalty to Tractor Supply. At the same time, we work every day to better understand our customers and meet their needs better and more effectively. We continue to refine our marketing strategies, improve the productivity of our marketing spend. We also remain highly focused on gross margin initiatives, and continue to utilize price optimization to improve our capacity to grow both market share and margin rate.

Over the years, we've built a differentiated and stable business. At the same time, the structural changes we have made are improving our ability to capitalize on shifts in consumer preferences and demand. The performance we delivered in the second quarter and year to date exemplifies our ability to manage through a wide array of variables.

In closing, we are energized with the opportunities that lie ahead for Tractor Supply, and look forward in progressing on our key initiatives in the back half of 2012; specifically, we understand the current and the forecasted drought. We know the stores and the categories that are being impacted. We have reduced inventory in certain categories while increasing in others.

Based on many years of performing through regional droughts, and we believe we are well-prepared to meet the challenge in the second half of the year. As we said, we serve a unique niche, and have an experienced, energized and focused management team, which we believe will support our ability to grow our market share, our chain, for many years to come.

And with that, Operator, I'd like to open this call to questions.

(Operator Instructions). David Magee, SunTrust Robinson Humphrey.

Yes, hi, guys. Good quarter.

Thank you.

I may have missed it, but could you give us some more color about what hay might be contributing this year, and further contribution from that category as you roll it out?

David, this is Greg. The forage category has been in the run rate now for about two years. The expansion of hay to the additional 600 total store count by the end of this year will have some impact. It won't be that terribly significant. Hay pricing, on a two string, is $10-ish. And then, on a round bale, in a number of stores, it's probably approaching somewhere between $80 and $100. So it's not so much how much it's actually contributing in pure sales, but it's the halo effect of having the total sale. The customer doesn't have to look at our store and say, well they don't offer forage, so I'm probably going to go ahead and buy my feed someplace else. They'll come to us, and they can fulfill their entire basket needs at Tractor Supply.

Thank you, Greg. And my second question has to do with the holiday season, which I'm curious if we'll try a similar approach to what you did last year, or are you going to adjust your strategy at all? How do you see that point in time, this year?

Well, as we did in several years past, and had success this past year, our holiday season is about selling gifts that really are out of need. And so as we did in the last several years, our focus will be, in the store, based upon buying dad something or buying mom something that she can use, versus something that she may want. So you'll see us take the store again and make the conversion to holiday with POP and sets on endcaps and center courts and throughout the store; similar to last year, but I can assure you of this -- there will be a tremendous amount of newness in the store, and that's probably the focus -- is bringing new things to the table. I will also tell you that, we do this COBE process after every season. And those learnings from last year's correction of error we've applied to this fall. So we're feeling very confident that we found some additional opportunities to drive our business.

So a similar approach, but a higher degree of newness, in terms of the composition of products?

Yes, yes.

Thank you.

Dan Wewer, Raymond James.

Thanks. So, Tony, with the 50% increase in corn prices that we've seen in the last month or so, I think there was expectation that the inflation benefits for Tractor Supply might actually increase from that 1% to 2% guidance that you've been providing. Could you maybe talk to us, the kind of conversations that you've had with your vendors, and what kind of price increases they're expecting over the next few quarters in grain-related product?

Sure, Dan. When we look at the inflation -- just to refresh you on the calculation -- we look at a point in time as where we are today. Obviously, some of that increase that been has been experienced when it comes to the grain prices, is in our calculation. Normally, we do not add any adjustment for that factor. However, in this case, as we've seen the prices increasing, we did put a modest increase for those prices. What you see occurring is, as inflation has moderated and come down, and we start cycling higher prices from last year, that is offsetting some of the increase that we see in the grain prices as well as the grain prices are -- as far as the vendors are concerned, they feel that they have a significant amount of product that is available. And I wanted to turn that over to Greg, to talk a little bit about the vendors and the availability of the supply, and what we see as impacting the pricing.

Dan, Greg. We did a channel check with our major suppliers. They have little concern about the pricing of corn at this point, and they have their supply chains intact. The thing we have to understand about corn is, it's a small percentage in the overall mix of products that we sell. So in some categories -- some companies, it may be larger. But in our feed and food mixes, it really is a small percentage. So to be honest, we don't see a supply -- or disruption in the supply chain. We see that there will be some inflation, some movement on price. We think within the next 60 days, we're probably going to see the high water mark, and then it will come back down after that.

Okay, then just one other question, related around the drought. So I recognize that it is a sales challenge. On the other hand, you note that you're able to bring in product that benefits from drought conditions. And it looks like this type of product carries better gross margin rate than the OPE business that you're losing. Do you think we're at the point -- I hate to ask it this way, but droughts could be a positive for Tractor Supply's profitability?

We certainly don't want them in Q2, although we were able to manage our way through it. I would say that, generally, a drought is going to be more as a topline challenge than an EPS challenge for us. So kind of to your point, yes, the margins on higher our drought-related SKUs, but the average ticket is lower.

So a little sales headwind, but on a margin benefit?

Correct.

Great. Thanks for the help.

Peter Benedict, Robert Baird.

Hey, guys, I just have a couple questions. First, just on the monthly cadence. I think, Tony, you might have said that May was the softest month in the quarter. How did June come back? How did that compare, maybe, to April? And then July, sounds interesting, that comment you made there, that July was doing even better. Just help us understand the cadence in the business. Because I think the thought out there was that it was doing the opposite.

Right. Peter, as we look, really, back to last year -- if you remember, April had just really, really difficult weather patterns. And that resulted in a very, very strong May. So as we cycled through that, this year, we had anticipated that April would be the strongest selling month in the quarter, and that May would be the weakest as we cycled those sales. June, as I commented, was above the average for the quarter. And we were very -- we felt that it was a very solid month. And as we moved into July, again, we felt that that trend continued and was bolstered, as well, by the emergency response in the Northeast.

Okay. So as we think about your guidance for the back half of the year in terms of comp, I think maybe the implied range -- maybe we're getting too fine with this -- but is up maybe 50 basis points to up 3.5%. Should we think that about the third quarter being towards the low end of that, the fourth quarter the high end? Both of them within that range? How should we think about the cadence? Because it sounds like July is off to a decent start. I know the hurricanes didn't happen until later in the quarter. Thanks.

Looking back at what we are cycling against, both quarters were very strong quarters. Clearly, Q3 was double-digit. And there are less drivers in Q3 than in Q4 as we hit the holiday season; as well as, from a margin standpoint, with some of the imports we have that comes in in the fourth quarter that can bolster the margins in Q4. So when you're looking at the sales trends, we believe that you have, obviously, difficult comparisons in both quarters. But Q3 will be a much tougher comparison; 11.9% versus a 7.1% in Q4.

So I think as you look at it, Q3 will be the tougher comparison. And, as I mentioned, when it comes to margins, Q4 probably has a little bit easier comparison because of the adjustment that we took at the end of 2011 for the welding gas.

Okay, that's fair. Thank you. And then, last question, just on the buyback -- help us understand how you guys are determining how much to buy, when to buy, what price? Obviously your stock has been pretty volatile recently. And then does your guidance for the back half assume any more buyback or not? Thank you.

Sure. Peter, when it comes to our management of that process, there are two pieces. One, there is a limited period after the conference call, where we are allowed to purchase shares on the open market. Subsequent to that, we have restricted periods. And prior to that restricted period, we will set up a matrix, and we we'll buy under a 10b5 plan. As we moved into this quarter and [bet] those targets, the matrix worked according to plan; as if the stock price reduces, the matrix is set up to purchase, or to acquire, additional shares. The majority of the buying in the quarter was done under the matrix, as the share price throughout the quarter dropped approximately 20% from the high.

As we look forward in the guidance, there is very limited share repurchase in our guidance. Because, again, it's very difficult to estimate what that will be in the back half. Again, I would assume that as you model, you'll put some number in there for the share repurchase.

Okay. Thanks very much, guys.

Vincent Sinisi, Bank of America.

Great. Thank you for taking my questions, and congrats on the nice release. I wanted to ask about your gross margin, which was obviously up nicely during the quarter; I realize there's some mix impact going on there. It ended well in terms of inventory, but can you talk about more of the promotional cadence that you saw throughout the quarter? And then also maybe just going back to some prior guidance you have given for the year, gross margin of about 10, 15 basis points. In light of what did occur during 2Q, can you give us an update there?

Vince, hi, this is Greg. Let me talk a little bit, and I'll flip it to choke Tony for the yearly. The promotional cadence was very similar, second quarter last year to this year. So, really, no changes there. What I would tell you is that the team really managed the inventories based upon what we saw on the sales side. And so we came out of the season very pleased with the carryover, which, again, helps boost the margin.

The direct import impact was a little larger this spring than it was in the past, in 2011. Price op, clearly now we're into the second year; we're seeing some benefit there. And if you have been in our stores, you'll see that the private brand expansion and extensions we've been talking about are starting to take hold. So, again, we're building some margin through those product categories. I'd say, in general, it was a multiple of things working for us in second quarter that we see will gain some momentum on, as we move into the second half. As far as the overall yearly, Tony, do you want to comment?

Sure. Vince, as we look forward at the end of Q1, we anticipate a little bit tougher margin climb in Q2. And some of that really came back to us, really as a result of the mix. Not only did we have big-ticket as part of that, but when we looked at some of the other categories, we performed very well from a margin standpoint. We did have a favorable impact from direct imports, as that increased in the quarter. Price optimization represented some increase as well. We actually ran, what we would call about half of an ad less, which, generally, when we run an ad there will be some margin decrease related to that, but there was some benefit there.

As we really worked through the P&L, we had several successes in the quarter that drove margin to be well above what we had projected for that quarter. As we look at the back half, we see the back half being fairly consistent with our original guidance. And, again, we approached both components -- the margin side as well as the SG&A side -- with a conservative flair. But as we work through each quarter, we can have, obviously, a significant improvement above what we project.

But as we enter the back half of the year, we anticipate that with freight moderating, that we can continue to drive gross margin improvement. Now, as we focus on driving towards our 20-basis-point EBIT margin improvement, we believe, in the back half, that will come from gross margin, as it will be difficult to leverage SG&A with the one less week in sales due to the 53rd week last year.

Okay, that's very helpful, Tony, thank you. And just a quick follow-up question; just turning to sales for a second. I know that you guys have said, over time, you feel that weather evens out, and obviously -- but quarter-to-quarter can vary. Have you ever tried to quantify, in terms of like a percent of sales, average that are kind of weather-related. And how you theoretically weigh the weather-prone merchandise versus when a drought actually does happen, and your ability to really try to push items to combat that drought?

Good question, Vinny. No we have not, and the main reason is -- what weather? Is it wet early? Is it dry early? Is it cold? Is it warm? Do we have a drought? Is there a hurricane? Or do we have floods in the Northeast, as we did this year? The real key is the fact that, overall, seasonal is about 20% of our business. So a 10% swing is 200 basis points. It does not impact the Company nearly as much as it impacts the categories.

Okay, thank you, Jim.

John Lawrence, Stephens Inc.

Good afternoon, guys. Greg, would you comment just a little bit -- you talked about the forage a little bit and what it does for the customer and the halo effect. Would you continue that a little bit? I know the live goods was to bring some new customers into the store from sight lines of the store, that kind of thing. What do you think that did for you?

Well, John, you asked me two questions. Let me see if I can maybe summarize both. Both forage -- meaning to string and round bale hay -- and the expansion of the category of live goods, I would say are new businesses for us, or evolving businesses for us. And we have -- through a lot of the consumer research we've done, we've understood that our consumer would buy some of these products from us, but until we could actually place them in the assortment and them, we had no idea what the result was going to be. We are very pleased in both categories, an planned further expansion in both of those areas. So what does it do for us? It makes us more of a destination. No question. More of a destination.

So it accomplished getting that traffic to come see what you're all about, but with those products?

Yes.

Secondly, Greg, you talked a little bit about new stores; they are performing. Is it, once again, the idea of the entire breadth of merchandise that you think is causing, and the overall performance, is just causing those stores to come out of the ground a little stronger?

John, I think it's several things. We spent the last several years really working on how we open a store in a new market, and what's the ramp for that store? What is our focus? And we've done some things to preempt the opening; we've done some things during; and we've done some things to strengthen the aftereffects when the store has been open now, say, a month. And if you remember back historically, our advertising cadence in support of new stores at one time was tied to when we actually ran the cadence for the entire chain. So stores that opened January, February didn't get a lot of attention from an advertising push, because we had to wait for the first cycle of advertising for the chain, which was usually late February, early March.

We now don't do that. We open up with the strong advertising presence in the market. We continue through with that presence, and we do some very targeted local market events and advertising to support that store and try to entrench that store in the market. So it's a fairly comprehensive program that's been developed over the last several years. And we have a whole team of people here, actually, in marketing that operate that. So there's a big difference in how we go to market today versus three years ago.

Great. Thanks for that. And, last question, does the direct import for fourth-quarter change anything about the calendar of when the cold weather product will be really unveiled in the Northeast?

The direct import doesn't have any effect on it. But as we did in the spring, we will look to flow product to the different regions at different times. So we're going to be much more timely with those deliveries, staging them from, actually, North to South.

Great. Congratulations. Thanks.

Alan Rifkin, Barclays.

Okay, thank you very much. Most of my questions have been answered, but I do have a couple. So, you folks continue to raise EPS guidance for the full year, despite, admittedly, Q2 coming in a little soft on the revenue line. Is the incremental outlook that you're now looking for for the full year entirely a result of Q2 outperforming? Or, going forward, are you now building in greater EPS gains from the moderation in freight prices?

Alan, this is Tony. I'll respond. Generally, when we look at the back half of the year, it is very consistent with what we had planned at the outset of the year. So there has been very little change in the back half. So, in answering your question specifically, the majority of the change in our full-year estimate comes from our performance year-to-date.

Okay. And then, just a follow-up. I guess I'll ask the obligatory question regarding the smaller stores' performance in Q2, relative to your plan. How should we think about, going forward, the effect of the smaller store performance? Given the fact that these are in smaller markets, is there a greater or lower discretionary aspect to the mix within those stores?

Hey, Alan, Jim. The way to think about the small stores, as we've been saying now for awhile, is to think about our Company as an 8% square footage grower, as opposed to an 8% unit grower. So we will open the same amount of square feet -- it may be -- it will be a mix of both the large and more opportunistic, small-market stores. The metrics within the small stores, the four wall metrics, are all the same -- return on sales is the same; return on rent as a percent of sales is the same. So for the most part, it will just be a continuation of the historic growth and successful growth that Tractor Supply has delivered.

We have the same impact in the local, smaller community. The fact that we have virtually the same category breath; we have some truncated assortments within some of those categories, but the power of the store versus the fragmented local competition is exactly the same.

Okay. Thank you very much, Jim.

Aram Rubinson, Nomura Securities.

Hey, good afternoon, and thank you for taking my call. I know when you guys generally encounter positive developments during the quarter -- whether it's whether or inflation or other factors -- you're very thoughtful to adjust the following year's plan to kind of lap that impact. Just wondering that, as 2012 incurs a few more curveballs than maybe we originally thought at the onset of the year, how are you thinking about 2013? Do you throttle back on any initiatives? Do you go full bore? Because -- with the hopes that you're going to have fewer curveballs and maybe an easier comparison? How do you think about 2013?

I see 2013 as being verdant. It's going to be green, lush -- we will, as always, we will assume a normalized weather environment; and, to the best guess that we can make, a normalized retail consumer environment. And plan expenditures, inventory and promotions accordingly.

And then the question on SG&A, which you held relatively flat in Q1 on a big comp. Some of that was reduced -- snow removal and utilities, I think. But in Q2, your SG&A per store was also flat to slightly down. Wondering if you could give us more insight into how that's looking, and whether or not you're finding more sustainable things to pick out of SG&A? Or whether that was just kind of making do with a tough quarter, and kind of getting by?

Aram, it clearly came down to some strong expense control, especially around the store operating environment. We will manage based on how we understand the flow of product, and how we anticipate sales for a particular quarter. When it comes to any type of different occurrences in the quarter that might be called out, there really wasn't anything in Q2 that stands out. And we were able to really just manage the everyday, normal expenditures relative to the sales volume. So as we move forward into the back half, we see very similar comparisons when it comes to managing SG&A. And, really, the only difficulty that we anticipate is that additional week that we had last year that, obviously, throws a wrinkle into the comparison.

So, if your comps were up for the first half, 6.7%, and your comp SG&A was flat, we should not expect that equation to persist. Is that fair?

As we've talked about in the past, we generally will look at somewhere between 2.5% to 3% comp sales as where we will leverage SG&A. Again, that's just a general rule of thumb. There may be some quarters or the back half where we can be more aggressive in the management of SG&A. But for the most part, our target number is about 3%, is where we begin to leverage SG&A.

Thanks, and great performance. Appreciate it.

Brad Thomas, KeyBanc Capital Markets.

Thanks. Most of my questions have been answered, but just had one follow-up on the drought questions. I believe it's a pretty small percentage of your customers who are actually professional farmers -- 10%, if I remember the number correctly. But what are you seeing at this stage from professional farmers? And what are your expectations for the next few quarters, given the conditions?

Brad, this is Greg. That percentage is actually even lower than what you quoted. From what we gathered in our data, I would tell you that many of them are -- it's not as widespread as some people would think. If you look through the center part of the country, and you look at the drought maps, it's where a lot of the corn and soy is grown. But there's a number of those individuals. When they have a good crop -- and, initially, if you knew anything about what was happening in the planting season here, there was a large increase in planting this past spring, based upon what happened last year.

Unfortunately, with the drought, a lot of that is not going to bear the type of harvest that they expected. But we see in our business is when some of the farming communities, heavy farming and production do well, we see a little bit of a halo effect in that community, because there is a feeling of a little more wealth, I guess, in the community. In general, it has very little effect on our business, very little.

All right. Thanks, guys.

Joe Feldman, Telsey Advisory Group.

Yes, hi, good afternoon, guys. Congratulations on the quarter. I had two different questions to follow up on. One, I know the inventory, overall, looked pretty clean. And you guys said you're not too concerned. But you did mention there were a few pockets of spring merchandise that you needed to get through. I was just wondering if you could give a little more color on what that might be?

Let me speak to that, Joe. In spring carryover, I would talk a little bit probably the outdoor power equipment categories. Things that don't age, necessarily, like live products and such. Ironically, though, where we have some inventory, we have it in the right regions. So if by chance they get a little bit of some moisture in the third quarter, those units should clear themselves. But there is no large concern or buildup of product in any one given place. I give our inventory management teams a lot of credit for being able to target that inventory early and shut things off before we were over-receiving. So it's more in that category; really no other place in the store. We cleared through the rest of anything that was live goods or dried root, seed and things of that nature. It's all through the buildings.

Got it. That's helpful, thanks. And then one other question -- anything to note, from a competitive standpoint, that you guys have seen out there, whether it's just from all the local mom-and-pops or any of the bigger players -- whether it's Home Depot or PetSmart, or anybody just making any bigger push into some of your categories?

Jim. I would say business as usual. We spent a lot of time in the field and we're in and out of our competition all the time. And there's nothing -- no emerging threats at this point in time.

Perfect. Thanks so much, guys. Good luck with this quarter.

Simeon Gutman, Credit Suisse.

Thanks. Tony, one quick clarification question, and then one on inventory. Some of the comp adjustments that you mentioned, the pull-forward, I think you said 300 basis points. And then the calendar, the detail that you provided in the release would suggest another 250 basis points. Is that right? Are those -- should be both additive? Is that the right way to look at it? Is that how you're viewing it, and how we should model going forward?

No, Simeon. The pull-forward is as you're looking at it. It's about 300 basis points, maybe a little bit more to Q1 than to Q2, but 300 basis points to Q2. And, again, that's our best estimate. The adjustment to the comp is to last year's 2011 comp, which was a reported 4.6%. So if you take the actual weeks this year and look at what the comp was last year, it was not 4.6%, it was 7.1%. So we were just making the point that the two year stack really should be the 3.2% this year and the 7.1% last year. So, overall, in the two-year period, it's over 10% comp.

Okay, yes. That's right. That's what I wanted to confirm. And then the second piece on inventory, given how well it was managed. Can you just walk us through what components may have helped? Whether it was starting from an ordering process, merchandise that you managed well through markdown, or maybe -- I don't know -- do vendors cooperate on markdown? And then any inventory on recourse? Or is this all inventory that works right through your system?

Simeon, this is Greg. There is a lot of rigor that goes into planning of inventory, as you can imagine. And as we have strengthened our relationships with the vendor community, we work a lot on production scheduling and forecasting. X-amount of the inventory, we have to have when we open the season. But, then, from that point on, it's a lot about forecasting. And sometimes it is the vendor community holding inventory for us, in the aspect that we may need it. So we have really refined that process over the last 2 to 3 years. And that's giving us the ability to move quickly.

The same goes when business is very good. We can forecast forward. We start to build inventories and chase business. So I guess it's the expertise and the flexibility we built in with the manufacturing community, and we just improve upon it year to year. Now, as far as clearance, you asked that question. We act very quickly within season. If you're in our stores on a regular basis, you'll see that we'll start taking some initial -- I'll call it, small percentage markdowns on products that aren't meeting our sales expectations, particularly in seasonal. We'll do it early.

The old saying is, the first markdown is the cheapest markdown. Customers will respond to a discount, a small discount early in the season, when they have an appetite for product. And I've always told the merchant group here, it's better to get $0.75 on a dollar and take a 25% markdown now, than it is to get $0.25 later when we wait till the end of that season. So we really have a rigor around that as well. We work early, we work fast, and we move through the inventory.

Okay. Can I just sneak one last one -- maybe for Greg -- on the hay, regarding the supply chain? Is it becoming more developed? I know it's probably slow-moving. And is it a constraint for eventually rolling it out. Is it, some markets just don't necessitate it, meaning they're not big users of it? Or is it because there's just not enough supply that could be done in some of the sizes that you need?

Couple of questions. I'll try to answer them all. Number one, in most markets where you have large animal, you have the new need for forage. And that's many of the markets that we serve; a little heavier in the South versus the North. But in most markets, we have the need. Secondly, we are able to source the product with our buying team here on a local basis, but we source it using people that typically irrigate. So that gives us the supply chain, keeping it intact, because if you're just trying to source it on the -- sometimes a local farmer who doesn't have that irrigation capability, of course you're not going to have product to sell.

So it's a little bit of a combination of things. But the opportunity is still great. And it's not so much availability as it is just building the network.

Okay, thanks.

Matthew Fassler, Goldman Sachs.

Thank you so much. Appreciate you keeping the call going here. Two questions. The first on SG&A, and it sort of follows up on Aram's question earlier. You said the last two years, your expenses per store were up about 2.5%. And I guess in 2011, it would have been a little bit more, but for the extra week. Here in 2012, year to date, thinking about the business it has, as you suggest, the expenses per store are roughly flat. Are we in a different phase, from an SG&A perspective, due to investment? Have you thought about cost control differently, given the volatility in the business? And I guess also, in the calendar shift in the first quarter, just to make sure we're not missing something, is there an impact on the SG&A comparison as well?

Matt, this is Tony. I would say that we have, over the years, put in place some improvements when it comes to how we've managed labor and some of the expense controls in the store. In particular, we use our continuous improvement process to drive out waste in many of our processes and become more efficient. So I do believe that there has been some structural improvement. I do believe that the field management team, and particularly Downing, who is overseeing the stores, has done just an excellent job in driving stronger performance and expense control.

As we noted in the first quarter, because of the very mild winter, some of the expenses -- in particular the utilities, the electric specifically -- and snow removal was very limited in expense. So that clearly is one area that would not be sustainable as we have a normalized winter next year. So as we move forward, I don't think we're at a point where there has been some significant change. But the small improvements that we've made have continued to take hold. And we believe, again, we can continue to manage through those situations.

The one thing that I would mention is, as the store base does mature and we continue to drive comp store sales improvement -- in particular in the mature stores, which we have seen a very nice improvement over the first half of this year in our mature store base -- we do get some significant leverage on both the payroll and the store operating expense line.

Thank you for that detail. And then, just a very quick follow-up. To the extent that inflation were to come in a little bit higher than the numbers that you gave, given some of them pop that we've seen in some of the agricultural commodities, would that have an adverse effect on gross margin rate relative to plan, understanding that gross margin dollars would benefit?

Generally, I would agree that it would. Because in this case, since the category that would be the outlier would be the grain products, which impacts feed, and they turn the quickest; we would, obviously, realize that in our expense structure much sooner than some of the other inflation categories. And, therefore, it would impact our margin percent. So again, as we made the case before, we will still maintain our either dollar-per-bag or dollar-per-unit when it comes to feed. We will get a topline improvement. And that also gives us the opportunity to better leverage SG&A. So it should impact gross margin percent negatively. But there is clearly an offset when it comes to improved sales and SG&A leverage.

Understood. Thank you very much.

Adam Sindler, Deutsche Bank.

Yes, good afternoon, guys. Thanks for taking my question as well. Just a couple of real quick ones here. First, would you be able to say which month was worse -- April 2011 or May 2012?

April 2011 or May (multiple speakers). April 2011 was very, very, very bad. It was a very tough month.

Okay. Would you be able to say if May 2012 was actually negative on a comp?

We do not disclose that. But it was not anywhere near the impact of April the prior year.

Okay. And then just real quickly, would you be talking about inflation of 1% to 2% in this quarter if we had not seen the rise in corn prices recently, relative to your original plan?

Yes, we would. The adjustment that we've made for the crop prices had an impact. But it still kept us within that range. So, again, there is an impact. But it -- generally, we were in that range, regardless.

Okay. And then just last, quickly, the JobSmart -- the tools program has rolled out really in force during the spring season. Any initial feedback on that? And any feedback on some of the outdoor RedStone product that you guys introduced?

Adam, this is Greg. RedStone is really a fall-based product -- that's heating, so it was kind of going through our clearance cycle. The JobSmart program actually launches this quarter. So the new products should be coming out. You're talking about GroundWorks, actually, that (multiple speakers) --

I'm sorry, yes. Thank you. Right.

It did extremely well; very pleased with it. Our customers were delighted with it. They loved the value proposition that we brought, and we plan to take it further in 2013.

Very good. Thanks, guys.

Matt Nemer, Wells Fargo.

Hey, guys. Just two quick ones. Can you disclose how many stores are in the severe drought areas? And then secondly, does the drought have any residual effect on the fall season or the fall-winter transition in some of these markets? Thank you.

Okay, first part was drought. We have a -- and this is not defined as severe drought -- we have drought pods in 350 of our stores at this point in time. Did you get the second part of the question, Greg?

Second part was, what's the impact on third-quarter? And actually, Matt, what happens is, the drought hit in second quarter. And as we move out of second quarter into third-quarter, those products that were impacted have very little impact in the third quarter move-forward business. So we're kind of past the worst, is I guess what I would say, as far as those products that sell in the second quarter that were impacted. We're now into fall.

Great. That's all I've got, thank you.

Brian Nagel, Oppenheimer.

Hi, good afternoon. I guess kind of a follow-up to Matt's question. And I apologize if you addressed this before. But do you quantify, if you look at the Q2 comp, did you quantify what the specific impact of the drought may have been?

We did not.

Can you?

Very difficult to do. Very difficult. It would be, basically, a swag. I won't give you that.

Well then, I guess, the second question I was going to ask related to that. You did mention, I guess in past drought seasons you've seen the residual benefit as you go through the season, and people fix their lawns. Is there any way to say how -- at what time does that usually happen? How long after a drought does that usually happen? And how big could that be?

Well, in Texas -- as an example, a year ago -- we saw the impact later in the year. Because Texas, being a warmer climate, people didn't start doing those kinds of activities until late October, November, and into December. I think in the Northeast, as an example, where we've seen some drought this year, it will probably be in the early part of fall. So I'm seeing probably some movement in August-September. And that's what we are kind of targeting. We're looking, really, for a little indication from the consumer. As we see some movement toward seed products and some other products that would be related to refurbishing pastures, then we can -- we'll move on it and act upon it. But really waiting to see if the drought continues and dryness continues; there won't be a lot of planting there either.

And then as a follow-up, and taking a step back. Clearly, you had a lot of moving parts here with your sales; and, really, that first happened in the second quarter. As we parse out the drought, you parse out all the pull-forward on demand, can you make any comment about the underlying trajectory in that non-weather-affected business? Did that stay stable for you through the year? Or did you see some type of deterioration here recently?

No, we actually -- we have seen continued strength, Brian, in the core CUE businesses. And we continue to believe that, because of that strength, we're taking market share. So we're very comfortable and very confident those businesses will continue.

Brian, this is Tony. If you take a look at my prepared remarks, I did give you some insight as to the performance of the CUE for the quarter, was up low-double-digits; and in units, it was up high-single-digits. And then, if you excluded some of the seasonal categories -- what we refer to as sort of as base business -- was up a nice, firm mid-single-digit as well.

That's very helpful. Thank you.

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

Thank you all very much. In the past few years, Tractor Supply has operated more effectively than at any time in its history. This is best demonstrated by the fact that we've had 17 consecutive comp transaction count increases -- 17 quarters of that; 14 consecutive quarters of double-digit EPS growth; 11 consecutive quarters of comp sales increases; and 10 consecutive quarters of expense leverage.

We know and understand our customer. Surveys indicate that our customers are receiving exceptional customer service from our more than 16,000 knowledgeable and motivated Tractor Supply team members. We are today very confident in our ability to manage the controllable. And we are continuing to demonstrate our ability to run our business effectively, despite the uncontrollable -- whether it's the economy; inflation; timing of the weather; or, now, significant droughts.

We appreciate your continued interest and support of Tractor Supply, and look forward to speaking to you in about 90 days.

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