The Pantry, Inc. F4Q08 (Qtr End 09/25/08) Earnings Call Transcript

Nov.20.08 | About: The Pantry, (PTRY)

The Pantry, Inc. (NASDAQ:PTRY)

Q4 2008 Earnings Call

November 20, 2008 10:00 am ET

Executives

Barry Epley – VP & Corporate Controller

Peter Sodini – President & CEO

Frank Paci – SVR & CFO

Steve Ferreira – SVP of Admin.

Analysts

Brian Hunt - Wachovia

John Heinbockel - Goldman Sachs

Mark Miller – William Blair

Karen Howland – Barclays Capital

Ben Brownlow - Morgan Keegan

Anthony Lebiedzinski - Sidoti & Company

Unidentified Analyst – Lord Abbott

Operator

Welcome to the fourth quarter 2008 The Pantry, Inc. earnings conference call. (Operator Instructions) I would now like to turn the presentation over to your host for today’s call, Barry Epley, Vice President, and Corporate Controller.

Barry Epley

Good morning everyone, thank you for joining us. As you know, earlier today we announced financial results for our fourth quarter and full 2008 fiscal year. If anyone does not have a copy of the release and would like one faxed or emailed to them, please contact Selby Kewin in our office at 919-774-6700 extension 7002 and she will see that you get what you need.

Before we begin today, I would like to point out that certain comments made during this call might be characterized as forward-looking statements under the Private Securities Litigation Reform Act of 1995.

Generally speaking, comments regarding the company or management’s beliefs, expectations, targets, goals, plans, outlook, or predictions of the future are forward-looking statements. These statements involve a number of risks and uncertainties that could cause actual results to differ materially from the anticipated results implied by these forward-looking statements. These risks and uncertainties are detailed in The Pantry’s filings with the SEC and in our earnings release issued this morning. We refer you to the SEC’s website or our site at www.thepantry.com for these and other documents.

We also will discuss certain non-GAAP financial measures today that we believe are helpful to a full understanding of our financial condition. Certain of these non-GAAP financial measures were also included in the press release that we issued this morning.

We therefore refer to our press release posted on our website which includes a presentation and reconciliation of each non-GAAP financial measure to the most directly comparable financial measure included in the press release and an explanation of why we believe these measures provide useful information to our investors and how they are used by management.

With us today are The Pantry’s Chairman and CEO, Peter Sodini, Frank Paci, our CFO, and Steve Ferreira, our Senior Vice President of Business Development.

I will now turn the call over to Peter.

Peter Sodini

Thank you Barry and good morning to everyone. We had a pretty good final quarter to conclude and unprecedented year particularly from the perspective of cost volatility. Despite this incredibly challenging environment we closed off fiscal 2008 on a strong note with fourth quarter earnings per share of $1.03, up sharply from $0.25 a year ago.

EBITDA for the quarter was $87.4 million, up 49% from last year’s fourth quarter. For the full year, EPS was $1.43 compared with $1.17 in fiscal 2007 and our EBITDA was $247 million, a 15% increase.

As alluded to earlier we experienced unprecedented and nearly continuous increases in oil and gasoline prices for the first three quarters of this year which has virtually effected our gas and merchandise sales and put significant pressure on gas margins.

As you know oil prices peaked in July, and by our fiscal year end this [fell] more then 27% which had a positive impact on our fourth quarter gasoline margin. As a result we were able to achieve a gasoline margin for the full year of 12.4% per gallon in line with our long-term annual average.

While gas prices reversed course and began to drop in July, versus the comparable quarter from a year ago and up 3% from Q3 average, higher gasoline prices and the slowing economy led to decreased amounts driven in the fourth quarter.

Barrel data shows that many of the states where we operate have been among the hardest hit in the US in terms of miles driven. In August for example the government estimates that miles driven on a national basis was down 5.6% compared to the comparable period a year ago.

In September the government estimates and this is the most recent data, the government estimates that miles driven in the US was down 4.4%. Just to give you a flavor for some of the detail, looking at our key states in our geography the numbers are the following.

Florida for September, down 5.6%, Tennessee down 7.3%, Alabama down 6.2%, North Carolina down 6.1%, South Carolina, a highpoint, down 8.4%, and Georgia down 5.4%, for a composite of approximately 6.5%.

This significant drop in mileage driven coupled with the storm impact in selected states caused our gasoline comps to be down 6.8% for the quarter. Obviously there’s considerable uncertainty in the economic environment and it remains to be seen how gasoline demand will shake out over the months ahead.

We believe we should receive some benefit from the significant decline we seen in gas prices but the overall economy clearly continues to weaken. We remain optimistic that we will see improvement in gasoline comps as we move through the year but there is a chance that frightened consumers could continue to keep gasoline demand low.

On the merchandise side we’re encouraged that comp store merchandise sales for the fourth quarter were down only 2.5% which matched our performance in the third quarter. We think that’s a pretty good performance in light of the softening economy and the further decline in our gas comps.

We achieve these results particularly through increased promotional activity which had some impact on our merchandise gross margin. Frank will get into details on that in a few minutes.

But our strong fourth quarter and the steps we took throughout the year to cut expenses and capital spending we made good progress toward our objectives of improving free cash flow and strengthening our liquidity position.

Good organizational restructuring at the beginning of the year and a variety of other measures to reduce costs throughout the year we reduced expenses by $26 million [in front of] our initial 2008 guidance.

So when the gas market turned in our favor we had a streamlined cost structure in place that enabled us to more fully leverage the improved margins. Specifically we generated approximately $55 million free cash flow during the year and had $217 million in cash on the balance sheet at year-end.

Given our current outlook for a relatively strong first quarter as well we have decided to begin looking at selected acquisition opportunities again. We continue to believe there are many potential opportunities for us to grow through accretive tuck-in acquisitions that can compliment our existing store base across the southeast.

The [C] store market remains very fragmented with over half the stores in our key states still operated by single store operators, so we believe the market is right for further consolidation. We will however be selective considering opportunities any potential deal would have to meet the specific criteria, particularly the level of earnings accretion.

Now I’ll turn it over to Frank who will review the numbers in greater detail.

Frank Paci

Thanks Peter and good morning everyone. Total revenues for the fourth quarter were approximately $2.5 billion, up 24.5% from last year’s fourth quarter primarily due to higher gas prices this year.

Total gross profit for the quarter was $252 million, up 14.7% from a year ago. On the merchandise side total revenues were down 0.7% and comparable merchandise sales declined 2.5%. The merchandise gross margin for the quarter was 3.4.7% compared with 37% in last year’s fourth quarter.

These results include a LIFO charge that was $6 million higher then we had forecast. We always estimate a LIFO charge every year based on inflation assumptions but this year the inflation factors for cigarettes, beer, and packaged beverage jumped substantially in Q4 which caused us to take an additional charge.

As you may be aware, LIFO is a non-cash charge that actually provides a positive cash benefit by lowering taxes.

Excluding the additional LIFO charge our merchandise margins for the quarter were approximately 36.0%. The decline from a year ago was due to increases in our promotional activity aimed at driving store traffic in this environment, most notably in the cigarette and soft drink categories and to mix shifts reflecting weak sales in our high margin categories of groceries and services.

In the gasoline business retail gallons sold for the quarter were down 4.7% overall and down 6.8% in comparable stores. Total gasoline revenues for the quarter were up 31.4% reflecting the 39.5% increase in the average retail price per gallon from $2.86 a year ago to $3.85 in this year’s fourth quarter.

Our gross margin per gallon was 19.2 cent, up significantly from 10.5 cents a year ago. As most of you know we report our gas margins net of credit card fees and equipment maintenance costs which were 6.3 cents per gallon in this year’s fourth quarter compared to 4.8 cents a year ago, almost all of the increase was driven by higher gasoline prices.

Store operating expenses were $137.7 million, up $4.5 million or 3.3% from last year’s fourth quarter. During the quarter we saw increased expenses in store labor, bonuses, medical claims, utilities, and property taxes. These costs were up $9.8 million sequentially and $3.4 million versus last year.

Our average store count for the quarter was also up about 1% from a year ago. G&A expense for the quarter was $27.3 million, down 2.8% versus last year. Last year’s G&A expenses in the quarter included $3 million in restructuring charges which was offset by a $3 million additional [bonus] accrual this year.

The reduction in expenses was driven primarily by lower professional fees and lower salary costs as a result of the restructuring we did last year. Depreciation and amortization expenses were $27.6 million up $600,000 or 2% from a year ago. Net interest expense for the quarter was $22.3 million down $400,000 from last year despite the fact we excessed our $100 million delay draw in May.

Pre-tax income was $37.5 million, up sharply from $8.7 million in last year’s fourth quarter. The tax rate was 38.7% up from 35.7% a year ago. Net income was $22.9 million or $1.03 per share compared to $5.6 million or $0.25 per share.

EBITDA for the quarter was $87.4 million compared with $58.5 million a year ago.

Now I’d like to review a few highlights for the full year, merchandise revenues were approximately $1.64 billion up 3.9% from a year ago and down 1.7% on a comparable store basis. Retail gas gallons for the year totaled $2.1 billion up 3.5% overall but down 4.4% in comp stores.

The merchandise margin for the year was 36.4%. The full year margin includes a 30 basis point impact from the additional LIFO charges. Without those additional charges full year margin would have been 36.7% compared to 37.2% in fiscal 2007.

Our retail gasoline gross margin for the year was 12.4 cents per gallon up from 10.9 cents in the previous year and excluding our hedging losses of about 5 cents per gallon earlier in the year our gas margin would have been 12.9 cents per gallon.

Total store operating general and administrative expenses for the year were $612 million, about a 2.5% increase which was significantly less then the 4.6% increase in the average number of stores we have in operation.

Capital expenditures for the full year were $109.5 million on a gross basis and $83 million net of sale lease proceeds and other transactions. Our CapEx budget for fiscal 2009 is approximately $105 million on a gross basis and roughly the same on a net basis.

This capital spending number includes capital for the acquisition of our new corporate support center in [Kerry], North Carolina and reflects a slower pace of store openings due to the soft economy.

During the year we acquired 20 stores and opened 14 new large format stores. As Peter noted we are planning on getting more active on the acquisition front assuming we can find deals that meet our criteria.

We currently expect to open approximately four new stores in fiscal 2009.

With respect to the balance sheet we finished the year with $217.2 million in cash and cash equivalents, up sharply from the $71.5 million a year ago and also up considerably from the $161.9 million at the end of June.

The increase of cash for the year reflects in part our exercise of the delay draw option under our credit facility as well as our strong free cash flow generation for the fourth quarter and full year. We also have approximately $132 million available under our revolving credit agreement.

As a result of our substantial cash flow we will be making a required excess cash flow payment of approximately $23 million which will be used to reduce our outstanding bank debt. The excess cash flow payment should reduce our interest expenses and improve our covenant coverage.

With our strong fourth quarter, our position relative to all of our applicable covenants under the outstanding debt instruments has improved significantly. At year-end we had a cushion of over $50 million on a trailing 12-month to EBITDA basis against our interest coverage covenant which is our most restrictive.

In this morning’s press release we provided our initial guidance ranges for fiscal 2009. We expect total merchandise sales to be between $1.60 billion and $1.66 billion, gasoline gallons to be between $2.0 billion and $2.1 billion. The merchandise gross margin is projected to be between 36.0% and 36.6%. Our gasoline gross margin is targeted at between 12.5 cents and 15 cents per gallon which reflects in part the favorable marketing conditions we experienced so far in the new year.

Store operating and general and administrative expenses for fiscal 2009 are expected to be between $620 mill and $630 million. In addition depreciation and amortization is estimated to be at $105 million to $110 million and net interest is projected to be at $85 million to $90 million.

None of these estimates include any impact from potential acquisitions. And with that we’re now ready for your questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Brian Hunt - Wachovia

Brian Hunt - Wachovia

Can you define what a tuck-in acquisition is and do you believe its improbable that you’ll use all your excess cash for acquisitions this year?

Peter Sodini

The tuck-in acquisition to us is an incremental, I think I mentioned it, the high percentage of single store operators, we like picking up single stores in a market where we already have significant base stores and volume. It comes in almost as a freebie in terms of overhead ride and obviously we’re in a market terrain where we’re familiar with competition and market tenants. So those work out particularly well for us and we continue to look for them. Over the years it’s been a significant item to us as we’ve accumulated stores.

Frank Paci

On the cash, obviously given the uncertainty that’s out there in the economy we feel that it’s appropriate for us to make sure that we’ve got a good liquidity position. As we look at these things obviously its hard to predict at this point in time what’s going to be available in this marketplace.

Our position is is that we’re focused on maintaining our liquidity and doing those kind of things and if there is opportunities that avail themselves we’re in a position we think we can take advantage of that.

Peter Sodini

If you go back to last spring, we announced we were going to be getting out of the acquisition market through end of calendar year. We in fact did that. We did not however cut ourselves off from the world and say we won’t look at anything because if nothing else you’ve gleaned what’s available, what kind of expectations sellers have, so we’ve stayed in contact with the marketplace and not surprisingly with the thresholds of getting bank financing for a lot of the smaller people, it has become a more difficult market and product hasn’t been moving robustly even though there were some buyers out there with all the economic uncertainty that exists.

By saying that we are now interested in looking at things we don’t want to convey an impression that we’re out there looking for a 700, 800 store acquisition but more staying in tune with the marketplaces and looking at individual stores or small pockets of stores that fit into an existing market that we’re already present in and have a critical mass.

Brian Hunt - Wachovia

Could you tell me when that debt payment is due on your excess cash flow requirement?

Frank Paci

Its due in January.

Brian Hunt - Wachovia

You obviously stated you’re having a favorable beginning to the new year given what’s going on, or what continues to go on with oil and rack prices, can you talk about whether you’ve seen any elasticity in gallon consumption given the decline in fuel prices and we’ve heard from some independent players that they’re seeing a pickup in merchandise comps as well as fuel has declined and I was wondering if you could talk about what your experience so far is in Q1.

Peter Sodini

We have not seen, even though the gas has rocketed down from the 380, 390 level over $4 in some markets at the peak to presently if you look across the panorama of all of our stores, we’re predominantly around $2 or less then $2 in most areas. If you consider the customers and consumers in general have been through 60 days of electoral politics with a lot of emphasis on the pending recession, customarily referred to as the worst since 1929, its not surprising that people get rather jaded, frightened, and concerned.

So we weren’t immediately expecting a robust return to miles driven. I think the miles driven stat says it improved from August to September. It’s certainly not what we’ve experienced in this market generally since these are, we’re in predominantly [growth] states. I think the consumers become very cautious. The input we get from some of these rapid transit authorities around our networks suggest that people start exiting their costs, start using conventional government transportation, city transportation, however you want to refer to it, more and set their cars aside.

Most recent stats which are September suggest that they are still, these rapid transit authorities are still experiencing substantially better comps then they had a year ago which tells me that people are not leaping back into their cars. And we don’t find that all that surprising.

Frank Paci

I think the other thing that makes it a little bit difficult, as you know there were shortages in a lot of our markets so you had some artificial demand restriction if you will, early in the quarter so you really weren’t even in a normal operating environment so it was really difficult to do the trends and the other thing that I think that happens on a lot of the stuff is that from an anecdotal point of view, when you fill up your tank is when you realize how much you’re saving. Even though you know the prices are lower, you don’t really know how much you’re saving.

And I hear people say, wow it only took me X amount of dollars to fill it up, so even though you see the prices, I think that will take a while to reflect in some of the behavior that’s out there.

Peter Sodini

You still have commentators on major media when they give a recitation of all the terrible things that are happening in the world, they have and continue to refer to high gasoline prices even though gasoline has come up well north of $1 a gallon, its still references one of the seven or eight plagues that exist in society.

The realities are the consumer has a helluva tax [rate]. It directly hits disposable income and it appears not surprising that they’re being cautious with their dollars. We certainly try to help with the economy inadvertently by lowering gasoline prices down but I think discretionary drives, we’ve heard some statistics about Thanksgiving, that a fair percentage of the population is going to stay within very tight radius of their home and not make what for them is customary trips to maybe another state where they have family concentrations because of not gasoline prices for sure because its been, its not that abnormal now, but I just generally an unsavory attitude about when am I going to lose my job, am I going to lose my job, is General Motors going to go under, is Ford going to go under.

You pick up the paper and it reads like an obituary column on these front pages up to and including today so to say the consumer is frightened is a bit of an understatement. How you’re going to change that psychology, I think that happens only when they start to see something that says, XYZ Corporation is actually hiring, planning to hire X number of new people.

Right now all the forecasts are that companies are, in retail, close stores, lay off people, and that’s not a good selling environment.

Brian Hunt - Wachovia

Are you seeing more cash purchases versus credit card?

Frank Paci

What we actually had seen, when we talk about our credit cards, that includes debit cards, so I think, we’ve certainly seen a slowing in the increase of credit card utilization. We’re actually relatively flat from Q1 to Q2 to Q3. We saw a little tick up in Q4, but its been, compared to the trajectory it was on prior to this year, the slope of that curve is a lot flatter then its been in the past.

Operator

Your next question comes from the line of John Heinbockel - Goldman Sachs

John Heinbockel - Goldman Sachs

With regard to acquisitions does the current environment, does that force you to change any of the criteria in terms of either what you’re looking for in an acquisition, how you discount their performance going forward, what you’re willing to pay, do you change your model because of this environment or no?

Peter Sodini

I think you mentally do change your model in terms of the amount you’re prepared to pay and two, at least I would say in the first couple of quarters, I don’t expect unless they’re really under financial duress and a lot of these independents are not, they own their building, land, equipment, so they don’t have any heavy, they’re pretty conservative people, that’s why they’re in business for 20, 30 years.

We would probably expect them to ask us or a potential buyer to take their most current earnings and do a multiple off of that. We would not do that. We don’t do that. We don’t have to do acquisitions in this environment. There is an advantage to being conservative and worst case building cash, that’s not a cardinal sin.

I would say we’re back in the acquisition market but we are cautiously in the acquisition market.

John Heinbockel - Goldman Sachs

It sounds like if anything is going to happen its not going to happen in the next couple of months, its going to be later in the year.

Peter Sodini

I would be surprised if something happened in the first couple of months. But again, we have no insight as to what might be coming but just gut feeling based on what’s happened in the past when people come off a good quarter, their expectations rise and they would actually ask you to take that stream and project out for three years and obviously that doesn’t make sense.

John Heinbockel - Goldman Sachs

What historical data do you have or have you looked at, do you either look at merchandise comps or gasoline gallons versus unemployment in your markets and how correlated are those things?

Peter Sodini

If you look at the most current, using the miles driven metric, if you look at the most current one, our worst state in September I believe its been in South Carolina about 7.8% down from a year ago. That has a little correlation on a total statewide basis but in the market where we have a lot of emphasis in Charleston, it doesn’t have a direct correlation.

John Heinbockel - Goldman Sachs

Because what you sell is basics and the average ticket is small, would you think if you saw 100 to 200 basis point increase in the unemployment rate in your region, the comps wouldn’t get better but they wouldn’t get worse, or do you think they could get better?

Peter Sodini

We’re in unchartered waters, that’s a very difficult question to respond to. If you look at our merchandise and look, we are in the business of selling vices, beer. Our beer category has been generally strong. So there are some that appear to be resistant to, actually our cigarette unit sale is not bad at all on a comparable year to year basis so maybe I guess from that you could derive that people are staying home smoking and drinking.

Frank Paci

I think the real challenge is as you look at it in our general merchandise category and some of our grocery categories which are, and car washes which are much more discretionary so and that’s why when you look at the margin and we talked about some of the margin issues, some of that is a mix shift between the categories that are performing better which are cigarettes and beer which are lower margin categories and some of our higher margin categories are struggling a bit more and they’re a little bit more discretionary.

Peter Sodini

A leading edge item for us has always been, if you go back to Rita, Katrina, its always been car washes. We operate a couple hundred of them and that’s the first thing people drop off the radar obviously its purely discretionary. You can wash your car if you’re not in a drought area but somehow you keep your car clean without spending $6, $7, $8 or $9 depending upon the car wash.

So that item goes almost in direct correlation to what the economy looks like.

John Heinbockel - Goldman Sachs

If I look at your merchandise sales guidance it does seem to imply a better comp this coming year then last year and I assume that’s because the comparison is easier or is there something else?

Frank Paci

I think that’s part of it. I think there’s a combination of the comparison is easier and we’ve already seen some price inflation and the difficulty given what’s happened and I’ll talk about inflation, but we’ve already seen the candy makers take price increases twice. The beer guys have taken price increases so there is some knowledge that we have going into there that we’ve already taken some price increases and that may have a positive impact to offset whatever kind of traffic issues you’ve got there.

Peter Sodini

And beverage vendors are definitely going to take a cost increase and we’re in negotiations with them but that category is going up and all you have to look at too is the earnings of Coke and Pepsi and you can see why.

John Heinbockel - Goldman Sachs

If you take and I assume October was real good from a CPG standpoint, the number probably is too but, at some point we’re going to get normalization here, once we get past that I assume you’re looking at a CPG, the last three quarters of the year which is consistent with where you’ve been historically 11 to 13, or 11 to 12, is that fair, or do you think even in the back half of the year it’ll be a bit better then that?

Frank Paci

We don’t know what next week margin is going to be, the only thing we know is we know what we’ve got so far and for the rest of the year we’ve kind of assumed normal, what we’d see under normal terms.

Peter Sodini

You look at the [bands] that Frank talked about, the 11 to 13 range, one way or another and it may come in on an irregular basis, but the 11 to 13 range seems to be a reasonable expectation and how you get there is, we got there in a very, very unusual way this year. Next year could be different then last but year in, year out there aren’t a lot of points that show we’re going to consistently fall outside of that range.

Operator

Your next question comes from the line of Mark Miller – William Blair

Mark Miller – William Blair

I’m interested to get your opinion on the volatility of the business. You have to have a thick stomach lining obviously to operate in the conditions you do, but do you look at the past experience and are there any levers in the business that you can pull to smooth out the experience. Obviously from a balance sheet standpoint, paying down debt would allow you to do that to some degree, but just generally in your business have you looked at anything you can do at the margin to flatten that out to some degree?

Peter Sodini

We’d like to say we’re well out in front with our forecast of what the respective margins in the two categories is going to be for the balance of the year but that belies the facts. We aren’t. Merchandise tends to be a fairly predictable item except that you’re in a very unique set of circumstances with this economy and we honestly don’t know where its going.

I think our forecast reflects the fact that we have been pretty damn conservative in looking at the out quarters and that’s the safest road for us to go given the level of insight we’ve got into where gasoline and energy generally is going to go. This morning its down again. If you look at the buying markets. We don’t know where the base is going to form but ultimately at some point there will be a base and then you’ll be reacting to an up market.

But it has been a continuum downwards with no bottom yet has been able to be established. The commodity markets, and that continues on into this morning so we look at where we are, we do a projection on a conservative basis going forward and that’s about it.

Merchandise we can do something about and we’ve promoted heavily in the spring/summer months to, in anticipation it was going to be a softer economy. I think we accomplished that. You also have to appreciate and we didn’t probably outline the magnitude, but what happens with these storms that we experienced this year, particularly in a couple, three markets, I’d list two; Chattanooga and Charlotte.

When you have 67 to 69 stores in a Charlotte market and you’re out of product totally in 57 of them, that effects obviously the gasoline, there’s nothing to sell, and it also, there’s a spin off and it going to hurt your merchandise comps at the same time and not in an immaterial way.

So you’ve had that to contend with so it makes it hard for somebody to look at our comps and particularly in Q4 and make much of general deduction unless you consider the magnitude of what happened in two, probably three markets. I would list Raleigh market, which was not the picture of stability in terms of the logistics and supply. We have been meeting with our gasoline suppliers and to come up with a different, for them to come up with a different posture, look at alternative sources of product, because I never want to go through a period like we went through in September/October where you’re flat out of business in so many locations and it has a dramatic impact obviously on comps and also on resulting margins and cash flow. So the numbers in Q4 are a lot of very, very awkward circumstances that took place during that quarter.

Frank Paci

I think the other thing is that obviously some of the actions we took this year in terms of the restructuring and drop in the expenses obviously that, to me what you have to do is you have to set this business up knowing you’re going to have that kind of volatility and you’re in a position so that when the market turns like it did that you can leverage those kind of things and to me that’s the best that you can do.

Mark Miller – William Blair

It may have sounded like a criticism and you did a great job of getting your expenses down which is one thing that you can do to react to the environment, but given the experience we had, brush with the covenants, how much urgency do you feel or how big of a benefit do you think it would be to strengthen the balance sheet a little bit, what is the chance that more then half of the free cash flow goes to acquisitions or are we merely just saying hey, we’re back in the business of looking at deals, please show it to us, where we have a great fit and it can meet the criteria, we’ll move ahead on something. And then if you can elaborate a bit on the criteria that would be helpful.

Peter Sodini

As you have, a number of you have been good enough to tell us and reiterate, our little venture in the hedging and the timing of it did not help our challenges in our third quarter ended June in terms of these covenants. That created a problem but we knew that was going to be a tough quarter and to throw in another $8 to $10 million in losses off a hedge didn’t help that condition.

That will probably be our last venture into hedging because we put a lot of time and effort into coming up with what we thought was a very sound program and it turned out to be unsound but we do look with some alacrity at what’s happened to others who gone into hedging like [Verison] and no longer, or just reorganized, at a Chapter 11 because they bet wrong on corn and people like United Airlines who also got bit on a hedge and finally Southwest even had a few challenges though they’ve been superlative at doing [it again] but that did not help our situation and we don’t need to add more volatility to this business then we already have.

Frank Paci

I think obviously we continue to look at our options with the business. I think we’re fortunate from a position we’re at we don’t have any debt that’s due before 2012 so we’ve got some terrific flexibility. Obviously we’re mindful of where the economic situation is right now so we’ll continue to look at alternatives that we’ve got so and I think that’s one of those things that again, depending where the opportunities are, when we talk about acquisitions I think it really comes into what’s the forecast, what’s the multiple, how do you look at those things.

Obviously that’s going to be on a specific deal-by-deal basis.

Operator

Your next question comes from the line of Karen Howland – Barclays Capital

Karen Howland – Barclays Capital

I was wondering if you could actually give the magnitude of what sort of an impact you saw to the comps during the July month versus August versus September so we can get some understanding of how much an impact it was, the shortages that you had.

Frank Paci

The shortages that we had were right at the end of the fiscal year and actually impacted 2009 more then they impacted 2008 so it was really only kind of the last week of the year that we saw an impact from the shortages. If you look at it and I think that’s where Peter talked about the miles driven, if you look at those miles driven statistics, you can see as an example in August, Florida miles driven were down 9.7% versus the national average of 5.6%. So it really was, and I think from a logic standpoint you end up with a lot more discretionary driving miles during August because of vacation season and stuff like that and I think you saw, we certainly saw that in a lot of our areas because they are heavily vacation oriented that you saw that down and as we said the miles driven numbers improved in September.

So that kind of gives you a little bit and that’s why the numbers, we’ve looked at those miles driven numbers trying to figure out what’s going on, how much of that is, because we feel like when you look at where we are, we’re certainly competitively priced in the marketplace and so its just that the demand isn’t there.

Karen Howland – Barclays Capital

And there’s no way of actually, I recognize in Florida you said August there was, down 9.7%, and that improved in September despite the fact that the shortages occurred in September?

Frank Paci

Again the shortages were specific to certain markets. Florida didn’t have a lot of shortages. The shortages really were involved with the pipeline and so it was really western North Carolina, Charlotte, eastern Tennessee, Chattanooga, and northern Georgia, Atlanta north basically so when you look at the shortages they were really confined to specific geography as opposed to across the system. So you have very different numbers around the market in those.

Peter Sodini

Remember that Florida is totally serviced by water terminals so irrespective of what the storm is and where it hits Florida after literally a few days of anguish is going to get back into shape quicker then anybody else because, and what they did was pull refined product out of Europe and other places and you can make direct shots into any one of dozens of terminals and cover the state. Florida is our one sanctuary except obviously the storm goes through the state, we have those not, but the others where you’re pipeline, is where you really have problems and as I’ve said we’ve met with our suppliers.

If that were to happen again we would think we will be better treated because there’s some things they could have done from a planning standpoint to have minimized to some extent the impact but the impact was atrocious in some of those markets that Frank mentioned and in addition to premium gasoline which because of the crisis I think the oil companies, I think rightly so, pushed out more, a higher percentage of regular figuring any car on a short-term can drive on regular so if you’re out of premium was sacrificed dramatically in all virtually all markets.

In our case a lot of out stores blended store level with these new computerized pumps so if you’re out of premium, you’re also out of mid-grade. So we had a lot of stores, when we did get product it was essentially premium grade only and customers being rather [inaudible] adapted to that environment and in the short-term regular is not likely to hurt an eight cylinder gasoline engine.

Karen Howland – Barclays Capital

So do you know what the impact was to the total comp from the shortages?

Frank Paci

We really haven’t broken that out.

Peter Sodini

Maybe we could, we do do for our own internal reporting September comps and we break it down by region but there’s so many variables within that that it impacted different states. In some cases it may have been just the supplier we had who fell asleep while others were operating a little more creatively and got product to their customers and that’s the worst situation because then we’ve got to go chase our customers back again and we’ve been through that process now.

Frank Paci

And the issue we had is that it was really difficult because you kind of had a feast or famine. If you had no gas then you had 100% negative comps and then if you had gas you’d run out, you’d run 200% comps so its really difficult to kind of go in there and so, okay what happened because you would really kind of see that daily in terms of if you got a delivery you would then run these monster comps and then if you didn’t get a delivery the next day, you’d run negative 100%.

Karen Howland – Barclays Capital

So it sounds like it probably impacted your comp somewhat negative, it wasn’t as material as one might expect and the negative 6.8% is in fact—

Frank Paci

And what is said is it has more of an impact in Q1 then it did in Q4. It kind of bridged the quarter basically.

Karen Howland – Barclays Capital

I know you hired a new person to run food service, I was wondering if you could give an update as far as your strategy with that given the new hire.

Frank Paci

If you look at our food service business, we operate, we do $65 million of food service revenue in our branded locations in addition to if you think about what we do in fountain and coffee and hot dogs and packaged sandwiches in our business. So one of the things that we looked at as I said we really didn’t have a dedicated person doing that.

We think there’s opportunities in terms of negotiating better costs with suppliers in that, improving our grill program. We bought, we had a bunch of stores that actually didn’t even have any hot dog grills in it so we’ve added hot dog grills. We’re looking at increasing the, improving the offering that we’ve got in our grilling program and just getting a little bit more focused on that business.

So part of bringing that person in was to bring some additional focus to that. The great thing about what Brandon brings to this business, is he’s got previous experience in the Subway business as well and so I think he can actually help us grow our Subway business because we did what we could but by not having an individual who was 100% focused on that business and who has experience growing that business in the past, I think we just felt like we were missing an opportunity there.

Karen Howland – Barclays Capital

And no new, no real change of focus just more, change of strategy just more focus on the business.

Frank Paci

Yes, I think we recognize there are opportunities out there because we’ve talked before that we think there’s opportunity to grow our branded food service and that we can’t always get the approvals that we want in those locations so one of the strategies will be to try to identify alternative concepts that we could put in those locations.

In addition to the fact that we operate our own proprietary brand and [inaudible] and Chicken Deli which is a big portion of our portfolio that nobody was really doing kind of menu development in that area.

Karen Howland – Barclays Capital

Did you give an update on what CapEx for 2009 would be.

Frank Paci

Yes, we said it was going to be approximately $105 million on a gross basis which is slightly down on a gross basis from this year.

Karen Howland – Barclays Capital

And how much of that is maintenance CapEx versus projects you have going on.

Frank Paci

When we look at our maintenance CapEx, typically that number is around $50 million.

Karen Howland – Barclays Capital

And what projects make up the other $55 and when do they roll off?

Frank Paci

Well there’s as we mentioned, there is some capital in there for the fact that we’re acquiring a new corporate support center so that’s in there as well. If you look at the rest of it, we’ve got some money for new stores, programs and initiatives are roughly $10 million and then we’ve got remodels, replacements and rebuilds. Its roughly if you look at last year its very similar in terms of our growth CapEx being in the $40 million range.

Operator

Your next question comes from the line of Ben Brownlow - Morgan Keegan

Ben Brownlow - Morgan Keegan

Along the lines of the elasticity in fuel demand, can you give us some color on how you’re pricing strategy may change as fuel prices cross below $2 a gallon.

Peter Sodini

No, I mean we’re competitive on gasoline and we stay with the market. We may selectively pull X number of stores out for special treatment in terms of promotional activity. That number is conventionally not a large number but we’ve had good success in keeping competitive within our [grid] over a span of years and we don’t see anything dramatically changing that program. We’re relying on the quality of the real estate that we’ve got and most of it acquired and that’s one of the basic premises we had when we acquired the stores was that the high rating, requires a high rating number for us to do an acquisition, that being one of the most significant items.

So if you’ve got good real estate and you keep it relatively modern and you’re price competitive, that doesn’t mean you’re the lowest nor certainly the highest but you stay tucked in, over time [inaudible that’s proven to be a good formula and a good way to run our business.

Ben Brownlow - Morgan Keegan

How many grill depots do you have and where do you see that going? How many locations do you have grilling depots in?

Frank Paci

We have 1,100 right now.

Ben Brownlow - Morgan Keegan

Where do you think that could eventually go to?

Frank Paci

Probably another 300 to 400.

Peter Sodini

Some of these might have more then one which would account for the store size potential and foot traffic.

Frank Paci

Obviously some of the stores as in the past because we’ve acquired stores some of our stores are really small but we expect we’ll have grilling depots in the vast majority of the stores except for, we have some stores that are in sub-2,000 square foot. A lot of places, we’re not going to have the space to do that but wherever we’ve got the space, its our intention to put that in.

Ben Brownlow - Morgan Keegan

And what would the timing be on that?

Frank Paci

We’re in the process right now of rolling that out.

Ben Brownlow - Morgan Keegan

On the cost reduction side, you touched on credit card utilization rates flattening out, can you talk about just other cost reduction opportunities you see with lower credit card fees, delivery surcharges, etc.

Frank Paci

Most of those you talk about show up in the gross margin line, the one that’s a little bit of a wildcard out there right now is utilities and we mentioned utilities were up significantly in Q4 and we talked earlier about this that when you hear a lot of people talk, they’re still talking about high energy cost. Well the change has been so rapid you’re still in situations where you’re getting rate increases approved at utilities because they were facing increasing costs and now that costs have [whip sawed] in the other direction so we’re looking at all of our supply chain, all of our indirect costs so we can look at supplies all those kind of things to try and make sure that we’re maximizing our opportunity there.

Peter Sodini

We think we’ve been remiss in utilities because we don’t have somebody specifically assigned to get into the details of that category because we have different providers obviously in different regions, different parameters on how they set their costs and we need to do a substantially better job in terms of actually running the damn thing versus just passively taking the cost increase. So we view that as a target of opportunity and we’ll have somebody focus on that as a job specialty. Its not a horribly complex subject but you’ve got to understand and you’ve got to look at the detail that makes up that number but you don’t have to have 20/20 vision to realize something adverse to our interest is happening with utilities and it is a controllable item.

There’s different strategies you can employ as far as [size and consumption] and we will be getting into some of that.

Ben Brownlow - Morgan Keegan

Within the store as the consumers pull back, what have you seen within the store shifts between the private label and the branded product?

Frank Paci

There’s a lot of stuff going on and we’ve certainly seen some, we were a little bit more aggressive in some of our private label during the summer in our water and in our carbonated soft drinks so we’ve seen some, but its not a material number.

Operator

Your next question comes from the line of Anthony Lebiedzinski - Sidoti & Company

Anthony Lebiedzinski - Sidoti & Company

How many of your stores are in coastal and resort areas now and what kind of trends have you been seeing in those markets?

Frank Paci

We classify about 32% I think of our stores as being in coastal resort type venues.

Peter Sodini

We were not certainly surprised and I think we mentioned it on the July call a year ago, that the forecast, the June forecast that some were making that people with an income of $100,000 a year or less were contemplating cancelling normal vacation plans, 70% of them, so we weren’t surprised that we had some softness in some of the resort venues like Myrtle Beach and Hill Head and Charleston during the summer months.

If consumer attitudes don’t change that could continue to be soft there. The nice thing about some of those areas though they have also taken on a characteristics of a retirement areas, Myrtle Beach a good example, where the outer perimeter now is heavily retirees, one of the major destinations for retirees primarily because it has a lot of golf courses and rather [benign] weather.

To the extent that vacation is a discretionary item, and right now it appears to be, we can expect some softness in all those, from Wilmington on south into Florida.

Frank Paci

I think part of the difficulty is that you’re looking at gasoline prices that are potentially going to be as low, the last time they were this low was in spring of 2005 and so you’ve got these conflicting things going on which says that you could put a scenario together that because the costs are so low that you’ll actually see people going to these [close end] vacation places as opposed to flying to other places so there’s just a whole lot of unknowns at this point in time.

Peter Sodini

There’s also an example, in the upcoming Thanksgiving season and the Christmas season, a lot of people migrate to family outings which may be a state or two states over, its customary. The preliminary data we’ve seen, that’s going to be curtailed this year. And that’s why the forecast that we put together obviously looks at where we are and tries to contemplate what this world is going to look like for the residual three quarters and I don’t think we’ve been overly optimistic with our forecast intentionally.

Anthony Lebiedzinski - Sidoti & Company

How many stores do you anticipate closing this year, and if you could give us the number of stores closings you did in fiscal 2008.

Peter Sodini

We run, if you look at our pattern a spectrum, we run usually 30 to 40 to 45 every year. I would think, and that’s intentional. A lot of triggered, we’re coming up to the end of a lease expiration where the store may be slightly cash flow positive but is going to require major capital and let’s say its too small a facility and/or not in a particularly desirable area that when the existing lease runs out we use that as an opportunity to get rid of them, take them off the books, rather then spend capital on something you’re not likely to get a return on.

That number usually gets to be around 30 to 40.

Frank Paci

There was only 23 this year. My guess is its going to be in the 20 range.

Anthony Lebiedzinski - Sidoti & Company

So you closed 23 in fiscal 2008, right?

Frank Paci

Yes.

Peter Sodini

There will be some but we’ve done a good job of weeding out our deck and we do not have, if you look at the listing of our stores from one through 1,650, we don’t have a lot of proverbial dogs from a cash flow perspective in that deck, very few, because we have been aggressive on taking those out.

Anthony Lebiedzinski - Sidoti & Company

So are you going to open four new stores I think you said and close about 20 or so stores, so just looking at your SG&A expense guidance it is a little bit higher then I would have expected so what’s the reasoning behind the growth in the SG&A expenses?

Frank Paci

Well if you look at the SG&A expenses, again its similar to the things we’ve talked about, we’re anticipating that there are going to be higher utility costs. We actually in terms of stores right now, we did do, add some acquisitions last year so we’ve got those in there as well so we’ll have those in for part of the year and mostly its just inflation. You’ll have some increase in the rent expenses. There are some expenses associated with the rollout of our POS and our wide area network that’s in there as well.

But when you look at it overall its only a 2% increase. And the other issue that typically we budget bonus at target so that would cause a slight increase as well.

Peter Sodini

It isn’t surprising, it wouldn’t be a surprise to us if individual unit acquisitions, end market acquisitions hit a 20 to 22 number over the course of the next 12 months. Those are usually very profitable locations and one way or another they seem to come up on the radar screen. I would say worst case we’d probably neutralize the closures and are not adding stores that add far more promise revenue and accretion potential.

Anthony Lebiedzinski - Sidoti & Company

On the merchandise gross margin, it seemed a little bit light to me, what’s the reasoning behind the gross margin for merchandise?

Frank Paci

We had promotions this year on both the major brands of soft drinks which we didn’t have last year. In addition to that we actually had promotions on our private label water and our private label carbonated beverages. The net impact of that was certainly, in total because that was still in our grocery category that was 20 basis points on there. We also were much more promotional on cigarettes with two pack and three pack specials so we had about a 40 basis point impact on that and then the rest of it was primarily mix as you moved out of that.

Operator

Your final question comes from the line of Unidentified Analyst – Lord Abbott

Unidentified Analyst – Lord Abbott

on the gas margin guidance and I know you love us to use Opus data, if you take what at least that indicates so far for the quarter and then you assume an immediate, and I understand its just directional, but you assume an immediate drop down to your low end of your historical range of $0.11 and then just use that across the rest of the year, not even just this quarter but the rest of the year, at least the way I’m calculating it it would imply that that blended margin for the year would still be slightly above the high end of your new range. So am I missing something there?

Peter Sodini

That’s certainly, using the metric you’re using, that’s certainly a distinct possibility.

Frank Paci

And I think if you look at the seasonality there is some seasonality in the gas margin so we tend to typically think of Q2 gas margin as a lower margin. When you look at that number on the average number, that includes Q4 and Q1 which historically its been all over the place but they have tended to be your higher margin quarters. Its not exactly accurate to do it that way and then I don’t know what you’re using for the Opus, and as we said the numbers are just directional.

Unidentified Analyst – Lord Abbott

I guess I was looking at the seasonality of gallons last year and there wasn’t a tremendous amount of

Seasonality—

Frank Paci

Not gallons, margins. If you look at it historically going back 10 years, Q2 tends to be our lowest margin quarter and so that, Q1 typically except and again there’s exceptions to the rule, it was terrible in 2007 and it wasn’t great in 2008 but if you look at it over the longer term there tends to be a somewhat lower margin in Q2.

Unidentified Analyst – Lord Abbott

On the gallon guidance, 21 to 22, is that pretty much apples to apples, and the acquisitions now anniversaried such that we’re looking at a flat to down 5% type of same store comp is that fair?

Frank Paci

Its roughly apples to apples. So when you look at that 21 to 20, that would be [relatively close].

Peter Sodini

If you tie the gallons to the mileage driven stats we’re giving, that’s what’s influencing our forecast.

Frank Paci

And the reason we’ve got that range in there is because as I said, as we sit here today we’ve got a lot of stations that are below $2 which is dramatically lower then last year so its really difficult today to say well I don’t know what gasoline prices are going to be in July and so its really difficult to narrow that range down.

Unidentified Analyst – Lord Abbott

On the acquisitions, I sense you’re probably getting the feedback of those of us asking questions about that but if you look at the bonds and you look at the yield to maturity of you were to take some of those bonds out, I suspect you would probably find it somewhat difficult to generate that level or better returns in making acquisitions, is that a fair statement?

Frank Paci

I think, what I would tell you is that obviously we’re looking at the relative returns of all of the opportunities that we can use with our assets and we’ll continue to look at those.

Unidentified Analyst – Lord Abbott

So if we see some acquisitions therefore we should assume that the return on those should be approaching 20% which would be the imputed return of buying back the bonds.

Frank Paci

On a pre-tax basis?

Unidentified Analyst – Lord Abbott

Yes.

Peter Sodini

That’s a reasonable assumption.

Operator

There are no additional questions at this time; I would like to turn it back over to management for any additional or closing comments.

Peter Sodini

Once again we thank you for coming on the call.

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