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It is not always that a company is picked as a winner in the industry it operates in and when it happens, it brings the company more into the limelight, especially if it just made significant changes that might impact on the company's earnings. Fred's, Inc. (NASDAQ:FRED) is currently enjoying the limelight that comes with being declared a winner based on its Q1 results of fiscal 2013 ended May 4, 2013. This came after the company's calendar shift.

The company released first-quarter financial results that beat analysts' estimates, both at the top and bottom line. According to the company's management, the favorable earnings were as a result of the gross profit improvement of 60 basis points in comparison to the same quarter of the previous year. The company's stock is currently trading at $16.93.

(click to enlarge)

Source: finance.yahoo

A little about Fred's

Fred's opened its original store back in 1947 in Coldwater, Mississippi. Currently, the company's headquarters is in Memphis, Tennessee. Fred's operates approximately 715 discount general merchandise stores strategically located mainly across the southeastern states of United States. This includes 24 franchised Fred's stores. The company presently operates 349 full-service pharmacies.

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Source: Company website

Fred's maintains a unique store format and stocks over 12,000 items that address its customers' everyday needs and are frequently purchased. These items include well-known brand name products, Fred's label products as well as lower-priced, off-brand products. Presently, the company maintains two distribution centers located in Memphis, Tennessee, and Dublin, Georgia.

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Source: Company website

Source: Company website

The company's strength

There is hardly any everyday-need-product that the company does not have in its stores. Over the years, the management made sure to broaden the stores' food and beverage assortment by adding new coolers to the company's top 100 food and beverage stores. This applies especially to the branded frozen and refrigerated products.

Appreciating customers and their input towards the success of a given business is a way to motivate them towards becoming ever-loyal customers. This is an opportunity Fred's did not let slip by. With the introduction of the Fred's loyalty care in April 2012, customers were rewarded for mostly purchases of the company's brand products. Also in the list of items to be rewarded upon purchase are those found in higher margin categories such as hardware, auto and home furnishings.

Future Outlook

During Q1 of fiscal 2013, the company announced its configuration plan. With the plan, the management's main focus was on increasing the pharmacy department penetration up to 60-70% of the company's store base within the next three years. The penetration as of the first quarter was 50%. This entails addition of pharmacies to existing stores that do not have pharmacy departments. The company also has it in its plan to ensure that all new stores are opened with pharmacy departments and at the same time, carry out opportunistic acquisitions to be operated as Xpress pharmacy locations that will later be converted to full-service locations. With this growth, the company will be well positioned to expand its specialty pharmacy program within the year.

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Source: Company website

With this program, the company will stock specialty medications for chronic conditions like multiple sclerosis, cancer, rheumatoid arthritis and a lot of other complex conditions.

The company's expansion plan does not end in the pharmacy department. The plan also extends to categories like automotive, hardware, toys, softlines and lawn and garden.

Fred's has plans to open 20-25 new stores and 25-30 new pharmacies in 2013. It also plans to close 20-25 stores and three pharmacies. The company expects FQ2 EPS to be within the range of $0.06-0.09 per diluted share and FY13 EPS to be within the range of $0.77-0.88. This is against analysts' consensus of $0.10/share for FQ2 and $0.82/share for FY13.

Risks

The risks facing the company right now include its plans to open new stores and pharmacies. If the new stores lack efficient operations, high standards of customer service, maximized efficiency in terms of supply chain, effective management of inflation or deflation and adequate control of product mix, it could mean trouble for the company. Other factors to be considered include the possibility of the new stores increasing operating margin and generating adequate cash flow in order to fund the company's financial needs in the near future.

Other risks include weather, which is known to impact the buying patterns of the company's customers and supply chain efficiency as well. Also worth mentioning are the changes in reimbursement practices for pharmaceuticals. The company has been having ongoing challenges as far as third-party reimbursements are concerned.

Q1 fiscal 2013 financial results

The company reported $501.5 million as sales for Q1 of fiscal 2013. This indicates a 0.2% increase in comparison to $500.5 million recorded in the same quarter of the previous year.

Sales mix unadjusted for deferred layaway sales

May 4, 2013

April 28, 2012

Pharmaceuticals

35.7%

35.8%

Household Goods

22.7%

23.4%

Food and Tobacco

17.6%

16.3%

Paper and Cleaning Supplies

8.4%

8.6%

Health and Beauty Aids

7.4%

7.4%

Apparel and Linens

6.5%

6.7%

Franchise

1.7%

1.8%

100.0%

100.0%

The net income stood at $11.4 million, an increase of 9% when compared to $10.5 million recorded in the same quarter of the previous year. Earnings per diluted share stood at $0.31, an increase of 11% when compared to $0.28 reported in the same quarter of the previous fiscal year.

The company reported gross profit of $151.0 million, a 2.1% increase in comparison to $147.8 million reported in the same quarter of the previous year. Gross margin percentage stood at 30.1% as compared to 29.5% recorded in the same quarter of the previous year. Operating income was $17.8 million, an increase of $0.7 million in comparison to $17.1 million reported in the same quarter of the previous year.

Cash and liquidity

Fred's reported a total of $18.2 million in cash provided by operating activities, compared to $1.1 million reported in the same quarter of the previous fiscal year. Cash used in investing activities stood at $9.1 million and cash used in financing activities was $9.4 million.

The company reported that there were no borrowings under the company's revolving credit facility as of when its Q1 financial report was released.

Valuation

The company's stock currently maintains a P/E ratio of 20.24. This shows that it is trading at a premium in comparison to the S&P 500 average of 19.10 and the industry average of 17.11. The price-to-book ratio stands at 1.41. This shows it is trading at a discount in comparison to the S&P 500 average of 2.43 and trading at a significant discount when compared to the industry average of 3.54. With a current price-to-sales ratio of 0.32, the stock is trading at a discount in comparison to the industry average of 0.78 and well below the S&P 500 average.

Conclusion

The company's gross profit margin for the reported quarter is essentially unchanged in comparison to the gross profit margin reported in the same quarter of the previous fiscal year. Reports showed growth in the company's sales and net income in Q1 of fiscal 2013 in comparison to the same quarter of the previous year. In comparison to its peers in the industry it operates in, Fred's outpaced them in net income for the quarter but the same cannot be said concerning the company's revenue growth.

Fred's liquidity is weak. With a current Quick Ratio of 0.39, it is an indication that the company lacks the ability to cover any short-term cash needs that might arise in the near future. I believe that with the company's recent expansion strides, Fred's will rake in more revenue in 2013 and with the favorable June sales report, there is hope for investors.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Source: Fred's, Inc. - Benefiting From A Calendar Shift