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ALCO Stores (NASDAQ:ALCS)

Q3 2014 Earnings Call

December 18, 2013 11:00 am ET

Executives

Royce L. Winsten - Chairman, Chairman of Strategy, Budget & Planning Committee, Member of Audit Committee, Member of Compensation Committee and Member of Nominating & Governance Committee

Richard E. Wilson - Chief Executive Officer, President, Director and Member of Strategy, Budget & Planning Committee

Wayne S. Peterson - Chief Financial Officer, Principal Accounting Officer and Senior Vice President

Analysts

Bruce C. Baughman - Franklin Advisory Services, LLC

Adam J. Peck - Heartland Advisors, Inc.

Operator

Good morning, everyone, and welcome to the ALCO Stores Third Quarter Fiscal 2014 Earnings Call. At this time, we'd like to inform you that this conference is being recorded. [Operator Instructions]

We would also like to remind you this conference call may contain forward-looking statements as referenced in the Private Securities Litigation Reform Act of 1995. Any forward-looking statements are made by the company in good faith, pursuant to the Safe Harbor provisions of the Act. These forward-looking statements reflect management's current views and projections regarding economic conditions, retail industry environments and company performance.

Actual events or results may differ materially from those described in this conference call due to a number of risks and uncertainties. Factors that could significantly change results include, but are not limited to: sales performance; expense levels; competitive activity; interest rates; changes in the company's financial condition; the company's high operating leverage in an environment of flat or declining consumer spending; the economic viability of small rural towns the company serves; and macroeconomic factors affecting and potentially affecting the retail industry in general, such as the decline in the value of the U.S. dollar against the currencies of countries from which U.S. retailers import product, the introduction of national sales tax or value-added tax, continued levels of unemployment, rising fuel prices and a high level of consumer indebtedness.

Additional information regarding these and other factors that could cause actual results to differ materially from those contained in the forward-looking statements set forth in this conference call are included in the company's 10-K and 10-Q filings and other public documents, copies of which are available from the company on request.

Your speakers for today's call are Mr. Royce Winsten, Chairman of the Board; Mr. Richard Wilson, President and Chief Executive Officer; and Mr. Wayne Peterson, Senior Vice President and Chief Financial Officer.

At this time, I would like to turn the call over to Mr. Winsten. Please go ahead, sir.

Royce L. Winsten

Thank you very much, and good morning, everyone, and thanks for joining us on the call. The company posted a significant loss for the quarter, and no one is happy about that. And as bad as it was, most loss should not be a surprise given the nature of what the company dealt with in the quarter that ended November 3.

I'll sketch out the highlights. Rich and Wayne, in their comments, will give you the detail. Firstly, the relocation to Dallas is all but complete now. Move costs about $1.3 million versus the $2.3 million the company had budgeted. There are some things that have yet to move, so all the costs are not yet tallied. But by and large, the major expenditures of funds have already been made and recorded. All in all, the move costs less and went more smoothly than we could have expected. Rich and his team deserve a great deal of credit for getting a very difficult job done well.

Secondly, the proposed transaction with Argonne Capital entailed a third quarter loss -- a third quarter cost of $1.1 million. Total cost of the transaction will come in about $2.3 million, which is about $700,000 less than the board had expected. I'll come back to the transaction in a moment.

Thirdly, a major IT initiative was undertaken at the same time as the relocation to Dallas in an effort to leave ALCO's legacy homegrown Enterprise Resource Planning system behind. The company will start out fresh in Dallas with a new more effective ERP tool. It has gone largely as planned and within budget. It will go live sometime late in the first quarter or early in the second of the coming fiscal year.

Combination of these 3 large projects, each of which on its own would have been a major undertaking for a company ALCO's size, added significantly to the job of running the company. As you would expect, there were employees who did not move to Dallas, who were able to find jobs and left the company prior to their termination dates. That left gaps in many important positions that couldn't be filled until the move. And those who could not find other jobs and stayed until the final termination date did the best they could, but a degradation in process and workflow was unavoidable.

Management was challenged by the requirements of planning and executing the move of their departments, as well as filling in where they could, as empty seats in their departments became more numerous. All the while, they had to vet, hire and train candidates for the jobs that needed filling, which was the vast majority of them. All told, 120 of the 160 people working at ALCO's headquarters now are new since the move.

The Argonne transaction created an additional challenge and uncertainties, both about the company's future and the future of each of the senior and second-tier management employees. Many of these people were uprooting their families and moving to Dallas, Texas, with a very real concern that they might lose their job shortly after arriving.

All the factors I have mentioned combined to create one of the most stressful and difficult work environments I can imagine. It was, if you will, a perfect HR storm.

In the face of all this and with the knowledge that the quarter and the year were going to be ugly no matter what, management responded to the aggressively competitive and highly promotional environment in the quarter by taking an aggressive stance on discounting, reducing receipts, pushing out older and discontinued merchandise the company had in inventory. That hurt margins.

Management and the board took an especially critical look at the real estate portfolio and decided to close an unusually large number of underperforming stores. Going out of business sales also helped move unwanted inventory, as inventory was put into those locations for the going out of business sales. Again, though, it impacted margins.

A positive take on the real estate move is that the company is now much further along in the much-needed process of improving its real estate portfolio than the company had anticipated it would be by this time. The company does not anticipate that any stores will need to be closed next year.

Also, as I'm sure you've already seen, a reserve against the company's deferred tax asset was established. The company believes these are all necessary and appropriate actions to take. These moves put ALCO Stores in a position to become significantly more profitable in the future. And in fact, the decks are clear for what we expect to be a much more profitable fiscal 2015 than the company has seen in many years.

Let me circle back to the Argonne transaction now. The disruptions of relocating ALCO's headquarters and changing over its ERP system would, we knew, be made more acute when undertaken during the course of a potential sale transaction. The board, after very careful consideration, determined that it was in the clear best interest of shareholders not to bury a viable $14 bid when our then-largest shareholder had only a short time before traded their stock for $7.

The board felt that our shareholders should get to see Argonne's bid. And so, as expensive as it was, even in the face of the challenges that I've just mentioned, we did what we had to do to get it in front of you. Argonne's bid was the best proposal by far and emerged from a very thorough process.

As you know, at our special meeting on October 30, the Argonne proposal did not receive approval from the holders of a majority of the outstanding shares of stock at the company, so we terminated the agreement with Argonne.

The Board of Directors got a strong message from shareholders that $14 did not adequately compensate them for the value of the assets and the potential they were being asked to exchange.

We now restate our strong commitment to executing on the initiatives to improve profitability, unlock greater shareholder value going forward. Rich will discuss these initiatives shortly.

Meanwhile, I want to extend thanks to the full board for all their efforts. A special credit goes to Terry Babilla, my colleague on the special committee, for the dedication and commitment he showed on behalf of shareholders in efficiently getting the transaction before you.

[indiscernible] run long and I will spare you my usual comments this quarter about the broader economy. Instead, I'll leave it here and pass the call to Rich. Rich?

Richard E. Wilson

Good morning, and thank you for joining the call. A great deal has been happening at ALCO this year, most particularly during the last quarter. The following presentation is an effort to recap third quarter results, discuss the impact of several onetime events during the quarter and, more importantly, to provide an update on actions underway to improve ALCO's future profitability.

Comp store sales for the third quarter decreased 2.9%. Sales results were impacted by continued slow economic growth, compounded by the recent government shutdown. In addition, there were also significant onetime events which impacted the company's third quarter, namely the completion of the company's headquarter relocation, the time committed to the proposed merger agreement with Argonne Capital Group and our update to critical IT systems.

Fortunately, we are now past the majority of the impact of these events and are pleased to report business in November began to stabilize. Sales for the critical Black Friday weekend increased 1% on a same-store sales basis. For the third quarter, transaction count decreased 2.9%. Average basket remains flat at $24.08.

Net earnings were impacted by 5 factors. First is the sales decrease of 2.9% for the third quarter ended November 3. Second is lower gross margin which is a result of onetime markdowns, which were initiated to clear slow-moving inventory. In total, slow-moving merchandise has been reduced to less than 3% of our total inventory base at the end of the third quarter.

The third factor impacting the results are closed store expenses of approximately $934,000. Fourth is onetime expenses of approximately $1.1 million related to the proposed merger with Argonne Capital Group. The fifth impact to the third quarter is a reduction of deferred tax credits, which Wayne will review in his presentation later.

Now we'll take a deeper look at some of the onetime events which affected the third quarter. First is the decision to liquidate unproductive inventory. As we assessed each issue that was an impediment to improving shareholder value, we decided to take the time and resources to clear out unproductive inventory and better position the company for improved return on assets going forward.

In short, improving inventory turnover is a core initiative because the company's historically slow turnover is an impediment to profitability. During the third quarter, the company took $5 million in onetime markdowns to liquidate slow-moving and discontinued merchandise. Markdowns were primarily targeted in the apparel and home areas of the business. Going forward, specific aging and discontinued targets had been planned for each business to ensure future profitability.

In addition, our investment in new technology, to be discussed later in the presentation, will dramatically improve our ability to match space allocation and inventory investment by store volume, with greatly enhanced accuracy. The merchant team is currently rebuilding every planogram by item, by department, based on store productivity. We anticipate reducing lower-volume stores' inventory by approximately 20% while improving our in-stock rates on key items across the enterprise.

In other words, we will now operate with specific assortments for each store volume level, which is a best practice in other retailers and now possible for ALCO due to investments made in technology.

On the real estate side of the business, we closed 8 underperforming stores during the second and third quarter and accelerated store closings originally planned for fiscal year '15. During the fourth quarter, an additional 10 stores will be liquidated starting in January, where more stores will begin liquidation.

Total store closings for fiscal '14 will be 18. This rationalization of our store portfolio frees up working capital, reduces expense and improves inventory turnover. Inventory recovery in the 18 stores is projected to be approximately $9.2 million by year end. The average productivity of the stores closing is $1.4 million versus a total company average of $2.2 million.

Excluding the 20 stores, the company average store productivity will increase by more than 4%. All closures will be complete by year end or closely thereafter. At the end of the year, ALCO will operate 202 stores.

In terms of new store development, the company opened 3 stores this fall. Watford City, North Dakota opened on August 7 and is currently our 14th largest volume store on a year-to-date basis. Sidney, Montana opened on November 19, and Cotulla, Texas opened on November 21.

All 3 stores are generating significantly higher sales volume than company average. In fact, these 3 new locations, by themselves, are projected to offset the majority of the volume generated by the 18 stores being closed in fiscal year '14.

For fiscal year '15, the company is planning 5 new stores. All locations will be in traditional ALCO markets and within existing supply lanes. We will continue to focus on development in areas receiving strong economic benefit from the energy industry.

Moving on. After a significant due diligence period, on July 25, a proposed merger agreement was announced with Argonne Capital Group. Throughout the third quarter, further due diligence was performed, during which time the company operated with additional covenants that included specific debt levels and SG&A expense.

Clearly, the significant time allocated to the due diligence, the unsettled environment that the proposed merger created for many of our new staff while we were moving the company headquarters, added to an already challenging time. On October 30, the proposed merger agreement was rejected by ALCO's shareholders.

Moving on. How does all this impact ALCO's future earnings results? We are executing on 5 major initiatives that we believe will result in improved earnings for the company going forward. First is maximizing on the benefit of the headquarters' relocation. We've hired 120 new staff members from some of the largest retailers in the country, including Target, Kohl's, JCPenney and RadioShack, to name a few.

In addition, the new location in Coppell, Texas has greatly enhanced our vendor partners' ability to work with our merchants on a more regular basis. Some of the significant new hires came in prominent positions and departments and include 2 divisional merchandise managers, 8 new buyers or 60% of our population, 7 new merchandise planners or over 1/2 of the population, and 8 new members in our marketing department or 80% of our population.

Second is gross margin expansion. Anchored in our partnership with Revionics, price optimization is a cornerstone to improve profitability.

Third is our concentrated effort to close unprofitable, unproductive store locations while adding higher volume, more efficient stores.

Fourth is upgrading our IT systems, the backbone of the company. These new systems will drive out costs, improve asset allocation and customer service. And fifth is our focus on improving inventory turnover and reducing the associated debt.

Starting with gross margin expansion. Our price optimization initiative continues to mature. Since initial rollout in August, Revionics initiative has generated approximately $600,000 in additional gross margin. Forecasted benefit for fiscal year '15 is an additional 100 to 150 basis points or $5 million to $7 million in additional margin.

To date, we have adjusted prices on more than the several thousand items that will grow gross margin and top line sales. To review the entire merchandise assortment will take more time, as adjusting prices at store level does require changing tickets.

We anticipate completing a full cycle review and reticket process within the next 4 months. There are 3 phases of price optimization: base price optimization, in progress right now; zone price management, expected to roll out during the first quarter of fiscal year '15; and markdown optimization, expected to roll out during the second quarter of fiscal year '15.

Next is improving our real estate portfolio. As discussed earlier, the company is closing 18 unprofitable stores during fiscal year '14 and open 3 significantly more productive and profitable locations during the fall season.

2 of these 3 locations were codeveloped with independent grocery operators. Upon further analysis, we are finding the traffic generated by cotenancy with highly trafficked grocery operators is driving more trips and a more profitable sales mix.

This is a new opportunity for ALCO. A joint ALCO with a grocery store creates a mini supercenter. Both stores benefit from this union. We are currently working on identifying more potential sites to maximize this new strategy.

Next is upgrading our IT infrastructure. We are currently replacing 2 major systems in addition to implementing the Revionics price optimization project.

First is Microsoft Dynamics, our new Enterprise Resource Planning tool. Our existing ERP system is 15 years old and homegrown. This Microsoft technology is designed to allow for ongoing upgrades, keeping ALCO current as technology improves. This system allows us to consolidate multiple independent systems into one fully functional ERP solution for finance, supply chain and warehouse management. It is a paperless system which realizes some cost savings, and is an Excel-based reporting environment, which provides ease-of-use, training and maintenance.

It also streamlines our financial reporting, including invoice reconciliation, debit tracking, store P&L management, AP aging and borrowing base calculations, to name a few. And finally, it will significantly decrease the time necessary to close our financial statements each month, from 30 days to approximately 1 week, an important enhancement for management in terms of improved forecasting ability.

In addition to the Dynamics implementation, we are also updating our supply chain software, which allocates inventory based on rate-of-sale metrics by store, by item, which will result in improved turnover, lower out-of-stock rates, higher sales and reduced expenses.

Our new software provider is JustEnough, a premier supply chain service provider. This system is being implemented now and is targeted to be fully operational by the end of February. Using the system, we will reduce lower-volume store inventory by approximately 20% by defining specific guidelines for volumetrics by door, by item, thus improving our investment by location.

It also enables us to improve our in-stock rates on key items across all stores by better measuring item movement during everyday and promotional events and adjusting inventory models more accurately and timely. This will also reduce freight and handling expense by eliminating unproductive items in inventory from the supply chain. And lastly, the system works in concert with the base planning and supply chain teams, which will lead to more productive space allocation and overall store productivity.

And fifth is reducing inventory and debt. Both will be achieved through the systems enhancements just discussed and the rationalization of our store portfolio, where we have taken significant steps during this last quarter.

Shifting the focus to sales opportunities. First is a focus on increasing units per transaction. We will be remerchandising the front end cash wraps by targeting great value and impulse items, such as earbuds, sunglasses, phone cases, charging cords, DVDs, music CDs and toys.

We will also improve the use of our dry valve[ph] space by reducing space allocated to lower-margin consumables and featuring strong values from home and apparel. For example, $3.99 T-shirts for the family, Keurig coffeemakers and coffee, and key items from Housewares and other seasonal categories.

Next, we are expanding the media business. DVDs, music CDs and gaming software are all key businesses in rural markets. While this business has a strong online presence, it is still an important category for brick-and-mortar retailers. Improving our mix of value price points with new release products will enable us to show broad selection while maintaining profitability.

We will also maximize pay-on-scan terms to eliminate inventory investment and shrink. Most importantly, building this high turnover category drives customer frequency.

Next, we will also continue to refine our health and beauty business, making health and beauty a core competency by leveraging ALCO's broader assortment of premium brands to build customer loyalty and higher average basket sales. We will be relocating the beauty business to the front of the store across from women's apparel to create add-on sales. We'll also expand hair color from 4 to 8 linear feet. This is one of our most productive categories on a linear foot basis.

Next, we will continue to build key home categories by expanding the housewares business, specifically small appliances, cookware and gadgets, by upgrading our assortments with higher-quality products and increasing space and improving the store presentation.

And sixth, we will also be expanding our new successful Justin Boot business by adding 3 special order events annually. This will be an order-in-store and direct-ship to the customer event. Justin is a premium brand that resonates with our core consumer. It's a high-quality product and another differentiated vendor to ALCO's merchandise mix.

To summarize fiscal year '14, we are targeting an inventory reduction of approximately $10 million to $20 million by year end. Year-end debt is also projected at approximately $60 million, flat to last year and approximately $20 million less than Q2 or Q3. At this point, we will have absorbed the merger-related expenses, headquarter move and IT upgrade expenses.

We closed 18 underperforming stores and opened 3 high-volume locations. The corporate office move is now complete, and our IT upgrades are underway and will improve operating efficiency and reduce expense. And lastly, the liquidation of slow-moving merchandise has positioned our inventories to be cleaner than ever.

For fiscal year '15, the impact of Revionics will add a minimum of 100 basis points in additional gross margin. We will hold SG&A rate to 28%. Debt will be reduced as a result of less CapEx spending and lower inventory. Our inventory turnover goal is 2.25 to 2.5.

New leadership, combined with benefits from our IT system upgrades, will improve our shrink results by 25 basis points, with a goal of 50 basis points. Later in the year, we will update our warehouse management system. We plan on liquidating the old Abilene headquarter's location and have plans to open a minimum of 5 new stores.

Effectively, ALCO is a new company. We now have a new headquarters with deeper retail talent. When completed in early Q1, we will have state-of-the-art IT systems that will improve gross margin, drive unnecessary inventory out of the enterprise and better manage inventory by store. We now have a more productive and profitable store base and a cleaner inventory position.

With that, I'll now turn the call over to Wayne to walk you through the financial results.

Wayne S. Peterson

Thank you, Rich. Good morning. It's been 6 months since we last presented to you and much has occurred, particularly in this third quarter which ended November 3, 2013.

Net loss for the 13 weeks and net loss for the 39 weeks ended November 3, 2013, were $16.6 million and $17.8 million, respectively. The year-to-date net loss is a function of a number of unique events, including the following: The first event is a noncash charge of $9.8 million related to a valuation allowance on deferred tax assets. The company accounts for income taxes under the asset and liability method. The company reflects changes in estimates related to prior period income taxes as a component of current period income tax.

During the third quarter, the company determined that a valuation allowance should be established against deferred tax assets under the principles enumerated in FAS 109, Accounting for Income Taxes. Please note that the recording of this valuation allowance has no impact on the company's cash, the company's ability to utilize net operating loss carryforwards or on the company's credit facility.

The second event is $2.3 million of expenses associated with the rejected merger. These expenses include $1.6 million in legal fees, $300,000 in investment banking fees, $300,000 in Board of Director special committee fees and $100,000 primarily in proxy-related expenses. Please note that the company was not obligated to pay any termination fees.

The third event is $600,000 of expenses associated from the relocation of the company's office from Abilene, Kansas to Coppell, Texas. The company is anticipating an additional expense of $600,000 to complete the move, for a total of $1.3 million.

Previously, the company had estimated a range of $2 million to $2.5 million in expenses for the relocation. The company experienced less in associated -- associate relocation costs, as fewer associates elected to move to Texas, and lower severance costs as a number of affected associates separated from the company prior to severance eligibility.

The relocation of the office caused near-term challenges for many processes, as Royce and Rich mentioned, but nevertheless, it remains as an important event in the transformation of the company.

The fourth event is a $5 million reduction in gross margin compared to the prior year, primarily attributable to the third quarter planned reduction in inventory levels. At the end of the second quarter, the company had $174.5 million of inventory compared to $159 million at the end of the second quarter of the prior year or an increase of $15.5 million.

The second quarter increase was attributable to the aggressive purchasing of apparel inventory to support the new apparel program and additional inventory purchases in anticipation of potential disruptions due to the office relocation.

The inventory at the end of the third quarter was $194.1 million compared to $192 million at the end of the third quarter last year. Bringing inventory back in line with the prior year impacted gross margin in categories such as apparel, electronics and home goods.

This inventory reduction strategy also provided some insight into the economy, as the customer appeared to be trading purchases of regularly priced merchandise for purchases of the discounted inventory. They were not necessarily buying both.

The fifth event is the $1.2 million in costs associated with closing nonproductive locations. Through November 3, 2013, the company has closed 8 stores and historical results for those locations have been reclassified as discontinued operations.

In mid-October, the company decided to close 10 more locations. These stores are expected to be closed by the end of the fiscal year. Inventory liquidation for these 10 stores began at that time and had only a slight impact on third quarter gross margin. The general attributes of these 18 stores are average sales of approximately $1.1 million, about half of the company average, and average inventory investment of approximately $500,000 per store.

The company is also considering the closing of 4 additional stores in January. The company will continue to evaluate these low-volume stores in regard to their working capital investment and cash flow contributions.

Through November 3, 2013, the company opened 1 store in Watford City, North Dakota and have subsequently opened 2 more stores: 1 in Sidney, Montana and 1 in Cotulla, Texas. The early results for these 3 stores are very encouraging. The company is currently evaluating a number of new potential locations and expects to open at least 5 new stores during the year.

Finally, the company had a revolver loan balance of $78 million as of November 3, 2013, which is $4 million less than the $82 million at the end of the third quarter of the prior year. The reduction in the revolver is primarily attributable to an increase in accounts payable.

As of November 3, 2013, the company had a borrowing base of $132.7 million, which as of the balance sheet date, was capped at $120 million. Based upon the capped borrowing base of $120 million, the company had excess availability of $33.2 million.

Accounts payable is one of the last areas that moved from Abilene to Texas and transitioning these processes caused delays in payments to our vendor partners during the third quarter. The delay in payments, combined with new store capital expenditures, expenses associated with the rejected merger and the lack of EBITDA due to the inventory reduction strategy, resulted in a significant amount of cash outflow leading up to the holidays.

Those of you who are familiar with our credit agreement know that we have had the ability to expand our current facility from its existing $120 million up to a maximum of $145 million. As discussed earlier, our borrowing base at November 3, 2013, was $12.7 million above the cap of $120 million. To accommodate the current and seasonal demand, the company recently expanded the line to $130 million. It is likely that the company will reduce the line back to $120 million during the first half of the next fiscal year.

As I conclude my comments this morning, I would like to take a moment to acknowledge all of the dedicated associates who have separated from the company during the last 6 months and thank them for their years of service and dedication, and certainly thank them for their integrity in completing their assignments in a very professional manner.

Thank you, and at this time, I'll turn the call back to Rich.

Richard E. Wilson

Okay, operator, we'll now open the call for questions. Thank you.

Question-and-Answer Session

Operator

[Operator Instructions] And for our first question, we'll grow to Bruce Baughman with Franklin Investments.

Bruce C. Baughman - Franklin Advisory Services, LLC

A point of clarification on the projected $10 million inventory reduction. Is that versus the prior year end or...

Richard E. Wilson

It is.

Bruce C. Baughman - Franklin Advisory Services, LLC

Okay. And do you have an explicit goal for inventory per selling square foot?

Richard E. Wilson

I don't today, Bruce, so I'm not in a position to provide one today.

Bruce C. Baughman - Franklin Advisory Services, LLC

Okay. And during the presentation, there was some discussion of recently opened stores and productivity there. Could you just quickly go back over that?

Richard E. Wilson

Yes, I can. As we had mentioned earlier in the presentation, we opened up Watford City, North Dakota, which is not too far from our New Town store in North Dakota. That store is performing at a very accelerated rate and is currently our 14th largest store on a year-to-date basis, even though it just opened in August. So clearly, that store has gotten off to a terrific start. It is a development where we are next to a grocery store in that market, which is also doing very well. So we feel very positive about that location. It is an average-sized box. It's a 21,000-square-foot store, selling square feet, so we feel very good about the mix and the profitability of that location. Then in November, we opened Sidney, Montana, also a codevelopment with a different independent grocery store. And it is also -- early indications now. Watford has been open for basically 4.5 months or so. Sidney has only been open about a month, but early indications in Sidney, it could be our #2 or #3 volume store on an annual basis, based on early productivity out of that store. Again, similar dynamic in that same size building and the mix of sales in both Sidney as well as in Watford are better from a gross margin perspective because we're selling more nonconsumable product in those boxes, obviously, because it's up against a grocery store. That being said, those stores are still selling significant amounts of consumables, but the additional traffic that's being generated to the center has really helped our nonconsumable businesses, so we're encouraged by both of those specific examples. And lastly, Cotulla, Texas, which is in the Eagle Ford Shale area, is a freestanding building but also gotten off to a very, very good start, not to the degree of what Watford and Sidney are doing but still, we think will be more than probably a top 10 or a top 12 store for us on an annual basis.

Bruce C. Baughman - Franklin Advisory Services, LLC

Okay. And then my last question. Just as you plan either to relocate or open new stores in the future, it sounds like you're targeting these energy development areas and also the tie-in with independent grocers. Is that going to be a discipline going forward? Or is it too early to know whether that's -- that can be the basis mostly for your[ph] plan?

Richard E. Wilson

It's a bit early, but indications out of these 2 specific locations, we are looking to partner with high-quality independent operators that run very good stores. The 2 operators that we're currently partnered with in the Montana and North Dakota markets, one is a very large independent operator, the second one is -- has a couple of stores, but he also runs a very high quality operation. So we'll be selective about who we partner with, but it's something we look to continue to explore. Not to suggest that we wouldn't open up a freestanding building where we had -- where we felt as though there was an opportunity. And yes, to your first question, we'll continue to mine opportunity in the energy areas. There's obviously quite a bit of development happening out here in the Midwest, from Texas up to the Dakotas obviously, and that's been fertile ground for us the past 2 years or so.

Bruce C. Baughman - Franklin Advisory Services, LLC

Do these -- experience with these recent openings, does it suggest opportunities for relocations of existing stores? Are there markets where you might partner with a grocer to improve the productivity?

Richard E. Wilson

It is one thing we're looking at as we assess the entire portfolio on an ongoing basis. When we take a look at individual store productivity, what's happening in that market from a competitive perspective? Has something changed? Or do we think something will change, whether it's competitive and/or is there a different opportunity to maybe relocate that building? So we do assess that pretty much across the entirety of the portfolio. We are, as a matter of fact, updating or renovating the store in Lovington, New Mexico, which is a legacy store that is also adjacent to a grocery store. And that grocery store is undergoing a renovation. We're going to renovate our store as well, and that store is a significantly higher productive store for us as well. So we'll also take a look at some of the other stores we have in the portfolio that happen to be in a center with a grocery store and see if there's not opportunity to either upgrade that store from an infrastructure perspective and then, for those free-standing, if there's an opportunity to try to get closer to in the future.

Bruce C. Baughman - Franklin Advisory Services, LLC

Okay. Actually, I do have another question. Regarding some of the systems and technology changes you're making, how does that intersect with the efforts to control shrink? And what kind of progress are you seeing on shrink?

Richard E. Wilson

Yes, great question. First of all, we're pleased to announce that we hired a new director of LP, a gentleman by the name of John Edmiston. John joins us from Home Depot, where he spent more than 15 years in his career and was a regional loss prevention leader for Home Depot. John has been here about 2 months now and spent the 1.5 months basically touring 25 of our store locations, interviewing and spending time in our distribution center, as well as spending time in our finance area, really taking a look at top-to-bottom processes throughout the organization. We really think that John is going to bring a whole new level of sophistication and execution, ensuring that each component part of what drives shrink, whether it's a store level issue, a finance booking potential issue and/or a receipt issue, John is the person who will holistically look at what's happening in the enterprise. And we think that over the course of time, John's leadership, in addition to the technology advancements, will enable us to finally crack the code on shrink. I said in my presentation, it's our anticipation we should be able to get a minimum of 25 basis points in shrink improvement. Clearly, that's not the goal. We are clearly much worse than industry averages in that regard. But I do think that we now have the leader in place and the technology in place to help that leader deliver the type of improvement that we've been so needing to deliver.

Operator

[Operator Instructions] And next, we'll go to Adam Peck with Heartland Funds.

Adam J. Peck - Heartland Advisors, Inc.

Could you maybe expand about how many stores are low-volume stores? And what that total inventory reduction could possibly be?

Richard E. Wilson

In terms of -- the best way for me to portray it, Adam, is, again, we think with our re-engineering the planogram initiative that these buyers are going through right now from an item management perspective based on store volume and levering the new technology, which is this new JustEnough software. It enables us to better manage the inventory by store. We can eliminate probably $10 million to $15 million in additional inventory out of the system over the course of this year, thus helping improve our turnover to, as I stated, the 2.25 to the 2.50 churn expectations or churn target and goal that we have. Does that answer your question?

Adam J. Peck - Heartland Advisors, Inc.

Yes. That's very helpful. So with the store closures, you had said that should generate about $9 million of inventory?

Richard E. Wilson

Correct.

Adam J. Peck - Heartland Advisors, Inc.

And that was included in your guidance for the $10 million of lower inventory this fiscal year end versus last fiscal year?

Richard E. Wilson

That is correct.

Adam J. Peck - Heartland Advisors, Inc.

Okay. Because you said inventory would be $10 million to $20 million lower, so actually, inventory possibly might not be down if you exclude the liquidation inventory?

Richard E. Wilson

If you exclude the liquidation, that would -- and just doing the math, yes, that's accurate. And honestly, just from a forecasting perspective, we're clearly in the throat of the holiday selling season. So if business comes in as we expect, we think we will deliver a better result than that -- what we articulated, that's why I gave the range.

Adam J. Peck - Heartland Advisors, Inc.

Okay. Well, hopefully, it'll be much higher than the $10 million. Good luck. And then on the -- all the new people that have been added to the organization, what's the difference in SG&A from the new people hired in Dallas versus Abilene? Will we see that in the financials?

Richard E. Wilson

There's a nominal increase in SG&A in the headquarters' location that will be offset with some other SG&A cuts in other parts of the company, is where we sit today.

Operator

And we have no further questions in the queue at this time. I'll turn the conference back over to Mr. Winsten, the Chairman, for closing remarks.

Royce L. Winsten

Well, thank you very much, moderator, and thank you, all, very much for joining us on this call. We look forward to speaking with you again in 3 months' time.

Operator

Thank you. If you wish to access a replay of this call, you may do so after about 1:30 p.m. today, Central time, by dialing 1 (888) 203-1112 and using replay passcode, 9639165. Or you can visit the company's website 4 hours after the completion of this call. Go to www.ALCOstores.com and visit the Investors page. This concludes our conference for today. Thank you for participating and have a nice day. All parties may now disconnect.

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