The Pantry, Inc. F3Q08 (Qtr End 06/26/08) Earnings Call Transcript

Jul.31.08 | About: The Pantry, (PTRY)

The Pantry, Inc. (NASDAQ:PTRY)

F3Q08 Earnings Call

July 31, 2008 10:00 am ET

Executives

Barry Epley - Corporate Controller

Peter J. Sodini - Chairman of the Board, President, Chief Executive Officer

Frank G. Paci - Chief Financial Officer, Senior Vice President Finance

Steve Ferreira - SVP of Administration

Analysts

John Heinbockel - Goldman Sachs

Analyst for Brian Hunt - Wachovia

Ben Brownlow - Morgan Keegan

Karen Howland - Lehman Brothers

Eric Wolinya - William Blair

Anthony Lebiedzinski - Sidoti & Company

Karen Short – Friedman, Billings, Ramsey & Co.

Operator

Welcome to the third 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

As you know, earlier today we announced financial results for our third fiscal quarter. 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 5392 and she will see that you get what you need. Before we begin, 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 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. We 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 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, Pete Sodini, Frank Paci, our CFO, and Steve Ferreira, our Senior Vice President of Business Development.

I will now turn the call over to Pete.

Peter J. Sodini

Our third quarter earnings per share of $0.48 were down from a year ago but significantly improved from the second quarter. EBITDA for the third quarter was $66.1 million, down only $3 million from a year ago and up sharply about $40 million in the second quarter. Year to date EBITDA was $159.8 million, up $4.3 million from the same period a year ago. Thus we feel we’ve managed through this very challenging past period.

The macroeconomic environment we’re facing from a perspective of overall weakness in consumer spending and on gas cost escalation is the toughest I’ve seen here in my past 10 years. Our gas margins for the quarter of $0.107 was below our $0.128 margin a year ago. It was achieved during a quarter when we experienced a jump in oil prices from the range of $101 a barrel to approximately $140 a barrel. In addition, credit card fees were up again, up more than $0.01 a gallon from a year ago. While we did sacrifice some volume to achieve these margins, it’s actually a great illustration of our ability to utilize proprietary gas pricing system to optimize gasoline’s profits.

I know this year we’ve talked a lot about ethanol. Right now we have approximately 1300 stores with ethanol either in line or splash blended. Due to competitive sensitivities regarding this subject, we decided we will no longer or no further discuss any additional details regarding the economics of ethanol.

As we expected, we saw an improvement in our merchandising sales trends despite weaker gasoline comparable sales, which has an impact on traffic in our stores. Merchandise sales were down 2.5% versus the 3.4% decline in the second quarter. As we said previously, we ramped up promotional activity this quarter and saw our margin come in finish at 36.5%, a 10 basis point decline from the same period last year. Due to the seasonal nature of our business, we tend to run our lowest margin in our third quarter as we ramp up for our peak season business in the fourth.

Expense reduction whenever possible remains a top priority for us in this environment, and we made further progress on that front during the quarter. Frank will have details in a few minutes.

As we discussed on our last call, we’ve significantly reduced our cap spending plan for the balance of 2008. We’ve stated that we won’t be doing any additional acquisitions through the end of this calendar year either. We also have no plans to repurchase our stock at this time. Our immediate goal is to maximize the company’s cash flow during our peak summer season and improve our overall performance before taking another serious look at growth opportunities. We do however continue to believe there will come a time when it makes sense to be growing and looking at strategic acquisitions once again. That is largely a function of how our cost multiples go. As we also firmly believe, The Pantry is well positioned for growth over the long term. We remain optimistic about the convenience store sector which has steadily gained market share at the expense of other retailing formats in recent years. Convenience continues to fulfill a critical niche in the customer’s life.

Let me close by saying that the c-store market, particularly in the southeast, remains extremely fragmented with over half the stores that are [inaudible] operated by single store operators. Thus the market is ripe for further consolidation.

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

Frank G. Paci

Total revenues for the third quarter were approximately $2.5 billion, up 20.1% from last year’s third quarter, primarily due to higher gas prices this year. I should point out that we’ve now passed the anniversary of our major acquisitions last year so our average store count for the quarter is up only 27 stores or less than 2%, much less than in the previous quarters this year. Although gross profit for the third quarter was $214.1 million down 6.3% from a year ago, merchandise gross profit was down only slightly at 0.7% while total gasoline gross profit was down 18.9% from a year ago.

On the merchandise side, total revenues were down 0.4% and comparable merchandise sales declined 2.5%. Merchandise gross margin was 36.5%, down 10 basis points from a year ago. As we said on our previous calls, we expected to see margins reduce seasonally this quarter.

In the gasoline business, retail gallons sold for the quarter were down 2.5% overall and down 5.2% on a comparable basis. Total gasoline revenues for the quarter were up 25.5%, reflecting the 29.6% increase in the average retail price per gallon, from $2.87 a year ago to $3.72 in this year’s third quarter. Our gross margin per gallon was $0.107, including the final loss of approximately $1.4 million that we incurred in closing out all our gasoline hedging positions that we discussed earlier. Excluding that loss, our gas margin was $0.11. As most of you know, we report gas margins net of credit card fees and equipment maintenance costs, which were $0.062 per gallon in this year’s third quarter compared to $0.048 per gallon a year ago and $0.055 in Q2. Almost all of the increase in Q2 was driven by higher gasoline prices.

We made further progress reducing our expenses during the third quarter. Store operating expenses declined $6.4 million or 4.8% from last year’s third quarter. That does include a positive adjustment of approximately $4.2 million in our reserves for insurance claims reflecting the company’s favorable experience in recent years in its experience in handling its workers comp claims. We brought the manager of workers comp claims in-house and we’re seeing positive results from that. Excluding this item, our store operating costs were down $2.2 million.

G&A expenses were down $4.8 million as a result of our restructuring initiative that we took in the fourth quarter of fiscal 2007 and our increased focus on controlling expenses this year. Net interest expense for the quarter was $21.8 million, up $1.4 million from last year. Depreciation and amortization was $27.3 million, a $1.5 million increase.

Pretax income came in at $17.1 million compared with $20.8 million in last year’s third quarter. The tax rate was 37.5% down from 39.1% a year ago due to us taking advantage of some credit opportunities based on a study that we undertook. Net income was $10.7 million or $0.48 per share, compared with the net income of $12.6 million or $0.55 per share a year ago. EBITDA for the quarter was $66.1 million compared with $69.1 million a year ago.

Capital expenditures for the first nine months of fiscal 2008 were $91.7 million on a gross basis and $76.1 million net of sale lease back proceeds and other transactions. We continue to target a net capital expenditure for the year of approximately $90 million, down significantly from our budget earlier this year.

So far this year we’ve acquired 20 stores and opened 12 new large format stores and we expect to open additional three before year end. As Pete noted, we’re not planning on doing any more acquisitions for at least the balance of the current calendar year.

With respect to the balance sheet at the end of the third quarter, cash and cash equivalents were $161.9 million, up sharply from the $48.9 million three months ago. The increase in cash resulted from the excise of our delayed draw option under the credit facility that we talked about in our previous call and from generating approximately $33 million in cash flow during the third quarter. We have approximately $142 million available under our revolving credit agreement.

As we noted previously, we are and expect to remain in compliance with all of the applicable covenants under our standing debt instruments. At quarter end we had a $26 million cushion on trailing 12 months EBITDA basis against our interest covenant which is our most restrictive. As we noted in our press release, we are updating our fiscal 2008 guidance ranges. We have tightened our range on total merchandise sales to $1.62 billion to $1.65 billion from the previous $1.6 to $1.7 billion range. We now expect gas gallons to be approximately 2.1 billion gallons at the low end of our previous range of 2.1 billion to 2.2 billion gallons. We expect our merchandise gross margin to be between 36.8% and 37%. We previously said it was going to be approximately 37%. We continue to expect our retail gasoline gross margin to be in the range of $0.10 to $0.12 per gallon. We now expect our total store operating and general administrative expenses for the year to be between $605 million and $610 million from our previous range of $615 million to $630 million.

With that I’ll turn it over to the operator to take your questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from John Heinbockel.

John Heinbockel - Goldman Sachs

The store operating expense reduction ex the insurance reserve, I did get that type of reduction is sustainable through the balance of the year, maybe even into next year. There’s nothing one time in that, that can be sustained, is that correct?

Barry Epley

That’s correct, John, and just to give you some more clarification on the insurance, what that insurance is reflects our experience in managing claims and we’ve only been taking that adjustment on an annual basis, so that really is from the previous four quarters of experience, so while I wouldn’t consider that totally a one-time item, it is a catch up over four quarters because of the way we take it. It reflects the fact that we’re getting better experience on managing our clients.

John Heinbockel - Goldman Sachs

When you think about run rate of expenses going forward, I take it you would add the $4 million back to what you had for this quarter to get a fair run rate or is that not right?

Barry Epley

I think that’s fair. Maybe it’s not all of the $4 million but it’s a fair way to think about it.

John Heinbockel - Goldman Sachs

On the corporate side, the reduction there, is there much more to do? Let’s say the environment stays difficult for a while and you get into next year, is there room to cut expense dollars further year-over-year or not really, we’re getting close to the bone here?

Barry Epley

Obviously there’s always opportunities. What we’re looking at is the right investment level based on the business going forward.

John Heinbockel - Goldman Sachs

Do you have other expense reduction initiatives kind of teed up if you need them or is it kind of hard to find them at this point?

Barry Epley

We haven’t teed them up. That doesn’t mean there aren’t more, but right now we’re comfortable with the level we’re operating at.

John Heinbockel - Goldman Sachs

I guess it’s way too early, because retail prices have only started to come down here, way too early to think about the consumer reacting to lower gas prices at the pump. Do you have any sense of how long do we need to stay down here? Are we not even come back enough to start to see a behavioral change given where we are today?

Peter J. Sodini

I don’t think we’ve come back enough to spawn an additional change in consumer defensive reaction. Clearly at what point that takes point is somewhat murky but getting down another $0.10 to $0.15 a gallon on the most recent decline, I don’t think is going to alter consumer behavior in any material way.

John Heinbockel - Goldman Sachs

Then just two final things, one kind of longer term. Do you think based on the situation the consumer’s in, higher gas pricing, food pricing, just in general pressure on the low income consumer, do convenience stores need to be more value-oriented over the longer term? Usually it’s been low price at a convenience obviously. Do you need to become more value-oriented in some form and if so, how do you do that without really taking a hatchet to gross?

Peter J. Sodini

We kind of have been more value-oriented this year based on the level of promotions that we embarked on in Q3 and Q4. There’s two sides of the equation. The vendors are also hurting in terms of sales and they have been more forthcoming in terms of allowances. When you combine those two, us taking some, they giving some, then you get more promotional, but I would say on a number of lines we are very competitive with supermarkets. The days of people saying, “I’m going to get a 30% or 40% premium over what others sell for” I think are long since gone. This is a tougher economy. The consumer, as we said before, is frightened, and I think you would have to be more attractive in terms of your price profile. We also have the advantage versus most of having more extensive private label and velocity items and velocity categories such as take home beverages, 12-packs, single serve, a whole myriad of items which also reinforces to a great extent the price image.

John Heinbockel - Goldman Sachs

Then finally do you think on balance the promotions, how would you characterize the ROI on that? Just okay or pretty good?

Barry Epley

Certainly we’ve seen some positive movement, John. Some of this stuff I think takes some time to build. I would say at this point in time, the jury is still out on some of this stuff, but we’ve certainly seen positive movement.

John Heinbockel - Goldman Sachs

All right, thanks.

Operator

Your next question comes from Brian Hunt.

Analyst for Brian Hunt - Wachovia

Hi, this is actually Meredith in for Brian. Are you experiencing any regional differences in gasoline sales and could you describe them?

Peter J. Sodini

I think the regional differences would be probably be more properly stated as some resort venue. I think again if you look a bit and we weren’t surprised at that because prior to this there was a study out, polling data out that suggested, and I wish I could tell you exactly who put out the poll, but nonetheless it said that people making $100 grand or less are planning a significant alter to their vacation plans this summer. I think what you see in some places like Myrtle Beach and other coastal venues is that weekend businesses is fairly strong, the business during the week might be a little on the lighter side. I think there’s some... We are in what I would consider savage barriers. As I read about some of these areas in the country where home pricing is just absolutely falling off the wall and people’s reaction is very dour.

Analyst for Brian Hunt - Wachovia

All right, and then given the current economic climate, how have you seen some of your higher margin revenues such as car washes, lottery, and food service sales hold up?

Peter J. Sodini

Car wash is clearly impacted and that happens every time you get into a tight economy. It ‘s a discretionary item. People can wash their cars at home. It’s not under drought conditions which it’s been here periodically for the last years but it’s not a necessity, you don’t have to have it, and it’s certainly not on a parity with being able to buy gasoline sufficient to get you to and from work.

Barry Epley

On the lottery, we’ve seen lottery sales hold up pretty well.

Analyst for Brian Hunt - Wachovia

I apologize if you said this already, but what were credit card fees per gallon in the quarter?

Barry Epley

The total of credit card and maintenance was $0.062. That includes gasoline maintenance as well.

Analyst for Brian Hunt - Wachovia

And then with the recent VISA announcement to limit maximum fees on fuel purchases, are you benefiting or are those benefiting fuel margins at all?

Barry Epley

It would be very minimal because it’s really only a cap if you get above a certain level, so one of the things that you’ve seen happen in the business is that because the total cost of filling up has gone up, you see people buying smaller amounts of gallons, so as a result, it really only impacts you if you do a big fillup and you get above a certain level in price. It’s really only a cap, it ‘s not a change in the average fee.

Peter J. Sodini

That’s generally more of an illusion put out by the credit card companies.

Analyst for Brian Hunt - Wachovia

And then lastly, with the recent decline in fuel prices and then the limited decline in retail prices, could we assume that your fuel margin headed into Q4 is off to a strong start?

Peter J. Sodini

We like not to comment on the quarter we just entered. We give out historic guidance, the old, simplistic, when things go down, we tend to pick up on margin. When things go up, we get squeezed. I think you can make whatever deduction you want off of that.

Analyst for Brian Hunt - Wachovia

All right, great, thank you.

Operator

Your next question comes from Ben Brownlow.

Ben Brownlow - Morgan Keegan

You guys seem to be obviously in this environment shying away from acquisitions. Can you talk about kind of the acquisition environment where you’re seeing and your thoughts on debt repayment?

Barry Epley

On the acquisition front, this is a steady flow of small deals out there that have been announced by a number of oil companies about divesting assets, so we’re on everyone’s mailing list. We look at everything that comes by and we’re just going to be very cautious.

Frank G. Paci

On the debt repayment side, in terms of our covenant calculations, building cash on the balance sheet is the same as debt repayment given what’s going on from a credit standpoint out there on the marketplace. We feel like we’re better off to hold onto our cash.

Ben Brownlow - Morgan Keegan

Kind of going back to the promotional environment, it seems like that was, at least in this environment, met with the success. What are the promotional things that you have going into Q4?

Barry Epley

What we’ve done and typically we’ve done this in the past, we’ve got specials on 12-packs of water , we’ve done multi-pack deals on cigarettes, we’ve got specials on 12-packs of carbonated beverages. It’s been primarily those kind of things that would drive kind of your big tickets.

Ben Brownlow - Morgan Keegan

How have the margins been within those promoted items?

Frank G. Paci

What we’ve talked about before is we’ve worked with our vendors to make sure that it’s a thing that works for us and works for them.

Ben Brownlow - Morgan Keegan

Okay, so pretty much in lien with expectations.

Frank G. Paci

Yes.

Ben Brownlow - Morgan Keegan

Okay and then last question. I think I heard right, on ethanol decision to kind of not talk about that going forward, can you just give a little more detail?

Peter J. Sodini

Realistically we’re in a phase now where it’s a competitive item. We’re in an industry which is highly replete with public companies. We think at this point there’s more negative attended to us giving and discussing it in full detail as we have in the past two quarters and we’re just not going to go there.

Ben Brownlow - Morgan Keegan

Okay, but it was a benefit to the quarter?

Peter J. Sodini

We signed off enough on ethanol. We’re not going into any more.

Ben Brownlow - Morgan Keegan

Okay. Thank you.

Operator

Your next question comes from Karen Howland.

Karen Howland - Lehman Brothers

Looking at your guidance that you set for your O&A expenses, it seems like there’s a pretty decent ramp up even sequentially from pretty much the first three quarters of this year into the fourth quarter to get to your $605 million to $610 million guidance. Is there anything abnormal in the fourth quarter that you’re expecting it to ramp up more or is it just more of a function that you want to be conservative in case there’s some additional expenses?

Barry Epley

As we said before, there is some seasonality in terms of variable expenses based on volume so that’s the one thing that’s different from earlier in the year. That typically will run more store labor in Q3 and Q4 then we do in the earlier parts of the year.

Karen Howland - Lehman Brothers

Right, but even versus Q3 it seems like it’s a step up if you assume that you add back $3 million of that $4 million insurance reserve going from $151 million to the midpoint of your guidance would be $160 million in the fourth quarter. It seems like, again, just basing it off of your guidance, that you don’t expect any sort of significant increase in the volume sold from third quarter to fourth quarter, a small increase but not to the magnitude as a percentage that O&A expenses will increase.

Barry Epley

Again, we might be a little bit conservative.

Karen Howland - Lehman Brothers

Okay, and then talking a little bit more about the O&A expense, I’m just wondering if you feel comfortable that you haven’t ramped down too much given the rather sizable decrease from the third quarter of last year to the third quarter of this year so when business does ramp up you won’t be at risk of losing customers and losing business.

Peter J. Sodini

If you go back to when we took the big ramp down, a good bit of that pertains to the restructuring of our operation function and streamlining given the fact that with all the acquisitions we have been engaged in, it is natural that you are either going to go and do an acquisition a little heavy just to make sure you quite frankly don’t screw it up, but when this market started to look like it was going to turn tighter, then we made adjustments. We’re very happy with the way operations is functioning. I think the restructuring made an eminent amount of sense and the answer is no, we don’t feel we pay any negative whatsoever.

Karen Howland - Lehman Brothers

Though all of a sudden there was a 3% comp rather than a negative 3% comp, you feel that the O&A line will be appropriate to handle that business?

Peter J. Sodini

We would say hallelujah if that happened.

Karen Howland - Lehman Brothers

As I’m sure a lot of your investors would as well. Okay, great, and then thinking about the long term gas margins, I know you historically said $0.125 to $0.13. Do you think that is now, and I’m not talking about this year obviously, I’m just talking kind of going forward, do you think that now might be a little bit high given that credit card fees is eating up a cent of that or so more than it was last year or do you think there was the opportunity to maintain that $0.125 to $0.13?

Peter J. Sodini

I think you hit the most [inaudible] item that a lot of people overlook when you look at or compare year to year. Gasoline margins given the fact that [inaudible] cost of sale, that quite frankly I think it should be, I don’t see that there is a substantial class action suit against there against the credit card companies. If you look at some of the disparities between credit card fees in Europe with the same companies and the retail public, one would have to be that there is a day of reckoning coming because they would be hard pressed to justify what they’re charging here, and it is becoming a meaningful item, particularly with the escalation of gasoline costs, so that, I think ultimately, and that may be 2 or 3 years down the road, could be longer, that will bring I think some semblance of reason to the subject of credit card fees. Gasoline, we are doing such a lousy job of forecasting gasoline, we’re almost reluctant to talk about it. I mean some obvious things if you just look at weekly Department of Energy statistics, and you look at some of the [inaudible] today, the refining sector is not doing very well out there. They’re now running certainly to capacity that they would like to run. It will be interesting to see how they evolve in this environment and what impact that has on the cost side of the equation. They’re also getting rapidly out of direct company operations, so how does that change their perspective relative to the pricing of product? Do they really want a brand out there at all, or is this market going to be totally commoditized and we’ll be running [inaudible]. Those are questions that I think the answer is going to have an impact on your question and I think probably the wisest thing for us to do is just say “We’re not certain.” I say one thing for sure, I doubt you’re going to see an escalation in margin.

Karen Howland - Lehman Brothers

Okay, great, thanks for that additional color although not particularly optimistic, but appreciate that and then last question, the pricing strategy that you all have implemented, I know it obviously is focused on generating margin and gross profit dollars. Do you think that you lost gallons because of that pricing strategy this quarter?

Peter J. Sodini

Absolutely. In a market where the consumer is hyper-sensitive to the price and if you’re going to try to push markets up reflective of cost increases you’ve just recently got, guaranteed you’re going to pay a penalty during the duration that you’re exposed with higher retails as compared to competition, and you’re waiting to see if they will pass through a cost increase. Yes, we definitely paid a price and we anticipate paying a price but the alternative with as many as we have sin some of these towns is to sit there and do nothing and continue to absorb for a period of time what is very rapid cost increase. If you look at how that curve escalated in the last few months. Yes, we paid a price, we think it was a good trade off and every quarter is a new adventure.

Frank G. Paci

Especially when you look at some of these numbers that the government has out there in terms of change in miles driven, if you look at the main number, the main number in the South Atlantic area, the change in miles driven was negative 4.2% so when we talk about paying a price, I don’t think it’s a huge price.

Karen Howland - Lehman Brothers

Great. Thank you all for that additional color.

Operator

Your next question comes from Eric Wolinya.

Eric Wolinya - William Blair

I got on the call a little late, so I apologize if any of these questions are repetitive. I guess to begin with, you guys have obviously stated you stepped out of the M&A market at least through the end of the calendar year. But as we look to next year, calendar ’09 or fiscal ’09, however you want to think about it, how much activity are you expecting to be involved in terms of acquiring stores? Should we think about The Pantry starting slow, just maybe buying 20 or 25 stores or is it possible or feasible to think that you could be buying 100+ stores next year?

Peter J. Sodini

We’re clearly following the marketplace in terms of [inaudible] we’re plugged into a lot of the sellers, brokers, or banks that that generally handle product here in the southeast. We are waiting with so to speak bated breath to see how the lousy gasoline environment is going to impact multiples going forward and now I think we would expect it would be down.

Steve Ferreira

Plus the supply because there’s a lot of stuff that’s coming on the market with --

Peter J. Sodini

So we will look at it, we will look at it on a very conservative economic basis but yes, I think we’re accomplishing some of the things that we wanted to accomplish by taking this path, focusing on internal operations, reviewing some of the ways we go to market, and I think it’s reasonable to assume that at a point in time we’re going to resume seriously looking at product which we expect to be priced comparatively cheaper.

Barry Epley

And I don’t think we want to get pigeonholed into a number, but the returns will drive the answer to your question and it’s yet to be seen what the flow looks like.

Eric Wolinya - William Blair

Sure, understandable. Beyond big oil divesting their stores, can you maybe talk about the competitive store environment in your market today? Are you seeing acceleration in some of the smaller chains in terms of store closures or people throwing in the towel? Have you seen any change here in the last six months?

Barry Epley

It’s been a steady flow, particularly small operators.

Eric Wolinya - William Blair

Particularly small, but it has accelerated sequentially?

Peter J. Sodini

In the State of Florida you’ve got the ’09 rates and tank upgrades that is not as [inaudible] it’s right now in the range of $200,000 so to do that we expect to see some people and some sites transition from small convenience to alternative better uses but I think a lot of these folks will run the day after the rates take effect and then just turn the key and walk away, so I think it’s going to vary by market, but Florida’s certainly got an accelerator, and as Steve alluded to when he said some of these smaller people do things why they want to be in this business. If you just look at it from the carry cost of their inventory in the ground at 20,000 gallons in ground, what’s happened to that carry cost over the past 6 to 8 months is they’re burning the material item form then you have to write a check before delivery. It doesn’t make a hell of a lot of sense to me why some of these guys stick around.

Eric Wolinya - William Blair

And then my last train of questioning here is related to CapEx and I apologize, I got on the call late. Did you mention where you expect to come out for fiscal ’08 CapEx?

Barry Epley

Yeah, we’re right on target where we thought we were going to be at the $90 million mark.

Eric Wolinya - William Blair

And then looking forward to ’09, I know you might not want to actually give a specific number, but in terms of thinking about your free cash flow, if you’re becoming potentially more comfortable with re-entering the M&A market next year, should we then assume, how should we think about CapEx spending? I know you pulled it back recently in conjunction with stepping out of the M&A market. Is it the fact that you’re thinking of re-entering the M&A activity next year any kind of signal for us in terms of how we should think about CapEx spending in fiscal ’09? Should we look for that to re-accelerate to more historical levels?

Barry Epley

We have not finalized our ’09 plans at this point.

Eric Wolinya - William Blair

Just in terms of directionally speaking, is it logical to think that there would be a pick up in the CapEx in ’09 relative to --

Peter J. Sodini

I think you have to bifurcate it into existing stores and what happens when we find something that’s extremely attractive in February of next year and decide to go ahead with it, but based on CapEx, we don’t see as we said for any necessity any ramp up.

Frank G. Paci

We haven’t finalized the base CapEx. Acquisitions, whatever we spend on acquisitions, plus if there’s attendant initial CapEx, it goes hand in hand, so it’s hard to pick a number for you.

Eric Wolinya - William Blair

Sure. Final question. I think in the past you’ve mentioned what maintenance CapEx is for The Pantry. Could you remind us again what that is?

Barry Epley

We’ve always said that number is in the neighborhood of $50 million range.

Eric Wolinya - William Blair

Great. Thank you very much.

Operator

Your next question comes from Anthony Lebiedzinski.

Anthony Lebiedzinski - Sidoti & Company

I had a question regarding the credit card fees. Have you seen an increased utilization of credit cards versus last year and also wanted to know if you guys have been able to do anything in terms of trying to lower those credit card fees?

Barry Epley

We’ve seen an increase in utilization. It’s actually only been a slight increase in utilization versus last year and it’s been relatively flat versus the second quarter in terms of utilization, so as I said earlier, most of the increase in credit card fees was driven by an increase in the price of the gallon per gasoline. We continue to explore strategies to look at ways to minimize those just as we look at any other kind of expenses. It’s part of our... While we include it in our margin, it’s an item that we’re looking at, how do we minimize that expense.

Anthony Lebiedzinski - Sidoti & Company

What percentage of your transactions are credit cards versus cash?

Barry Epley

We have utilization of approximately 60%.

Anthony Lebiedzinski - Sidoti & Company

And also can you give us an update on your QSRs, how many you have right now, what the plans are, going forward?

Barry Epley

We currently have 236 QSRs. We’ve got Subways under construction. We have 5 under construction of which we think 3 of those will open this year. We have another 13 licenses purchased from Subway and we’re in process with another 14 locations beyond that, so we’re continuing to look at how can we ramp up that food service business.

Anthony Lebiedzinski - Sidoti & Company

And what about Quiznos?

Barry Epley

We have not built any additional Quiznos. We’re kind of sticking with what we’ve got there.

Anthony Lebiedzinski - Sidoti & Company

All right, thanks a lot.

Operator

Your next question comes from Karen Short.

Karen Short – Friedman, Billings, Ramsey & Co.

I just had a couple questions. I know you guys sell diesel at your stations and I was just wondering if you could elaborate a little bit on how much diesel you actually sell and how much, like where the margins are in diesel and how much that could be helping your gas margin?

Peter J. Sodini

We internally break diesel into two components. One is all of diesel which is sold at most of our stations, usually a dedicated pump, and then you’ve got travel centers, quasi truck stops, and stores that have external diesel facilities.

Frank G. Paci

It’s 10% of our total volume, so it’s not that meaningful to the market.

Karen Short – Friedman, Billings, Ramsey & Co.

Okay, and what are margins looking like in diesel these days?

Frank G. Paci

We don’t break out margins by product type.

Karen Short – Friedman, Billings, Ramsey & Co.

I know that in the Midwest, I’ve heard some talks about E-10 moving to E-15, I don’t know about E-20, but do your tanks, if that were to become something that happens, do your tanks have the capability of having 15% ethanol or is there a CapEx requirement if that were to happen?

Peter J. Sodini

It wouldn’t be a problem with the tanks and lines at 15%.

Karen Short – Friedman, Billings, Ramsey & Co.

And 20?

Peter J. Sodini

It would not be a problem.

Karen Short – Friedman, Billings, Ramsey & Co.

The third question I have, and I didn’t catch this if you said it, are you guys doing anything to offer better prices at the pump if customers pay in cash? Is that something you’re looking at?

Peter J. Sodini

We’ve seen that in some parts of the country. We think that puts a store and the manager in an awkward position. If I come in with a credit card, why should I be happy if somebody next to me is going to pay cash and get a lower price? Money is the same. I don’t care about your credit card fees. It’s just a fact that’s a medium of exchange I tend to use and we think it creates essentially a more discontent among our customer base so we haven’t had it, it’s not heavily prevalent in our marketplace, and we right now are certainly not going to encourage it.

Karen Short – Friedman, Billings, Ramsey & Co.

And then just turning to the store, inside the store, I don’t know if you could just comment a little bit about what categories you’re seeing. Is there a pattern to what categories typically do well when the consumer is feeling extremely strapped, and then on the flip side of the category, that you know will do much better if we’re coming out of a recession the consumer is feeling better?

Barry Epley

I think we talked earlier. Obviously one of the ones that’s been a little bit under pressure is the car wash category because you’re typically paying for that at the pump when you’re buying gas as well, so it’s on your mind as you’re buying gasoline. In terms of the other categories, I can’t specifically say that there’s certain categories that are going to do better or worse based on the economic conditions.

Karen Short – Friedman, Billings, Ramsey & Co.

Okay and then last, do you guys have any thoughts about using your cash to buy back our bond?

Barry Epley

It’s one of the alternatives that we’ve looked at. At this point in time we’ve continued to keep our options open and we’ll continue to explore those.

Karen Short – Friedman, Billings, Ramsey & Co.

Okay. That’s all I had. Thanks.

Operator

You have no further questions at this time. I’d like to turn it back to management for closing remarks.

Peter J. Sodini

Thanks. We appreciate everybody’s participation, particularly the good pointed questions and we’ll have another session here in a couple three months. Thank you again.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!