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Executives

Cara O’Brien – Financial Dynamics

James F. Wright – Chairman of the Board, President & Chief Executive Officer

Anthony F. Crudele – Chief Financial Officer, Executive Vice President & Treasurer

Stanley L. Ruta – Executive Vice President Store Operations

Gregory A. Sandfort – Executive Vice President & Chief Merchandising Officer

Analysts

Mitch Kaiser – Piper Jaffray

Jack Murphy – William Blair & Company

David Cumberland – Baird

Matt Nemer – Thomas Weisel Partners

John Lawrence – Morgan Keegan

Dan Wewer – Raymond James

Wayne Hood – BMO Capital Markets

Jay McCanless – FTN Midwest Securities

Tractor Supply Company (TSCO) F2Q08 Earnings Call July 23, 2008 5:00 PM ET

Operator

Good afternoon ladies and gentlemen and welcome to Tractor Supply Company’s conference call to discuss second quarter results. At this time, all participants are in a listen only mode. Later we will conduct a question and answer session and instructions will follow at that time. (Operator Instructions) Please be advised that reproduction of this call in whole or in part is not permitted without prior written authorization of Tractor Supply Company. As a reminder, ladies and gentlemen this conference is being recorded. I would now like to introduce our host for today’s conference Ms. Cara O’Brien of Financial Dynamics.

Cara O’Brien

Good afternoon everyone and thank you for joining us. Before we begin, let me take a moment to reference the Safe Harbor provisions under the Private Securities Litigation Reform Act of 1995. This conference call may contain forward-looking statements that are subject to risk and uncertainties including the future operating and financial performance of the company. Although the company believes that the expectations reflected in its forward-looking statements are reasonable, it can give no assurance that such expectations or any of its forward-looking statements will prove to be correct. Important risk factors that could cause actual results to differ materially from those reflected in the forward-looking statements are included in the company’s filings with the SEC. The information contained in this call is accurate only as of the date discussed. Investors should not assume that the statements will remain operative at a later time. Lastly, Tractor Supply Company undertakes no obligation to update any information discussed in this call.

Now, I’m very pleased to introduce Mr. Jim Wright, Chairman, President and CEO.

James F. Wright

Good afternoon everyone. I am joined today by Tony Crudele, our Chief Financial Officer, Stan Ruta, EVP of Store Operations and Greg Sandfort, EVP of Merchandising. As most of you know, the second quarter is very important to our business as it is our quarter with the highest sales and profitability. Our team overcame headwinds and I am pleased with our performance during the second quarter. I’m also pleased with the diligence and superior execution of everyone on our team. We made solid progress during the quarter on our initiatives to both grow and to improve our business. At the same time, we gained traction on our expense management program which was designed to protect our business in the near term. I will discuss these initiatives in greater detail later in the call but first, let me provide a few highlights from the second quarter.

We grew total sales by 13.6%, earnings per share by 14.8% while we maintained our commitment to long term value creation. Second, we continued to improve inventory management and ended the quarter with a 1.3% decrease in overall and a 12.2% reduction in the average inventory per store compared to Q2 of last year. Our ability to control inventory levels while improving our in stock position is attributed to the execution of our merchants, our supply chain and our store operators. This marks the third consecutive quarter of improved inventory efficiency. Finally, we continue to focus on a grade of categories most relevant to the every needs of our customers.

Our core consumable categories including animal and pet related products remain robust and were key drivers of sales during the quarter and in the first half. Through these categories we continue to experience sold traffic and repeat business in our stores. We’re very pleased that our transactions are up despite higher gas prices which are forcing consumers to consolidate shopping trips. We continue to closely observe traffic, measure customer [inaudible] and trends in our stores. All that said, we’ve never been more confident in our model, in our growth potential and our capacity to create value over the long term.

As we head in to the second half of the year, I want to thank our team members for their continued dedication to carry out our plans each and every day. During this challenging time we asked the team to step up significantly and they performed very well and are continuing to execute across all customer service, sales and expense management goals. I commend them for their hard work and appreciate their loyalty. In conclusion, early in the year we recognized the shifting consumer environment and reacted quickly by developing additional programs to mitigate potential headwinds. We executed quite well in the first half and I’ll go in to more details about our plans in the second half later in the call. But first, I’d like to turn the call over to Tony to review our financial reforms during the quarter and provide a financial outlook for the remainder of the year.

Anthony F. Crudele

Good afternoon everyone. During the quarter we were very pleased with our top line results. Our sales performance provided us the ability to effectively manage gross margin and control inventory levels despite increases in commodity prices. For the second quarter ended June 28, 2008 sales increased 13.6% to $898.3 million compared to last year’s second quarter and net income of $47 million or $1.24 per diluted share compared to $43.8 million or $1.08 per diluted share in the same period last year.

Total comp sales for the period increased 3.4% and non-comp sales were approximately $78.3 million or 8.7% of sales. We accomplished this despite another difficult year for outdoor power equipment. We are pleased that we have been able to shape our assortment to have less of a dependency on the outdoor power equipment category as that industry continues to experience weakness. Please note that we had an additional selling day in the second quarter due to the Easter shift in the first quarter this year. As a result, the additional day positively impacted Q2 comps by approximately 110 basis points. Comp sales in our Del stores were below the company average.

Consistent with positive trends from earlier in the year, our core consumable business continues to perform well in the second quarter. Although consumers remain conservative with their spending habits on discretionary and big ticket items, we did see signs that the consumer would step up for functional or differentiated categories or when we offered a compelling value proposition. These categories that performed well included recreational vehicles, chainsaws, scythes and tillers. We also are very pleased with the improvement in comp transactions which increased 170 basis points. We believe that this increase in transactions supports that our customers has functional necessities and views Tractor Supply as a destination store. Average ticket was also up 1.6% primarily as a result of our ability to pass through commodity cost increases.

Sales trends throughout the quarter were consistent with our expectations. We had strong comp sales in April as we cycled a very cold April in the prior year. May was the weakest comparison on a year-over-year basis as we cycled the carryover sales from the cold April into May last year. From a weather perspective June was the most normalized month and we had a favorable comp consistent with the total comp for the quarter. With respect to regional sales trends, comp sales were positive in all regions for tractor supply stores. The cold weather states performed the best and benefited from a more modest April. The warm weather states were weaker than chain average comps for two different reasons, during the quarter Texas cycled very strong comp performance from the prior year which was driven by a very wet spring last year. In the south, the overall challenging economy continued to particular affect Florida and as a result we experienced softer sales in this market.

Gross margin declined 55 basis points compared to the prior year quarter. This declined resulted principally from an increase in freight expense and an increase in the LIFO reserve. Although overall gross margin decreased, product margins improved 40 basis points. This resulted principally from better buying and retail price increases. There was a limited impact on margin from the mix of merchandise sold. This was because the favorable impact from fewer rider sales was offset by lower than chain average margin of the increase consumable mix. The improved product margin was offset by 33 basis points of freight expense resulting from increased yield costs and a mix of goods that carries higher than chain average freight costs. Freight expense was favorably impacted by reduced purchases as a result of our inventory management program and less important purchases.

LIFO represented a 42 basis point increase over prior year as grain, oil and steel costs have escalated this year. In the prior year the LIFO charge was essentially flat as the flow of merchandise, inventory position and our projection of price increase at the end of the quarter did not necessitate increasing the reserve. Import purchases on a year-to-date basis decreased 115 basis points from the prior year, the lack of increase in import volume reflects our success in reducing inventory and improving turns. In addition, the continued strength of our core consumable business which is domestically sourced also contributed to this decline. We expect to have a slight decrease in our importing efforts this year as we continue to manage inventory for certain key import categories such as hand tools and power tools.

For the quarter, SG&A including depreciation as a percent of sales was 22.5%, a decrease of approximately 15 basis points from the same quarter in the prior year. All key categories of SG&A other than occupancy showed leverage as a percent of sales. Additionally, SG&A per store was down for the quarter. We did benefit from a slight shift of marketing expense in to the third quarter relating to the timing of a direct mail piece. This had a favorable impact of approximately $0.01 per share in the second quarter. This improvement in SG&A leverage was offset by expected deleveraging from occupancy expense primarily as a result of our store opening program. That said, we continue to make progress on reducing this headwind for the long term.

Our cost containment initiatives have been very effective and we continue to focus on reducing non-essential costs while managing through the tough economic environment. Marketing was a prime example as we reduced the comparable spend this year in the second quarter. We ran the same number of circulars as in the prior year but managed to cost better and limited some of the more discretionary spending. Exclusive of the direct marketing shift I mentioned earlier, we reduced our anticipated spend by $0.01 per share for the second quarter. In the second quarter we opened 23 stores compared to 20 store openings and one store reduction in the prior year as we sold our one Del store in Canada. Pre-opening expenses were approximately $2.6 million compared to $2.3 million in the prior quarter.

Turning now to a few key balance sheet items. Inventory management has been a key focus and this is the third consecutive quarter we are realizing the benefits of our efforts. We are pleased with the position of our spring seasonal inventory and have managed to aggressively clear merchandise while maintaining margins. We believe that Greg and Stan’s teams can continue to drive improvement in this area through the remainder of the year. On a per store basis at quarter end, inventory levels decreased approximately 12.2% compared to the prior year. Our calculations based on average costs of inventory and excluding in transit inventory and inventory held in unopened stores. Inventory turns improved 11 basis points to 2.77 turns on an annualized year-to-date basis. This was principally as a result of the better inventory management. We believe our improved inventory management will continue through the remainder of the year and we are well positioned to exceed our annual turns improvement target of 15 basis points.

We also improved our accounts payable financing of inventory from approximately 49.1% up to 55.4% resulting principally from better accounts payable management and vendor dating. The merchant team continues to make progress on this initiative that we began last year. We are optimistic that we’ll continue to drive leverage over the next two quarters as we cycle the program.

Capital expenditures for the quarter were approximately $27 million, the majority of which relates to our new store opening program. Year-to-date cap ex totaled $53.5 million which included $8.5 million for the acquisition of two store properties in the first quarter. No properties were acquired in the second quarter. In the first half of last year, cap ex totaled $44.7 million. During the second quarter we purchased approximately 738,000 shares for $25 million for a cumulative total of $177.9 million since the inception of our stock repurchase program in February, 2007. Our share repurchase program had a favorable impact on EPS for the quarter of approximately $0.01. Subject to prevailing marketing conditions, we expect to continue to make additional purchases as part of our long term objective of reducing our cost of capital.

In addition to our generation of free cash flow from operations, our inventory and accounts payable financing initiatives have been instrumental in providing us the liquidity to fund $178 million of stock repurchases over the last year and a half. Most importantly, we have been able to fund store growth and the related inventory without adding any debt. In comparing this year’s cash flow with the first half of last year, we generated over $60 million of working capital improvement from our inventory and accounts payable financing initiatives. We’re extremely proud of this achievement and we continue to allocate our capital efficiently and make strategic investments in our business.

Turning now to our outlook for the remainder of 2008. We remain committed to improving the business while growing the chain throughout the year. As a part of our cost management program we have prudently managed our capital expenditures. We still anticipate cap ex spending to be between $90 and $95 million excluding any purchases of store properties which is consistent with the guidance we provided on the first quarter conference call. As part of our long term commitment to grow the business, we are on track with our store growth target and anticipate opening approximately 88 to 93 stores for the full year. In the balance of this year the remaining store openings will be Tractor Supply stores as we have already reached our targeted Del stores for the year.

With respect to our specific financial expectation for 2008, as noted in today’s press release, we continue to expect same store sales for the year to be approximately flat to 2%. Given the expected timing of new store openings, we now expect there will be slightly fewer selling weeks from the new store openings in 2008. Accordingly, we’ve narrowed the top end of our 2008 sales expectations by $10 million to a range of $2.98 billion to $3.03 billion. With respect to earnings expectations, at the end of Q1 we indicated we were trending at or slightly below the low end of our previously provided range of $2.54 to $2.62 for the full year 2008. At that time we stated that we could provide a more definitive outlook after we had concluded the first half of the year since the second quarter is typically our largest quarter for sales and profitability. With that said, we now expect to achieve annual net earnings of between $2.49 and $2.55 per diluted share. Importantly, this range is consistent with our expectations when we reported Q1.

To provide some further detail in fine tuning our outlook for the back half of the year, we considered several factors. First, to be sure we are managing through an uncertain retail environment where there can be variability. We have prepared our outlook based on the current consumer environment and notwithstanding any potential change in their spending patterns. However, we believe we have strong plans in place that are allowing us to navigate through the second half. Second, the consumer continues to shop our stores for their functional non-discretionary items. We continue to see positive trends in consumables which translates in to footsteps. We believe that this was consistent throughout the second quarter adjusting for the variability year-over-year weather patterns and this has continued in to July.

Third, based on our forecasted weather trends, we believe there will be less negative impact from weather variability in the second half. As you know, in the first half of the year, specifically February and March, weather comparisons provided a significant headwind. Looking at the second half of the year there is less variation. We expect moisture levels to be slightly improved over last year as we move through the summer months and we expect that the cooler weather will come a little earlier in the fall season. Fourth, there is less dependency on big ticket items in the second half of the year than in the first half. Although we have a variety of large ticket items throughout all the seasons, as we move in to the fall season, we believe that many of the heating related larger ticket items will face fewer headwinds in the event that gas prices remain high and people look for alternative low cost heating sources.

Having said all this, we do have a cautious outlook when it comes to consumer sentiment when we head in to the holiday season and we will continue to monitor this very closely throughout the remainder of the year. Additionally, we are planning for slightly lower gross margins for the second half versus the prior year’s period given the expected fuel costs, current merchandise mix and our ongoing inventory management initiatives. At the same time, we have been very successful in aggressively managing operating expenses and we anticipate this will continue to positively impact operating margins and the bottom line.

As you are hearing throughout today’s call, we are very pleased that we have the right strategies in place. Our team has proven they are nimble and flexible enough to execute well in this environment. We believe this will be a key differentiator for us with customers and we believe this will translate well in to positive operating results in 2008 and beyond. Now, I’d like to turn the call back to Jim who will discuss more details on plans for the remainder of this year.

James F. Wright

As we enter the back half of the year, we’ll continue to be very deliberate in our actions and committed to crisp execution. We’re mindful of the current economic environment and are very carefully observing fuel prices. However, we believe that our efforts to lower costs will continue to allow us to operate as a much leaner and more powerful organization. We also expect that our initiatives to grow and to improve our business and to focus on our people will continue to gain traction. We expect to continue expense management.

As mentioned in our last call, we’ve been reducing incremental and discretionary costs in our business. We’re managing our cost very tightly and have placed additional rigor around eliminating waste and managing hours to sales on a by store by week basis. Further, we’ve reduced expenses in marketing, our store support center, transportation, distribution technology as well as business travel. If necessary, we are prepared to quickly implement additional cost cutting actions should the consumer retrench more significantly. Second, Tractor Supply is a growth company. Despite the overall consumer environment there are several opportunities for us to grow sales and profits by maintaining our store expansion program, refining our merchandise selection, improving margins via price optimization and strategic sourcing and building out our ecommerce platform.

In addition, we’ll continue to find ways to increase sales within our existing stores by refining our merchandise assortment presentation. We expect our core consumable products will continue to produce solid and consistent results driven by our ability to serve a functional and non-discretionary need. As we enter another get ready quarter, we are preparing for the next seasonal shift and we believe that we are in a good position to capitalize on our home heating related merchandise. We also expect to continue growing in the second half by building out our ecommerce offering. We’re seeing success of our online strategy. We currently have 11,000 SKUs for sale online and we expect sales to continue ramping up in the back half of this year so that we can begin leveraging ecommerce in 2009.

Third, as we look to improve areas of our business, we’ll pay particular attention to certain merchandising initiatives such as price optimization, price elasticity and inventory management in the second half. Although we had to modify our approach to price optimization due to inflationary pressures occurring through currently with an increased consumer price sensitivity, we remain confident in our ability to achieve a profitable balance of growth in margin and in market share. In addition, we’ve been pleased with the improvements in our inventory management process. As a result of a more rigorous focus, we’ve reduced our average inventory per store for three consecutive quarters. We anticipate that we’ll continue to effectively execute our inventory management goals in the second half.

Finally, turning to our people; in recent years we’ve placed an emphasis on reducing store manager turnover. Today, I’m delighted that our year-to-date store manager turnover rate is 2% less than last year’s record low. Our store managers and their team have a very direct impact on customer loyalty and in turn, sales and profitability of the chain. With that said, it’s important to remember why Tractor Supply Company is unique and well positioned to succeed in the near and in the long term. We serve a unique niche, we are dedicated to an understand the dynamics of our niche and as a result we are able to successfully operate and grow in this market. Additionally, we have limited and fragmented competition. As we often like to say, “You can buy everything we carry somewhere else but you can’t find someplace else that sells everything we carry.” We are one of a kind.

As a result, we are able to meet the functional and non-discretionary needs of those who are committed to living the rural lifestyle. As a category [inaudible] we bring efficiencies to our market which drives customer loyalty. I’m very pleased to say that during these challenging times, their reliance on Tractor Supply remains strong. We have a solid foundation in place. We have no debt and we can be nimble in this environment. Lastly, we have an experienced and focused management team that has managed successfully through many challenging cycles. In short, our merchandise assortment is on target and getting better each quarter. Our customers are resilient, our team is committed, our financial position is strong and our company is growing.

This concludes our prepared remarks. Operator, we would like to open the call for questions at this time.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from Mitch Kaiser – Piper Jaffray.

Mitch Kaiser – Piper Jaffray

One of the first questions I wanted to talk about, I know it’s difficult to quantify but is it possible to look at what impact the stimulus checks may have had on your business?

James F. Wright

Mitch, it’s very difficult for us to quantify for a couple of reasons: one, they came out over an extended period of time and frankly when we look at kind of a sales rate that we experienced, it’s just very, very difficult for us to correlate that. We did nothing special, you know some retailers cashed the checks free but we did not take that initiative.

Mitch Kaiser – Piper Jaffray

You mentioned a couple of times in terms of merchandise for the back half of the year, home heating might be a nice opportunity as you head in the back half of the year certainly with what people are talking about with natural gas prices and heating oil costs, I would assume that would be a good product for you. Can you talk a little bit about what you’re going to do on the merchandising side there and assuming a strong demand, does it feel like the products going to be available?

Gregory A. Sandfort

First of all, we identified this trend early on in the year and we actually did some early testing in a number of stores in the northern part of where we serve our customer. The initial response was so strong that we quickly went back to the manufacturing base and started laying the foundation for growing this business. All I can tell you is that we’re well prepared, we’re well positioned, we have worked closely with the manufacturers and we believe that this is going to be a significant opportunity for us in third quarter. What we’re not sure about is whether or not the business will come early and will stay with us through the remainder of the late third and fourth or if it will just come early and come fast and furious but, we’re well prepared and feel very solid about the business as we go forward.

Mitch Kaiser – Piper Jaffray

So assuming that you do get strong demand in the third quarter, does it feel like you could backfill in the fourth quarter if that demand followed through then?

Gregory A. Sandfort

We have plans to do so, yes.

Operator

Our next question comes from Jack Murphy – William Blair & Company.

Jack Murphy – William Blair & Company

Just a couple of questions that relate to the guidance. Can you talk about your view in to the trends on freight on the next couple of quarters? I know you kind of ticked up from say 25 basis point drag to a 33 basis point drag, just what sort of is assumed in the guidance for that? Then secondly, when you look at the ramp on merchandising initiatives that you kicked off, I guess late last year in to early this year, what type of impact, how do you view the sort of ramp on those merchandising initiatives on the back half of the year?

James F. Wright

First on the freight, we assumed $4.70 a gallon diesel for the remainder of the year. Our initial planning was based on the Department of Transportation $3.30 for the year so when we talk about our EPS range for the year, that’s already calculated in. Any relief would certainly be appreciated. With regard to merchandise, Greg do you want to take that?

Gregory A. Sandfort

Jack, we put together a number of initiatives for 08 and I think we talked briefly the last couple of calls about certain aspects of the business. Particularly one we were working on was new product flow, resets in our store, the execution on those resets, trying to make the store and for [Sam’s] team out there much easier to operate and run. We’ve got new processes in place for planograms, for line reviews, for what we call SDIs, our sales driving initiatives so we are well planned, we believe we can execute very, very easily to these plans. We work very closely with the store ops group, they are integrated in to what we do now so I believe we are going to execute at a very high level.

Jack Murphy – William Blair & Company

As you look at the overall impact that you’ve seen so far it’s mostly been an offset to some other drags on the gross margin. Could you kind of characterize how far along you are in terms of realizing a benefit [inaudible] or sort of multi quarter benefit that you see accruing not just the back half but 09 and beyond?

Gregory A. Sandfort

I’d say that we were in the early stages of seeing the benefit. One of the things I mentioned last call is that we were going to clear the stores of clutter and we’ve been working diligently on that. If you’ve been in our stores, you should notice that we’ve been moving to a number of I’ll call discontinued or old age products and reinvesting those monies in to forward product, in to our core basics and so on which are going to benefit us on the margin side because those are much richer in margins. So, that’s just one aspect, there’s numerous other things that we’re doing Jack but as I said, we’re in the early innings here.

Operator

Our next question comes from David Cumberland – Baird.

David Cumberland – Baird

Have you seen a change in the extent that you’re able to pass through cost increases related to commodities?

James F. Wright

Yes, we have. For the first part of the second quarter we were able to pass commodity increase through and maintain the margin rate. Obviously, we watch unit velocity and market share very, very closely and we’ve began to see some measure of units decline or some resistance and change in strategies we’re at the point now where in most categories, most commodities, our strategy now is to maintain a $1.00 or $0.01 per unit profit and thus far, I guess we’ve been moving against it now for seven or eight weeks, it looks like we’re doing just fine.

David Cumberland – Baird

Then Jim, in some past calls you’ve talked about recently starting to measure customer service levels, what kind of update can you give us on that particularly as you’ve been managing down expenses?

James F. Wright

Sure. Stan, do you want to take that?

Stanley L. Ruta

Sure. David, we’re in the early stages of measuring customer loyalty in our stores. We’re very pleased with our initial response from our customers, we’re getting great information by store, by day, by [inaudible] day which is helping us correct staffing adjustments and react by store to our opportunities in customer service. Again, we’re very early in that program, we see great benefit in front of us and our customers – we can see where we’re reacting well, our customers recognizing it and rating us high.

James F. Wright

As we compare the actual output, what we measure is top box score, customers rate us one through five, we count five’s only and frankly we’ve seen very, very little degradation as we got in season and with the relatively vigorous control on expenses. It is so minor that we were unable to discern if this was a result of more tightly managing salary or just the fact that our stores are just much busier in Q2 then they are in Q1. So, I guess overall our customers continue to give us very good marks on overall customer satisfaction.

David Cumberland – Baird

My last question, on freight optimization, have you put all of your efforts there on hold or is there some aspect of it that you’re still moving forward with.

Anthony F. Crudele

David, we’re still moving forward on that front. With the inflationary pressures, we’ve been very cautious to look at how those two are going to blend and basically what we’ve done is a little bit of a blend program right now where we’ve estimated what we think the customer threshold will be on price and what were our plans initially. So, no, we’re moving ahead but it’s been very judicious on how we go about it.

Operator

Our next question comes from Matt Nemer – Thomas Weisel Partners.

Matt Nemer – Thomas Weisel Partners

My first question is on the slower store growth that is planned for the second half. Can you just comment on any impact that would have to expenses that’s implied in your guidance? Then, can you give us maybe a preview of what we should be thinking about in 2009 for new stores?

Anthony F. Crudele

Relative to the new stores, the guidance that we gave at the end of Q1 we had said that we had anticipated at the very beginning of the year about 95 to 100. We said that we would not be concerned if six to eight stores were pushed back in to 2009. So, generally the guidance that we’re giving today is consistent with our discussions at the end of Q1. There is some limited pre-opening favorable impact. The rents will adjust quarterly for the unopened period but again, relative to those six to eight stores, some of the other stores that are opening are opening a little bit later than we had originally planned so we’re having less store selling weeks. There will be some operating impact but not significant relative to the reduction we’ve given in the sales. And again, that sales estimate really was on the top end of the sales range and we’re just trying to again, manage the expectation there relative to the comp guidance that we’re providing as well.

Matt Nemer – Thomas Weisel Partners

Then I guess thinking about 09, any early indication for where we should be relative to the 08 number?

James F. Wright

We’re thinking at this point of time, it’s still subject to some change because we have not put the plans to bed, but kind of given the current conditions we believe that will be probably close to flat in units next year. Historically, the last four or five years now, we’ve been running at roughly a 13% unit growth rate. We think that we will stay flat with 90 to 95 units next year, is our current thinking. Now, having said that, if we find that things comes to us opportunistically, obviously we’re likely to change that number.

Matt Nemer – Thomas Weisel Partners

Then secondly, can you just talk about your performance in the OPE category during the quarter from both a growth and market share standpoint?

James F. Wright

The industry, I’m sure you’ve seen the reports, it turned out that once again, as the year went on, the industry continued to issues increasingly soft results. The industry is 11% to 12% down for the year. I’m not sure how we’re going to come out for the year due to the fact that its [inaudible] and we’re still selling in some parts of the country but I would say that market share for us in the higher price points we’ll probably be fine, Matt we may even gain some mid priced points. We may not be performing as well as overall industry but we really need to see the year end because it is not a good year and as Tony mentioned in his remarks we have worked now to decrease our dependability when it comes to profitability, not necessarily comp sales but in terms of profitability we have decreased our dependency on particularly riding lawn mowers in Q2.

Matt Nemer – Thomas Weisel Partners

Then lastly, can you talk to your marketing plans in the second half of the year given the election and the Olympics? Do you plan to be aggressive or a little bit quieter than normal?

James F. Wright

Our share of print and share of voice will be very, very similar to last year. The discretionary spend, market research, things along those lines we obviously have reduced as part of our project trim initiative. But, for the most part we’ll have the same number of events, maybe some greater emphasis on direct mail, perhaps a little less emphasis on television but, for the most part we’ll be, I guess, as nosey as we were last year.

Operator

Our next question comes from John Lawrence – Morgan Keegan.

John Lawrence – Morgan Keegan

Jim, would you comment just a little bit – congratulations on getting the costs cuts, can you talk about those cost cuts first half compared to second half would it be basically the same type of mix of those items that you talked about, the store expenses and marketing?

James F. Wright

The marketing, we had one non-recurring piece of marketing, right?

Anthony F. Crudele

Correct. Relative to the expense management, we would anticipate to be able to impact SG&A to the same extent other than that shift of the $1 million or that penny we talked about on the direct mail piece. So, we’ll see that shift into Q3 but other than that we believe that we’ll be able to manage expenses to the same extent that we did in the first half.

John Lawrence – Morgan Keegan

Secondly, just a product question. Greg, with I guess three summers now of tough outdoor power equipment sales, have you seen any correlation with more accessories, more belts, that type of things, people keeping mowers longer?

Gregory A. Sandfort

John, it’s ironic that you mention that because we forecasted early on in the year, actually last fall, that we felt that there could be a little bit of a downturn in unit purchase. Customers were going in to high end or very low end. But, we thought that there would be a ramp up in the accessories and the replacement parts and sure enough, that’s what happened. It didn’t come until later but, it has become fast and furious now since early part of May and we’ve seen nice improvement there in our business. So, yes, absolutely that is what we saw.

Operator

Our next question will come from Dan Wewer – Raymond James.

Dan Wewer – Raymond James

Tony, did you indicate that the extra day added a percentage point to same store sales on the quarter?

Anthony F. Crudele

That’s correct, 110 basis points.

Dan Wewer – Raymond James

Do you have a sense to what the EPS benefit was from that extra day?

Anthony F. Crudele

We could estimate but I would prefer to get back to you on it but, generally you would just extrapolate to the expense operating model.

Dan Wewer – Raymond James

$0.01 or $0.02 maybe?

Anthony F. Crudele

Yes.

Dan Wewer – Raymond James

Remind me, is that just an extra day for the year or does that come out of the first quarter?

Anthony F. Crudele

That did come out of the first quarter.

Dan Wewer – Raymond James

Greg, on the reduction in the inventories, down 12% per store, what did you have a year ago that you don’t have today?

Gregory A. Sandfort

Well, Tony mentioned it earlier in his remarks about the reduction in imports. What we did I guess a year ago was we got a little too aggressive with some of the hard line categories and we pushed a lot of them in to inventory early on. Of course, once you sit in a situation where you are overstocked, it takes you time to burn that off. So, as we worked our way through that, we’ve now right sized or deliveries and right sized inventories and that’s why we’re in much better shape. We really didn’t over buy, we bought more closer to need and we’re managing things on a month-to-month basis. We’re really watching the spend and placing our dollars where we see the business that’s open and developing and where it’s not, we pull back. We just have a much more disciplined approach now than we had in the past.

Dan Wewer – Raymond James

I recognize the pressures of inflation on the LIFO but at the same time, with a 12% reduction in inventory, you must be digging in to some of the lower cost LIFO layers. Is there actually some point where that would actually give you a LIFO contribution to earnings?

Anthony F. Crudele

Currently we’re not forecasting that. That could be a potential but the way that we project the LIFO expense, we try to maintain a reasonable percentage throughout the entire year versus match it specifically to each quarter and the impact of that quarter. So, several variables are impacted. Clearly, what we forecast as increases in prices, what we forecast the inventory to be all come in to play as far as determining the LIFO impact. But clearly, what I would say is that we feel that the current point in time that we have the proper reserves set up for LIFO and clearly dependent on the variables in the second half of the year will determine at what point in time additional charges or decrements need to occur.

Dan Wewer – Raymond James

I was thinking just the opposite given that you’re reading in to those lower LIFO layers. I think the last question I had, Greg on the [pat suit] category, can you talk about what kind of inflation rate or what kind of pricing you’re seeing per bag compared to a year ago?

Gregory A. Sandfort

I can give you one example, I’ll give you one on the birdseed category that we’ve seen. The cost have jumped about $7 or $8 per bag over a period of time. We made pricing adjustments but we didn’t make the adjustment all at one time. We were very cognoscente that could be shock to the consumer so we kind of stuffed it in on a month to every six week basis and finally brought it up to what we consider to be the new target at retail. By doing that, we actually preserved our unit sales to a large degree and I think the consumer understood that there’s inflationary pressures out there. So, we didn’t jolt them overnight, we really took a step-by-step approach and that’s worked well for us.

Operator

Our next question comes from Wayne Hood – BMO Capital Markets.

Wayne Hood – BMO Capital Markets

I just wanted to clarify Dan’s question for a second, Tony are you just saying that there will be no LIFO provision in third and fourth quarter, you’ll measure it at the end of the fourth quarter and then determine it? Then also for 09, given what you’re seeing in inflations, you would think you’d have some kind of credit or charge, not something that would be flat even throughout 09 given what you’re seeing with prices increases.

Anthony F. Crudele

No, what I’m saying for the second half is it will be [inaudible] through the second half. As we analyze a charge, we will have a ratable charge for LIFO. Relative year-over-year, it may be less than the prior year. Again, there are too many variables to estimate and we need to determine as we move through to the second half. As we move in to next year, we have to make that assessment but again, we’re always a judge – either very dependent on the yearend inventory balances and the thing that I think we are missing here is really taking a large, big enough, hard look at what we have set up. Intuitively, you may be sitting back looking at certain product categories that may be inflationary but, depending on how our baskets are set up and how they offset each other, have a significant impact on the LIFO reserve.

Wayne Hood – BMO Capital Markets

That leads to my next question I guess, out of the 3% comp that you had in that, looking at that basket, how much of it was drive by price increases versus unit?

Anthony F. Crudele

Generally, we try not to get in to a detailed discussion about an inflation calculation because of its subjectivity. When I look at inflation relative to the LIFO charge, there’s clearly as much as you would like to say that there’s a relationship there, there’s really a disconnect because there are different variables that are involved in determining the LIFO charge versus your inflation charge. Having said that, clearly the inflation impact had [inaudible], clearly we have been impacted from 1% to 1.5%. I would say as its moved through this year, its more than double that impact and represents somewhere between the 3% and 4% impact on retail prices.

Wayne Hood – BMO Capital Markets

Can we assume that kind of in to 09 as you’re looking at the vendors coming through with price increase for 09, a similar kind of thing?

James F. Wright

If you’re a vendor, I would say certainly not. The real question for us is and the wild card here is what happens to commodities and it looks like frankly we may have peaked or have some decline there. Steel is the wild card and obviously we bought a lot of our steel product for Q2 on last year’s base. As we are now beginning to renegotiate for next year we are seeing obviously the impact of what has happened with steel pricing over the last, well really since April 10th I guess when it really spiked. So, the answer to that is it really depends. We negotiate the price of commodities on almost a week-to-week month-to-month basis. We watch commodity prices, so do our vendors and steel we have to see what comes through as we begin negotiation for next spring’s steel intensive categories.

Wayne Hood – BMO Capital Markets

My last question Jim I guess is for you. You talked about 90 to 95 stores next year but if you add six to eight stores moving from 08 to 09 that would mean a step down I guess on the absolute numbers that we would have normally been opening. I mean, is it your view now that maybe this is going to be a little bit longer term and that you don’t mind, at least implicitly implied by this that you run with a lower rate or is there something more secular that you’re thinking about here?

James F. Wright

No, we’re just being somewhat cautious. I think 12% growth in today’s retail market probably would not be in anyone’s conservative scale, we feel it is. We feel it is the right path to set more opening new stores with the market as we understand it. If the market changes and building prices soften significantly in the markets we serve which has not happened here yet, we may choose to be opportunistic and accelerate beyond that 90 to 95 stores. We’ve also done a model where we’ve looked at the four to five year impact of slowing growth to 12%, 10% and 8% and frankly, unless we have an extremely short term focus on earnings, there’s a marginal benefit, a few pennies a share in year two three and then a significant drag on earnings year three and four to five forward. So, by bringing it down just a little bit, to I guess around a 12% growth we feel we have reached the right balance of fuse to [inaudible] if there’s an opportunity and of working our way through whatever consumer environment we may face in the next 12 to 36 months.

Operator

Our next question comes from Jay McCanless – FTN Midwest Securities.

Jay McCanless – FTN Midwest Securities

A couple of questions, first I wanted to start on the inventory, I guess the best way to term it is sort of the clutter reduction benefit, is that coming to an end now? I believe Greg you said earlier that you were comfortable now with store inventory levels accepting for the normal seasonal fluctuations?

Gregory A. Sandfort

Jay, that’s only one piece where we’re at. Am I satisfied or do I think we’re all the way through it? The answer would be no. I think there’s other pieces I should mention, one is the new planogram line review process really helps us do a lot of SKU rationalization right up front as we go through and change assortments moving forward so that in itself is already in play, we’re already starting to see the benefit of that. I would also tell you that as we look at each category of business right now we’re really trying to determine what is the absolute inventory level that we should operate at on a day-to-day basis. As we have seasonal fluctuations as we peak seasons and drop off in seasons one of the challenges that Stan and I both have with our team here is to understand what is the appetite? We like to do a lot more promoting from within our core assortments when we can and I’ll be honest with you, we probably have more opportunity here than we’ve taken advantage of and so there’s a lot of learning and that continues to bring inventory down as we run some promotions an offer the consumer some great buys.

We seem to blitz out of merchandise, I hate to say that but we’re selling out and selling through faster and if you talk to some of our store folks they would say that we need to be buying deeper but, we just don’t know right now with the new strategy cleaning those stores up and promoting from within and really rationalizing the SKU base, we’re all learning, we’re learning how high is high.

Jay McCanless – FTN Midwest Securities

That follows on to my second question which is with the amount of promotions that I got in my email this month and then also seeing it at the store levels, if you look at 2Q sales this year versus 2Q last year, what percentage would you say were full boat sales i.e. non-discounted? And, how did that change versus last year?

James F. Wright

Probably the best way to answer that question is that the merchandise margin line, we picked up 40 basis points while we cleared more old merchandise than in the prior year. So, if you add up the promotional activity that we had, the relative pricing that we employed to hopefully drive some more transactions, bear in mind that our burn rate on old heavy inventory was higher than last year, frankly I’m really pleased with the balance that we had and delighted with the fact that we ended up with a 40 basis point merchandise margin improvement.

Jay McCanless – FTN Midwest Securities

Then one more question if I could, with recent layoffs, etc. making the headlines, what are the trends that you’re seeing now for store level payrolls and store level hourly rates? Are you all able to pick up some of these people who are being laid off, etc. maybe pick up some more experienced folks at a cheaper rate? How should we be thinking about that going forward?

Stanley L. Ruta

We haven’t seen anything significant in the markets we serve in either at the hourly level or at the manager trainee level. It’s been pretty much the same.

Operator

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

James F. Wright

Thank you very much for being on board with us. We again, are extremely confident about the future. I’m personally very proud of the team and their ability to anticipate, execute very well, serve our customers during these times. Remind everyone that we have a very unique position in the marketplace. We serve rural America, we serve those who live the lifestyle and we truly are the category killer in providing the non-discretionary and basic needs to the growing number of people who live in that wonderful place we call out here. I’m looking forward to talking to you al next quarter. Take care.

Operator

Ladies and gentlemen this does conclude our conference call for today. You may disconnect and thank you for participating.

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Source: Tractor Supply Company F2Q08 (Quarter End 6/28/2008) Earnings Call Transcript
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