Tractor Supply Company — 2017 Q2 Form 10-Q Summary
Business context and reporting period
Tractor Supply Company operates rural lifestyle retail stores and sells related products through stores and TractorSupply.com. As of July 1, 2017, it operated 1,790 stores in 49 states: 1,630 Tractor Supply and Del’s stores and 160 Petsense stores. The filing covers the fiscal quarter and six months ended July 1, 2017, compared with June 25, 2016. The interim financial statements are unaudited.
Key financial metrics
| Metric | Q2 2017 | Q2 2016 | Six months 2017 | Six months 2016 |
|---|---|---|---|---|
| Net sales | $2.018 billion | $1.853 billion | $3.582 billion | $3.320 billion |
| Gross profit | $704.7 million | $649.2 million | $1.223 billion | $1.144 billion |
| Gross margin | 34.9% | 35.0% | 34.1% | 34.4% |
| Operating income | $257.9 million | $249.2 million | $354.3 million | $357.4 million |
| Net income | $160.6 million | $156.4 million | $221.0 million | $224.1 million |
| Diluted EPS | $1.25 | $1.16 | $1.70 | $1.66 |
| Operating cash flow | Not separately provided | Not separately provided | $227.5 million | $278.2 million |
Q2 operating margin was approximately 12.8%, compared with 13.5% in the prior-year quarter. Six-month operating margin was approximately 9.9%, compared with 10.8%. Q2 net margin was approximately 8.0%, compared with 8.4%; six-month net margin was approximately 6.2%, compared with 6.7%.
At July 1, 2017, cash and cash equivalents were $67.8 million, inventories were $1.468 billion, working capital was $824.0 million, and total assets were $2.816 billion. Total debt, net of issuance costs, was $453.7 million, including $455.0 million of outstanding borrowings before issuance costs. Outstanding letters of credit were $44.3 million.
Capital expenditures were $96.6 million in the first six months, compared with $101.0 million in the prior-year period. The Company paid $65.9 million of dividends and repurchased $248.1 million of common stock during the first six months. Cash increased by $13.9 million from year-end to $67.8 million.
Material changes versus the prior comparable period
- Q2 sales increased 8.9%, while six-month sales increased 7.9%. Q2 comparable-store sales increased 2.2%; six-month comparable-store sales increased 0.2%.
- Q2 net income increased 2.7%, but six-month net income declined 1.4%. Diluted EPS increased because the weighted-average share count declined following substantial repurchases.
- Gross margin declined 10 basis points in Q2 and 30 basis points for the six months. Management attributed the pressure to higher freight expense, increased diesel prices, freight-intensive product mix, markdowns on cold-weather merchandise, and promotional activity.
- SG&A, including depreciation and amortization, increased 11.7% in Q2 and 10.5% for the six months. The expense ratio increased 50 basis points in both periods due to higher payroll, technology and infrastructure investments, and the integration of Petsense.
- Operating cash flow declined $50.7 million, primarily because of timing-related changes in accrued expenses, inventory and accounts payable.
- The Company opened 38 Tractor Supply stores and 17 Petsense stores during the first six months. The consolidated store count increased from 1,542 at the prior-year comparison date to 1,790.
- Debt increased from $273.9 million at December 31, 2016 and $196.2 million at June 25, 2016 to $453.7 million at July 1, 2017. The increase included a new $100 million June 2017 term loan and higher revolver borrowings.
Guidance, outlook, risks and unusual items
- Management expected the full-year 2017 effective tax rate to be approximately 36.8%.
- Management expected to open approximately 100 new Tractor Supply stores and approximately 25 new Petsense stores during fiscal 2017.
- The Company expected to begin construction of a northeast distribution center in Frankfort, New York, in the second half of fiscal 2017, with operations expected by the end of fiscal 2018.
- Management stated that existing cash, operating cash flow, available debt capacity, leases and trade credit should fund operations and capital needs through fiscal 2017.
- The Company was in compliance with its debt covenants at July 1, 2017. The unsecured credit facilities included a $500 million revolver, a February 2016 term loan and a $100 million June 2017 term loan. Interest-rate swaps were used to mitigate variable-rate exposure.
- Key risks include consumer spending, weather and seasonality, competition including online retailers, product-cost and freight volatility, execution of store expansion and technology initiatives, Petsense integration, supply-chain disruption, employee retention, information-security incidents, regulatory and legal matters, tax-rate volatility and changes in accounting standards.
- The Company settled an environmental matter in Yolo County, California. The civil penalty and supplemental environmental project costs were not expected to materially affect financial position, results of operations or cash flows.
- The Company adopted several accounting updates in fiscal 2017, including ASU 2016-09 for share-based compensation. Revenue recognition guidance was scheduled for adoption in the first quarter of fiscal 2018 and was not expected to have a material impact. Lease accounting impacts were still being assessed.
Most important facts for investors to verify
- Whether comparable-store sales and margins improved after the Q2 weather and seasonal pressures.
- Whether Petsense integration and higher payroll, technology and freight costs continue to pressure SG&A and operating margins.
- Debt repayment, revolver utilization, interest expense and compliance with the fixed-charge coverage and leverage covenants.
- Inventory growth, working-capital requirements and the conversion of operating earnings into cash flow.
- The pace, cost and returns of planned Tractor Supply and Petsense store openings and the new distribution center.
- The sustainability of share repurchases and dividends given increased borrowings and lower cash balances.
- Progress on revenue-recognition and lease-accounting implementation, as well as any changes in legal, environmental, tax or information-security exposures.