Family Dollar Stores (FDO)

F1Q11 Earnings Call

January 5, 2011 10:00 a.m. ET

Executives

Kiley Rawlins – VP, IR and Communications

Howard Levine – Chairman and CEO

Ken Smith – SVP and CFO

Jim Kelly – President and COO

Analysts

Dan Wewer – Raymond James

Adrianne Shapira - Goldman Sachs

Vincent Sinisi - [BAM Maryland]

Meredith Adler – Barclays Capital

Charles Grom – JPMorgan

Scot Ciccarelli – RBC Capital Markets

Patrick McKeever – MKM Partners

Deborah Weinswig - Citigroup

Joseph Parkhill – Morgan Stanley

Presentation

Operator

I would like to welcome everyone to the Family Dollar earnings conference call. [Operator instructions.] I would now like to introduce Ms. Kiley Rawlins, vice president of investor relations and communications. Ms. Rawlins, you may begin your conference.

Kiley Rawlins

Thank you operator and good morning everyone. Thank you for joining us today. Before we begin, you should know that our comments today will include forward-looking statements regarding various operating initiatives, sales and profitability metrics, and capital expenditures, as well as our expectations for future financial performance.

While these statements address plans or events which we expect will, or may, occur in the future, a number of factors as set forth in our SEC filings and press releases could cause actual results to differ from our expectations. We refer you to, and specifically incorporate, the cautionary and risk statements contained in today’s press release and in our SEC filings.

You are cautioned not to place undue reliance on these forward-looking statements, which speak only as of today, January 5, 2011. We have no obligation to update or revise our forward-looking statements except as required by law, and you should not expect us to do so.

With me on the call this morning are Howard Levine, Chairman and CEO, Jim Kelly, President and COO, and Ken Smith, Chief Financial Officer. We will begin our discussion this morning with a review of our results for the first quarter of fiscal 2011. Then we'll take a few minutes to discuss our plans and outlook for the rest of the year.

Following our prepared remarks, you will have an opportunity to ask questions. In consideration of others on the call, please limit your time to one question and one followup question if necessary. Remember that the queue for the question and answer session will not be available until after we have finished our prepared remarks.

Now I'd like to turn the call over to Ken Smith. Ken?

Ken Smith

Thanks Kiley, and happy new year everyone. This morning we reported sales and earnings results for the first quarter in line with the guidance we provided at the end of fiscal 2010. As expected, net sales increased 9.5% to just under $2 billion, and diluted earnings per share increased 18.4% to $0.58.

Reflecting the impact of investments we are making to drive revenues, comp sales increased 6.9%. Similar to the trend we saw throughout fiscal 2010, customer traffic continued to be the primary driver of sales.

During the first quarter we opened 85 new stores and closed 18 stores, compared with 43 openings and 33 closings in the first quarter of fiscal 2010. We are well on our way to meeting our plan of 300 new stores this year, a 50% increase over last year.

Taking a look at sales by category, we continued to build momentum in all merchandise categories. However, sales of consumables continued to be the greatest driver of sales this quarter, reflecting double-digit growth in food. As a result, consumables increased to 67.9% of sales in the first quarter, compared with 67% of sales last year. As a reminder, in the second half of fiscal 2010, we expanded our assortment of grocery items, adding a number of national brands.

While sales came in at the upper end of our expectations, gross margin was pressured a bit more by merchandise mix than we originally planned. Gross margin as a percentage of sales declined 10 basis points in the first quarter to 36% of sales, compared to 36.1% last year.

This modest decline in gross margin was primarily a result of strong sales of lower margin consumable merchandise, especially national brands and higher freight expense. We continue to reinvest many of the benefits from our global sourcing and private brand investments to enhance the quality and appeal of our assortment. And of course, diesel costs continue to be volatile, reversing many of the tailwinds we saw last year.

The pressure from mix and higher freight expense was mostly offset in the quarter by lower inventory shrink. I would note that this is the ninth consecutive quarter of shrink improvement. I'm also pleased to report that our team did a good job managing core operating expenses this quarter. As a percentage of sales, SG&A expense decreased 15 basis points during the quarter, reflecting the effect of the 6.9% comp increase in the quarter and our continued focus on driving productivity improvements.

Most expenses, including occupancy costs, were leveraged in the quarter. These improvements were partially offset by investments related to expanded store operating hours, store renovations, and increased marketing efforts. In total, these investments pressured SG&A expense by about 90 basis points during the quarter.

The effective tax rate during the quarter was 37.3%, compared with 36.6% last year. The increase in the effective tax rate was due primarily to a decrease in federal jobs tax credits.

Let me conclude our discussion of first quarter results with a review of some additional financial highlights. Starting with inventory, average inventory per store at the end of the quarter was about 8% higher than last year. This increase reflects our ongoing efforts to improve in-stocks, as well as our investments to support the expansion of key consumables categories. I would note that we continued to manage inventory levels and more discretionary categories well.

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