EUR 850.00 For Business Accounts Only

Morningstar | ONETractor Efforts Continues to Drive Traffic to Tractor Supply, Leading to Improved Profitability

Narrow-moat Tractor Supply remains one of retail's most stable business models, helped by product differentiation (exclusive brands represent more than 30% of sales) and relatively insulated from Amazon given its idiosyncratic product mix (the livestock and pet segment make up about half of sales). With the ability to pursue square footage growth as the namesake store base expands to 2,400 from around 1,700 over the next decade, we believe Tractor Supply could post some of the best top-line increases among retailers. However, with a growing store base comes investment, in locations and distribution, which could temper operating margin growth to average around 8% over the same time frame. While unlikely, Tractor Supply could further leverage up its balance sheet to provide cash for faster repurchases, but the current level of repurchases we have embedded in our model lead to 15% average EPS growth over the next five years.

The firm put up solid same-store sales of 5.6% in its second quarter, driven by 3.7% same-store ticket and 1.8% same-store transaction increases. This led the top line to rise 10%, to $2.2 billion versus the 6% growth we modeled. However, the full-year sales outlook is still in line with our $7.7 billion estimate (with guidance raised to $7.77 billion-$7.8 billion from $7.69 billion-$7.77 billion previously), and the full-year net income, comp, and EPS outlook have moved up in line with second-quarter outperformance. With no changes to our model outside of incorporating second-quarter results (given that the back half of 2018 should be unchanged), comps, 2018 net income, and EPS would rise to 3.3%, $510 million, and $4.12, respectively, in line with Tractor Supply’s updated outlook for 3%-5% in comps (from 2%-3% prior), $505 million-$517 million in net income ($490 million-$515 million), and $4.10-$4.20 in EPS ($3.95-$4.15). In this vein, we don’t plan any material change to our $84 fair value estimate, and we view shares as fairly valued.

Cost line items were largely in line with our expectations, with the gross margin contracting just 16 basis points to 34.8% versus our 35% forecast, as the company felt pressure from rising freight expenses via higher carrier rates as well as higher fuel prices, a factor we’ve heard arising as a major headwind from most public consumer companies in recent weeks. Rising inflation also tends to act as a headwind for gross margin, but did provide a 75-basis-point lift to the comp this quarter, something we could see more of ahead. The selling, general, and administrative ratio deleveraged 30 basis points mostly on higher compensation and IT and distribution investments, spending that was largely anticipated and just modestly better than the 20.6% we forecast. All in, and with our outlook for second half unchanged, the company should still be able to deliver operating margin performance around 9% in 2018 (versus our long-term target that reaches around 11%).