FRED
#Good morning, everyone.
Thank you for joining today's call to review Fred's Pharmacy's financial and operating results for the first quarter ended April 29, 2017.
Presentation slides to accompany this call are available in the Investor section of our website.
Before we begin, I'd like to remind everyone that management's comments during this conference call that are not based on historical facts are forward-looking statements.
These statements are made in reliance on the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 and are subject to uncertainties and risk.
It should be noted that the company's future results may differ materially from those anticipated and discussed in the forward-looking statements.
Some of these factors that could cause or contribute to such differences have been described in the news release issued earlier today, in the company's annual report on Form 10-K, and in other filings with the Securities and Exchange Commission.
We refer you to these sources for more information.
Lastly, I would like to point out that management's remarks during this conference call are based on information and understandings believed accurate as of today's date, June 6, 2017.
Because of the time-sensitive nature of this information, it is the company's policy to limit the archived replay of this conference call webcast to a period of 30 days.
With us this morning and sharing prepared remarks are Mike <UNK>, Chief Executive Officer; and Rick <UNK>, Executive Vice President and Chief Financial Officer.
In addition, Tim Liebmann, Chief Operating Officer of Pharmacy; Craig Barnes, Chief Operating Officer at Front Store; Mary Lou Gardner, Chief Merchandising and Marketing Officer; John Foley, Executive Vice President of Stores; and Jason Jenne, Senior Vice President of Finance, will be available during the Q&A.
This call is the property of Fred's Pharmacy.
Any distribution, transmission, broadcast or rebroadcast of this call for commercial purposes in any form without the expressed written consent of the company is prohibited.
With those remarks, I'll turn the call over to Mike <UNK>.
Thank you, Ben, and good morning, everyone.
Last December on my first conference call as CEO, I said to you that the entire team at Fred's is committed to applying resources and discipline to return to profitable growth.
At that time, we laid out a plan for operational improvement.
We said we would reset our base and optimize our store fleet so that our enhanced core can operate at its full potential.
We also said that we would upgrade our talent, our technology, supply chain and business processes.
We have done all of that and more.
I promoted 2 veterans, the Chief Operating Officer in health care and the Front Store.
And we made the strategic decisions to close underperforming stores and write off discontinued merchandise.
We have upgraded our technology in both pharmacy and Front Store with our new Enterprise Pharmacy System, OrderInsite and Vistaar in pharmacy and JDA for Front Store replenishment.
We've improved supply chain efficiencies by optimizing routes, inbound freight and store deliveries.
Simply put, the initiatives we announced then are now contributing to our operational and financial improvement.
Fred's is on track, and we are doing exactly what we said we would do.
Our transformation has resulted in 2 consecutive quarters of sequential improvement in our performance, excluding nonoperating items.
The entire leadership team remains focused on executing the strategy while capitalizing on opportunities to grow scripts, grow Specialty Pharmacy and drive traffic into our stores.
As a health care retailer in a very fast-paced industry, our job is never done.
But we do see 2017 as a year where our financial results will continue to catch up to our operational successes.
We are on track with our 2017 plan and doing exactly what we said we would do to optimize the Fred's Pharmacy business model and enhance value for our shareholders.
Our pharmacy business continues to deliver strong results.
In Specialty Pharmacy, we experienced our largest sales quarter on record and generated outstanding year-over-year growth.
In Retail Pharmacy, we continue to see positive script comps, which were improved over the fourth quarter of 2016 as well as versus the same period last year.
We expect all of the initiatives underway to result in continued improvement in our financial performance.
And we expect to be profitable on an operational basis by the end of fiscal 2017.
We implemented a number of exciting initiatives this quarter as we continue the optimization of our business.
In Retail Pharmacy, we focused on driving script volume through engaging with our customers in unique, creative and highly targeted marketing campaigns.
We are also driving results through our continued development and implementation of industry-leading technology solutions, providing our team with data visibility to more effectively manage the business.
In addition, we continue to improve the pharmacist-patient relationship, which is reflected in our positive script comps.
In the Front Store, we continue to focus on the strategies we developed in 2016 to improve sales, traffic and profitability while enhancing the shopping experience for our customers.
Through April, the comp sales of the 44 stores that were remodeled in 2016 with our new prototype are performing approximately 4% better than the chain average.
We are leveraging learnings around assortment and adjacencies from these stores, which will help inform our go-forward remodel strategy as well as identify opportunities that are being implemented across the rest of the chain in 2017.
At the foundation of everything that we are doing in the Front Store is the continued efforts around process improvement, building organizational capability, elevating talent and, of course, our focus on the customer.
We are investing in analytical tools, like Kantar Retail, ACNielsen and Market Track, to help our category management and marketing teams make better, more informed, customer-focused decisions.
And we are in a second phase of detailed customer insight study.
Our goal is to leverage these insights to help drive customers into our stores.
In May, we continued to deliver on our 2017 goals and execute our health care transformation.
We saw substantial momentum in our Retail and Specialty Pharmacy businesses during May, including total comparable store sales increasing 80 basis points compared with the prior year.
While we are laser-focused on the core Fred's business, we continue to work collaboratively with Walgreens, Rite Aid and the Federal Trade Commission to obtain the FTC's approval of the divestiture of certain Rite Aid assets to Fred's Pharmacy in connection with Walgreens' pending acquisition of Rite Aid.
As we have previously disclosed, Fred's Pharmacy remains committed to purchasing additional assets, including up to 1,200 Rite Aid stores, to the extent necessary to obtain the FTC's approval of the transaction.
Completion of the transaction is subject to approval by the FTC as well as other customary regulatory approvals and closing conditions.
We remain optimistic in our ability to receive FTC approval.
And we expect that acquiring the Rite Aid stores in these highly attractive markets will further accelerate our health care growth strategy.
We also made great progress with our Board reconstitution during the quarter with 5 new highly qualified directors joining the Board.
The 5 new directors are: Tim Barton, Pete Bocian, Chris Bodine, Linda Longo-Kazanova and Steve Rossi.
We have already begun to leverage many of the directors' unique experiences and skill sets to help guide the Fred's Pharmacy transformation.
We're also excited by the opportunity for these directors to contribute to our planning process for the integration of the Rite Aid assets as well as the core Fred's business.
Each brings a unique background in specific areas, such as finance, human resources, technology, integration, supply chain, retail pharmacy, specialty pharmacy and health care services, that will contribute to this important process as we transform Fred's Pharmacy.
I cannot stress enough the role the refreshed Board is playing in our ongoing transformation and will play in the forthcoming integration of the divested stores from the Rite Aid transaction.
We look forward to executing our growth plan and delivering value for all of Fred's Pharmacy shareholders.
Our investments to create a workplace that our team members are proud of have also paid off.
We continue to see the positive effects of this investment by the reduction in store manager and team member turnover and improved overall employee engagement.
These results have reaffirmed our decision to raise salaries for store managers and pay our employees' health care premium increases in 2017 to ensure that we are competitive in the marketplace and enabling us to recruit and retain individuals who are invested in providing the best experience for our customers.
We are excited about what we have accomplished this quarter and optimistic about 2017 and beyond.
Based on the many discussions that we have had with shareholders over the past couple of quarters, the feedback we have received on our plans, our strategy and where this company is going has been positive.
We are confident that we have the right team and the right strategy in place to drive long-term growth and value creation.
And we look forward to continuing to update everyone on our progress.
With that, I would like to turn the call over to Rick to take you through our first quarter earnings results.
Thank you, Mike, and thank you, everyone, for joining us today.
For the first quarter, net sales decreased 3.1% to $532.3 million from $549.5 million in the first quarter of 2016.
Comparable store sales for the quarter declined 1.2% versus a 1% increase in comparable store sales in the first quarter of last year.
Comparable store sales in the first quarter of 2017 included a negative 1.4% impact as the result of the sale of low productive discontinued inventory versus the first quarter of 2016.
Excluding the impact of discontinued inventory, comparable store sales for the quarter were slightly positive.
Fred's net loss for the first quarter totaled approximately $36.5 million or $0.98 per share, which included the following notable charges totaling $45 million or $0.92 per share: $14.6 million or $0.39 per share after tax for a valuation allowance against the company's deferred tax asset, resulting from the pretax loss created primarily by the following charges in the quarter; $16.9 million or $0.29 per share after tax for professional and legal advisory fees incurred in connection with the proposed acquisition of Rite Aid stores, the development and implementation of the company's growth strategy and other professional and legal advisory fees; and $13.5 million or $0.24 per share after tax for lease liability impairments and other expenses pertaining to the closing of approximately 39 underperforming stores.
Fred's first quarter loss compares to net income of $1.3 million or $0.03 per share for the first quarter of 2016.
Fred's gross profit for the first quarter of 2017 decreased 6% to $132.9 million from $141.3 million in the prior year period.
Gross profit margin for the quarter decreased 70 basis points to 25% from 25.7% in the same quarter last year.
The gross margin rate decrease was driven by markdowns recorded for underperforming stores closed in 2017.
Fred's recorded LIFO reductions of $1 million in the first quarter of 2017 compared with increases of $900,000 in the same quarter last year.
Selling, general and administrative expenses for the quarter, including depreciation and amortization, increased to 31.4% of sales from 25.3% of sales in the prior year quarter.
Most of the increase in expenses was attributable to professional and legal advisory fees incurred in connection with the proposed acquisition of Rite Aid stores and the development and implementation of the company's growth strategy.
We were pleased with the operational SG&A expense reduction in the quarter, which is a part of our plan to continually improve.
For the first quarter of 2017, operating loss, which is equivalent to earnings before interest and taxes or EBIT, a non-GAAP financial measure, decreased to a loss of $34.2 million or 6.4% of sales compared with an operating income of $2.4 million in the same quarter last year.
For the first quarter of 2017, EBITDA, a non-GAAP financial measure that further excludes depreciation and amortization from EBIT, was a loss of $22.6 million compared to EBITDA of $14 million for the first quarter of 2016.
First quarter EBITDA included charges totaling $30.4 million, including: $16.9 million for professional and legal advisory fees incurred in connection with the proposed acquisition of Rite Aid stores, the development and implementation of the company's growth strategy and other professional and legal advisory fees; and $13.5 million for lease liability impairments and other expenses pertaining to the closing of approximately 39 underperforming stores.
In closing, I firmly believe the steps we are taking to position Fred's Pharmacy for the future are the right financial steps at the right time for our company and our shareholders.
I'll now turn the call back over to Mike.
Thanks, Rick.
Turning to our Retail Pharmacy business.
We are pleased to report that Total Pharmacy sales increased 3.3%.
Comparable store prescriptions adjusted for 90 days increased 30 basis points in Q1.
And our generic dispensing rate increased by 100 basis points year-over-year.
In the first quarter, we have been focusing our attention at the local market level to ensure a consistent and outstanding experience for every customer at every store each and every time they visit a Fred's Pharmacy.
We are continuing to build patient relationships, leverage our talent, utilize our technology and engage with our supplier partners to enhance our customer experience and continue to improve our financial performance.
The implementation of Vistaar's Retail Pharmacy Pricing Solution continues to progress and when fully implemented will assist us in remaining competitive with our usual and customary pricing of generic and brand-name drugs.
Related to the 340B program, we are partnering with local hospitals to enable our stores to provide access to affordable prescriptions to further our commitment to helping eligible patients in our markets.
We now have 340B in 70 Fred's location and are continuing to focus on additional 340B relationships with eligible hospitals and clinics in our markets.
We expect to double the number of stores offering 340B by the end of the fiscal year.
Furthermore, we are continuing to execute a variety of highly focused marketing campaigns to drive new patients into our stores; continuing to reduce pharmacy inventory, which is down 10.8% over last year; continuing to drive expansion of our generic dispensing rate, which is up 100 basis points to 89.6%; investing in another new market-leading business intelligence tool that provides real-time data to our pharmacists; and partnering with local hospitals, clinics and health care systems to be their partner of choice in health care services and Retail Pharmacy.
These initiatives and many others we are implementing in Retail Pharmacy will continue to improve the patient experience, drive top line sales and script comps and increase overall pharmacy profitability.
Turning to Specialty Pharmacy.
2017 is set to be a year of growth for our Specialty Pharmacy business.
And we began to see that in the fourth quarter of last year and now again in the first quarter.
We are accomplishing this growth by elevating our talent, investing in technology, expanding the Specialty sales force and diversifying the Specialty portfolio of therapies.
We experienced record total sales in the first quarter as well as a record 24% comp sales growth.
In the Specialty business, we are laser-focused on accountability and the execution of our plan.
The success we are having in Specialty is a testament to: growing sales in new geographies, including 8 new states we entered over the last year; rapid growth in therapies other than hepatitis C, including multiple sclerosis, growth hormone, hematology and immunology, notably we are still growing double digits in hepatitis C despite market declines; our continued focus on deepening our relationships with our pharmaceutical manufacturers; converting much of our external reporting from manual to new technology solutions; and most importantly, continuing our high level of patient care.
Our health care services model is also beginning to take hold as we have strategic partnership discussions about clinical services with the health care institutions in our markets.
Pharmacists are the most trusted health care resource, and we plan to leverage this dynamic as we continue to identify opportunities with our partners to create and expand health care services.
We are confident that these strategies will continue the pace of growth in our health care, Retail and Specialty Pharmacy businesses.
Moving to the Front Store.
First quarter sales and traffic were negatively impacted by headwinds we are facing in the very competitive consumable categories.
However, we are very encouraged by the positive comp sales we saw in our general merchandise division in the quarter.
We remain focused on implementing a number of growth initiatives in order to deliver sales and margin improvement in the Front Store.
These include pricing optimization across the entire store with a focus on enhancing our own-brand pricing strategy; assortment upgrades, replacing slow-moving products with new to Fred's products in both national brand and own brand that are top sellers in our markets, which are currently not carried in our stores; improving out of stocks by leveraging our new JDA replenishment and allocation system to raise service levels on key items and ensure availability at shelf; in addition, we have a new program for our top 200 items with the goal of always being in stock; executing storewide clearance events to accelerate the sell-down of unproductive inventory; reducing our cost of goods through exclusivity agreements, e-auctions and expanding our direct imports; remerchandising the entire cosmetics section to elevate the shopping experience for our customers and adding the key brands that she wants; and the rollout of beer and wine to approximately 70 stores in the second quarter of 2017.
All of these initiatives are supported by a consumer insight study, which has provided greater visibility into the drivers of Fred's Pharmacy brand.
This study has allowed us to understand the competitive strengths of Fred's as well as the opportunities we have to add value and reach our customers more effectively.
In closing, I'm extraordinarily proud of the company Fred's Pharmacy is becoming and the steps we are taking to transform ourselves into a national healthcare provider.
We are focused on diversifying and optimizing our assets to improve performance and cash flow.
We anticipate continued operational improvement throughout 2017 as the initiatives underway continue to deliver results.
And as a result of our initiatives, we expect to be profitable on an operational basis by the end of fiscal 2017.
In large part, we are on track with our 2017 plan and doing exactly what we said we would do to optimize the Fred's Pharmacy business model and enhance value for our shareholders.
Lastly, I would like to take this opportunity to thank the more than 10,000 Fred's team members for their commitment to our customers and to patients.
And with that, I'd like to open the call up for questions.
Sure, <UNK>.
It's Mike.
I'll start with that, and then Craig and Mary Lou can jump in if they want.
So like we said, we're experiencing about 400 basis points improvement in those stores.
If you recall, we've expanded on our core health and beauty aids in those stores as well as we've really improved the shopping experience.
We've widened the aisles.
We've lowered the gondolas.
The adjacencies are different.
The checkout is different.
It's just a better shopping experience.
And so we've remodeled 44 plus, I think, there's a few new stores that have the same model.
We expect to accelerate that the back half of this year.
One of the things we did, which I thought was prudent, was we remodeled these stores, we paused, we evaluated, we made a couple of tweaks, and then we start going again.
So from a competitive perspective, <UNK>, in our markets, we've got all the competitors you can think of.
But there's nothing special about these stores from the other stores.
We've been in all types of markets.
As a matter of fact, the first group of stores we selected to remodel, we chose stores that would represent the chain so that we could get a good flavor of whether this model was working across the board.
So I feel pretty good about where we're heading with that.
And as you know, with remodels and updates in retail, you're never really done.
You continue to evaluate.
You continue to tweak.
And we'll do that forever.
But we're pretty pleased with it.
And again, like I said, we'll accelerate in the back half of this year.
Yes, it's interesting.
What we're seeing in consumables ---+ and when we talk about consumables, it's primarily the food and beverage categories along with, I think, we have tobacco in that number as well.
There are ---+ you read about it, I read about it.
There are food wars going on in the industry.
You read about with the various retailers in all markets.
So we're evaluating that.
I do think we came off of a pretty soft third and fourth quarter last year in those businesses.
So we will lap that, you're right.
So we will ---+ we'll be up against some fairly light comps in consumables for the back half of the year.
But I'll tell you, the team here has done a really strong job with assortment, promotional.
We're seeing some growth in our beverage business specifically the last several weeks.
So our in-stocks are better.
So I think we're feeling like we'll come out of this.
But I'm a little optimistic about it, but we're cautious.
<UNK>, let me start out.
It's Rick.
On the forecasting, we've decided at the moment not to be giving out guidance both on the bottom line and on the comp basis.
We've stated in the call earlier that we do expect our performance to improve throughout the year.
So I think you can read something into that regarding comps or our feeling about comps, but we haven't given any specific comp forecast.
Okay.
I mean, all good questions, <UNK>.
Let me just try to characterize it in a broad way.
On the call a minute ago, we did outline again that we feel good about the remainder of the year in our trend there.
And we did call out the ---+ obviously, you saw the GAAP numbers and some of the charges that are included in that.
Some of those are related to the deal and they're pretty sizable.
But all of that, if you look at that in that perspective, we feel good about the operational performance of the company.
And that will play through up the income statement.
And so with regards to margins, we have talked about improving the margins in the front end.
The margin in the pharmacy, Retail Pharmacy, we expect to improve, but it has the impact to Specialty now.
So in that case, we're more focused on gross margin dollars than we are the margin percentage.
And in the end, that's really all that matters to investors.
So with SG&A, regarding the increases in payroll, and we did mention the impact of the insurance benefit that we gave to all of our employees, it will impact SG&A for the rest of the year.
But I think we baked that into our thinking, and we do expect that the margins will more than offset that.
Yes, <UNK>, that really goes back to my prior comment.
The margin in Specialty is in the mid-single digits as it is for everybody.
And we understand that.
We got in that business eyes wide open.
Again, we generate gross margin dollars though.
And those are more than offset the SG&A dollars related to that business, so that's a good business for us to be in.
So not that overly concerned about that issue because we are, in fact, more focused on the dollars than the percentages.
Yes, sure.
It's Mike, Greg.
So we expect somewhere in the 25 stores in the back half of the year.
Like I said, it's important to note that we took a little pause to make sure that what we were doing was right, was performing and we had the right strategy and execution model and we do.
And so now we're going to ---+ there's 6 months left in the year.
We'll do 25 stores between now and the end of the year.
You know what we run up against, there's some seasonal times, where we like to slow down during the holiday season, specifically November, December.
So there's really ---+ what is it.
Like 4 or 5 months available for us to really ramp that up.
And we will, so 25 stores.
