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    The Pantry to Invest in IT, On-the-Go Meals

    Chain sees Q4 net income fall, while annual results increase significantly.

    CARY, N.C. -- On the same day it reported weak fourth-quarter results, The Pantry Inc.'s new president and CEO Terrance M. Marks revealed the convenience store chain will invest in new information systems and comprehensive, on-the-go meal solutions in the coming year.

    "The current environment has impacted discretionary spending and has forced consumers to be more value conscious, no doubt, and we face a challenging economic climate today," said Marks, who joined the company at the end of September. "Consumers are constrained by two things: their budget and time. Time starvation is a long-term mega trend that is not going away, and the convenience retail channel is uniquely positioned to capitalize on the need to conserve time. Now, more than ever, consumers are clear about what they want from their shopping experience," he said in a conference call yesterday.

    With a footprint of more than 1,650 stores "located in some of the best markets in the growing Southeastern United States," Marks said The Pantry has "an inherent structural advantage vs. many of its competitors, regardless of format. With all of this said, we must do a better job going forward of leveraging these advantages to better serve our customers and create more value for our shareholders."

    To do this, the retailer will focus on three areas of improvement throughout 2010 -- information systems, on-the-go meals and capital allocation, Marks said.

    The ability to meaningfully improve in-store performance requires the chain to tailor its go-to-market approach on a store-by-store basis, which means having a better understanding of the drivers of demand down to the SKU level, the CEO said.

    As a first step to building its business intelligence capabilities, the retailer implemented a wide-area network across its store base, and is in the process of rolling out an enhanced point-of-sale (POS) system that captures market basket and item-level data. To date, 400 stores have the new POS, with the rollout expected to be complete by next summer.

    To better leverage its pricing and margin strategy, the chain will create up to 300 separate pricing zones by the end of this next fiscal year. "This is a major component of enterprise-wide improvements to optimize store-level returns," Marks said.

    A second focus will be meeting consumers' on-the-go food needs.

    "Many of our stores could use a refresh. However, we believe a refresh is not enough. We're committed to developing more comprehensive, on-the-go meal solutions focused on breakfast, lunch and snacks. Frankly, we're doing a poor job of capitalizing on this opportunity," Marks acknowledged during yesterday's Webcast.

    To that end, The Pantry plans to add 25 new, nationally branded foodservice locations to existing stores, mostly Subway. "This represents an acceleration [of our branded strategy] compared to last year, when we added 10 of these locations," he noted.

    The company also will develop an expanded proprietary menu -- with a principal focus on sandwiches, wraps and fruit -- that complements the quick-service restaurants it partners with; requires little additional in-store labor; and doesn't force consumers to choose between something that's healthy, convenient or presents a value.

    In concert, The Pantry will invest in the condition of its stores.

    "We want to communicate clearly to the shopper that we are in the foodservice business. Today, in our stores, that's not the case. With the assortment we're offering and our store layout, you would have to go to several areas of the store to assemble a meal."

    Store reimaging concepts focused on foodservice will be developed and tested. "We will pilot, monitor consumer response and refine the concept accordingly. As soon as we have found a winning formula, we will move quickly to commercialize it," Marks said.

    He believes the overwhelming majority of The Pantry's stores will offer the enhanced proprietary food program, which will be scalable to all store sizes. "The key is to have a core that our shoppers respond favorably to," he said.

    There is a significant opportunity to clean up shippers and other clutter as well, which will open additional square footage to expand on-the go food, Marks added.

    The new CEO also wants to see more private label items, beyond the new foodservice program. "Private label is now a relatively small portion of our mix," he said. "And there is a lack of consistency between our private label offer and the name on most of our stores. We need to determine what categories we need to be in private label. There are certain categories in which private label can perform quite well, and others where it is more structurally challenged. But those decisions are center of plate for us right now."

    In terms of capital allocation -- the third focus for this coming fiscal year -- company executives said store growth through acquisitions and new construction will continue to play a role in the chain's long-term growth. "But we believe the clearest investment opportunity before us is our own stores," Marks explained.

    During fiscal 2009, The Pantry acquired 41 stores, opened three new stores and closed 24 stores for a net increase of 20 stores. The retailer ended the year with 1,673 stores. Only one new store is expected to open in fiscal 2010.

    "No doubt, we face a challenging environment, and we have some work to do. But I am absolutely convinced that a disciplined focused and better meeting customers' needs will result in profitable growth and superior long-term financial returns," said Marks.

    Fourth Quarter and Fiscal 2009 Results
    Also during yesterday's Webcast, Executive Vice President and CFO Frank G. Paci presented The Pantry's fourth quarter and fiscal 2009 financial results.

    In the fourth quarter, the c-store chain realized net income of $13.3 million, compared with $22.9 million the prior year. Fourth-quarter earnings before interest, taxes depreciation and amortization (EBITDA) was $70.6 million vs. $87.4 million a year ago. Retail fuel margin per gallon was 14 cents, down from 19.2 cents a year ago.

    The news for the full fiscal year was better, with fiscal 2009 net income coming in at $59.1 million, an 86-percent increase from $31.8 million in fiscal 2008. EBITDA was $280.2 million, up 13.3 percent, from $247.2 million in fiscal 2008. Retail fuel margin per gallon for the year was 15 cents, compared with 12.4 cents a year ago. Net cash provided by operating activities was $169.4 million, up 7.6 percent from $157.5 million in fiscal 2008.

    "Our fourth-quarter results were strong but below a year ago, primarily due to an abnormally favorable gasoline market in the fourth quarter of last year," Paci said. "While we faced significant headwinds from a soft economic environment and increased tobacco taxes, an above-average gas margin and continued tight expense controls enabled us to report sharply higher earnings for the year."

    Merchandise revenues for the fourth quarter increased 3.8 percent overall, and 1.6 percent on a comparable-store basis. Merchandise gross margin was 34 percent, compared to 34.7 percent for the quarter a year ago, primarily reflecting increased taxes on cigarettes and other tobacco products. Total merchandise gross profit for the quarter was $152.5 million, up 1.9 percent.

    For the full year, merchandise revenues totaled approximately $1.66 billion, up 1.4 percent overall and unchanged on a comparable-store basis. Merchandise gross margin for the year was 35.4 percent, vs. 36.4 percent in fiscal 2008. Total merchandise gross profit for fiscal 2009 was $587.1 million, down 1.4 percent from the prior year.

    At the pump, retail gasoline gallons sold in the fourth quarter were up 4.6 percent overall and 1.4 percent on a comparable-store basis. Retail gasoline revenues for the fourth quarter were down 33.3 percent, reflecting a 36.3-percent drop in the average retail price per gallon, from $3.85 to $2.45. Total gasoline gross profit for the quarter was $78 million, down 23.8 percent from a year ago.

    For the full year, retail gasoline gallons sold were approximately 2.08 billion, down 1.2 percent overall and down 3.3 percent in comparable stores. Gasoline gross profit for fiscal 2009 totaled $313.7 million, up 19.3 percent from the prior year.

    Total store operating and general and administrative (G&A) expenses for the fourth quarter were $160 million, down 3 percent from a year ago. For the full year, store operating and G&A expenses totaled $620.9 million, up 1.4 percent from fiscal 2008.

    In a statement, The Pantry said it believes its liquidity position remains excellent, with $169.9 million in cash on hand and approximately $142 million in available capacity under its revolving credit facilities as of Sept. 24, 2009.

    Looking ahead to the 53-week fiscal 2010, the company's expected performance (excluding potential acquisitions) includes merchandise sales of $1.76 billion to $1.82 billion; retail fuel gallons sold of 2.17 billion to 2.22 billion; merchandise gross margin of 33 percent to 34.5 percent; and retail fuel margin per gallon of 11 cents to 13 cents.

    The conservative guidance on fuel margin is based on soft margins in the first part of the new fiscal year -- around 9 cents per gallon, according to Marks.

    The cigarette category has seen a decline in margin, due to tax increase, and a change in the mix of items sold, which is causing the majority of margin erosion, he added.

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