The Fresh Market Q2 Earnings Call Transcript

123jump.com Staff
17 Sep, 2011
New York City

The specialty grocery retailer quarterly net sales increased 13.6% to $259.5 million on comparable store sales rise of 4.6%. Net income in the quarter fell 7% to $10.5 million. Earnings per share dropped to 22 cents compared to 24 cents per share in the prior-year period.

The Fresh Market Inc ((TFM))
Q2 2011 Earnings Call Transcript
August 31 2011 9:00 a. m. ET

Executives

Craig Carlock - President, Chief Executive Officer
Lisa Klinger - Chief Financial Officer, Executive Vice President
Brian Nicholson – Vice President, Financial Planning and Analysis

Analysts

Sean Naughton - Piper Jaffray & Co
Kelly Bania - BofA Merrill Lynch
Karen Short - BMO Capital Markets
Ed Aaron - RBC Capital Markets
Ken Goldman - JPMorgan Chase & Co.
Mark Wiltamuth - Morgan Stanley
Stephen Grambling - Goldman Sachs
Mark Miller - William Blair & Company

Presentation

Operator

Good morning, ladies, gentlemen, and welcome to The Fresh Market, Second quarter, 2011, Earnings Conference call. At this time, all participants are in a listen only mode. Then we will open up a question and answer session and instructions will be given at that time. If anyone should require assistance during today’s conference, please press star and then zero on your touch-tone telephone. As a reminder today, the conference call is being recorded and we now turn you over to the hosts of this conference Mr. Brian Nicholson. Sir, you may begin.

Brian Nicholson

Thank you very much, and good morning everyone I am Brian Nicholson, Vice President, Financial Planning and Analysis for The Fresh Market, and I am joined by Craig Carlock our President and CEO,and Lisa Klinger our Executive Vice President and CFO, our speakers for today’ s call.

Welcome to our second quarter 2011 earnings conference call. For those of you who have not already seen the copy of this morning’s second quarter and first half fiscal 2011 earnings release. It is available on our website under the corporate information section. This call is also being webcast from our corporate website. For those who cannot listen to the entire web broadcast, a replay will be available for thirty days on our website: www.thefreshmarket.com.

Before we begin, I would first like to draw your attention to the fact that certain matters discussed in this conference call will constitute forward-looking statements within the meaning of the United States securities laws. These statements reflect our current views with respect to future events or financial performance that are based on management’s current assumptions and information currently available.

Actual results and the timing of certain events could differ materially from those projected or contemplated by the forward-looking statements, in a numerous factors, including without limitation those sent forth with our filing with the Securities and Exchange Commission, including our annual report on 4-10, 10K under the heading risk factors and in today’s earnings release.

As a reminder, it is the company’s policy not to comment on the quarter today trends within the normal course of business. So today’s comments will be limited to second quarter and first-half-fiscal 2011 results. Now I will turn the call over to Craig.

Craig Carlock

Thanks Brain, and thank all of you for joining us today. We are please to share our second quarter results, first half results with you, and we look forward to today’s discussion. Let me begin by saying I very pleased to announce another quarter of solid revenue and exceptional earnings growth for The Fresh Market.

The Company’s second quarter diluted earnings per share increased 52.1% to $0.22 compared to last year second quarter pro-forma diluted earnings per share of $0.14. Our comparable store sales increased 4.6% in the quarter and our total net sales grew 13.6% to $259.5 million. Additionally during the quarter, we opened five stores in Vienna Virginia, Evansville Indiana, Boca Raton Florida, Pawleys Island South Carolina and Montvale, New Jersey, which is our first store in the state of New Jersey.

We also relocated our existing store in Williamsburg, Virginia. Finally, we opened our seventh store for fiscal 2011, in Towson Maryland last Wednesday.

We are generally pleased with our results so far in these new store openings and continue to be encouraged by our new store performance in both existing and new markets. Our new store pipeline is robust and we remain on track to open twelve to fourteen stores in fiscal 2011. Our gross margin rate increased approximately 100 basis points in the quarter from a blended merchandise margin expansion that gives supply costs as percentage of sales and leverage in occupancy costs, due primarily to the timing of new store openings this year versus last year.

While balancing the strong performance we have achieved so far for in fiscal 2011, with current macro economic conditions. We are pleased to announce that we are increasing our fiscal 2011 earnings guidance to the range of $ 1.03 to $1.06 per share including the absorption of $0.02 per share in equity issuance costs incurred earlier this year.

Now I will turn over the call Lisa who will provide additional details on our financial results.

Lisa Klinger

Thank you Craig and good morning everyone. First, I would like to point out that they were several items that impacted comparability of our quarterly and first half results and those items should be reviewed by investors in order to assess the company’s ongoing operations on a comparable basis.

These items were described in detail in our press release and include; the company’s terminated its S-corporation election and conversion to a C-corporation. The change of our fiscal year and the transaction expenses incurred in the company’s public offering of common stock earlier this year.

For the second quarter, net income increased $3.6 million from $6.9 million on a pro-forma basis for the second quarter of 2010 to $10.5 million. Diluted earnings per share increased 52.1% to $0.22 per share. For the first-half, net income increased 25.4% to nearly $24 million, with diluted earnings per share of $0.50.

As Craig highlighted earlier, the Company made total net sales growth of 13.6% and comparable store sales growth of 4.6% for the quarter. The comp sales increased (inaudible) from 1 percentage point increase in transactions and a 3.6% increase in average transactions size, which was driven almost entirely, by increases in averaging at retail as a result of selectively passing through inflation. This proves our seventh consecutive quarter of positive growth in both transaction and transaction size, and further underscores the stability and predictability of our comp growth pattern.

It is important to note that our second quarter 2011 comparable sales growth of 4.1% was driven by 2.8% increase in transactions, and 1.3% increase in transaction size. So on a two-year-stack-basis our comparable sales have increased 8.7% driven by a healthy balance of 3.8% increase in transaction and a 4.9% increase in transaction size. For the first half of 2011 total sales have increased 11.8% to $524 million and comparable sales have increased 4.3% to $479.9 million.

Total square footage at the end of the second quarter was up 10.5% compared to the same time last year, with new store productivity of our twelve none comp stores averaging at the higher end of our typical productivity range due to the high number of new stores that opened during the second quarter. Again, during the second quarter total gross margin dollars, including occupancy costs increased 17.3% to $85 million and the growth margin rate increased 100 basis points to 32.7%.

The increase in gross margin rate was primarily due to increased merchandise margin as well as leverage and occupancy and supplies cost. We continue to leverage our purchasing power and economies of scale as well as our inventory management system, to extend our merchandise margin and continue to grow our profitability in a rising commodities environment. The occupancy leverage achieved in the second quarter was due in part to saleable cycling on deferred or (in audible) incurred last year associated with four stores that opened in August 2010, versus the one new store opening we had in August 2011.

For the first half of 2011 total gross margin dollars have increased 14.3% to $174.5 million and the gross margin rate has increased 70 basis points to 33.3 %. Please note that for the second quarter in first half of fiscal 2011 our year-over-year estimated LIFO expense did not change materially and was not a driver of gross margin rate changes. For the second quarter, selling, general and administrative expenses increased 13.3% to $58.8 million versus $51.9 million last year. As percentage of sales SG&A were essentially, flat versus last year at 22.7%.

A solid improvement in store level compensation and operating expenses as percentage of sales were offset by higher corporate expenses primarily attributable to approximately $ 0.8 million or over 30 basis points as percentage of second quarter sales of incrementally public company costs incurred this year. For the first half of 2011 SG&A expenses increased 13.5% to $117.8 million including nearly $1.1 million in transaction costs associated with the equity offering earlier this year and approximately $1.5 million in incremental public company costs for the first half of fiscal 2011.

Depreciation expense for the second quarter totaled $9 million compared to $8.5 million in a corresponding period in 2010. For the first half of fiscal 2011 depreciation expense totaled nearly $17.4 million or 3.3% as a percentage of sales. A slight improvement over last-year’s rate of 3.4%. As you, all recall earlier this year we made technology and processing enhancements that allow us to capture product we donate to charitable organizations. The response from our community and store personnel has been greater than usually anticipated and we are very proud to be helping our communities in which we operate and live. As a result of our donation program, our effective tax rate in the second quarter of 2011 was 36.35% versus our pro-forma rate of 39.02% in the corresponding period of 2010.

Operating income for the second quarter increased 43.4% to $17 million dollars, while operating margin increased by 130 basis points to 6.5%. The primary driver of the increase in operating margin was the 100 basis point increase in gross margin rate, with additional improvement coming from leverage and depreciation expense as a percentage of sales.

For the first half of 2011 the operating income has increased 20.8% to $39.1 million with an operating margin of 7.5% both including the equity cost impact of $1.1 million and 20 basis points respectively.

Now moving on to balance sheet. During the quarter, the company generated $19.2 million dollars in cash flow from operations and invested $31.1 million dollars in capital expenditure. Nearly 90% of these capital expenditures or $27.3 million related to new, relocated and remodeled stores as we continue to grow the chain. During the quarter, we opened five new stores and relocated one store. At the end of the quarter, we had 106 stores in 21 states.

The company’s cash balance at the end of the second quarter of fiscal 2011 was approximately $8.5 million. And total debt outstanding was $76.7 million dollars. Despite accelerating our growth plans this is a reduction of nearly $16 million versus the corresponding period last year. Availability under the company’s (inaudible) credit agreement with $90 million dollars (inaudible). Average inventory on a five-year-basis per store at the end of the second quarter fiscal 2011 increased 7.2% compared to the corresponding period in 2010. The increase regarded largely from commodity cost increases in certain departments and increased inventory investments in new product assortments within faster growing categories.

Within our continued improvement in earnings performance as well as our disciplined approach to asset utilization our key financial return method remains strong on a trailing four quarter basis the company’s return on assets was 17.5% return on investing capital with 25.7% and return on equity with 47.3% as described in more detail in our press release released this morning. Now I would like to turn the call back over to Craig so that he can provide you with an update on our outlook for the remainder of fiscal 2011.

Craig Carlock

Thank you Lisa. As we look at the remainder of fiscal 2011, we remain cautiously optimistic despite the current macro economic uncertainty and we continue to expect 2011 to be a strong year for both revenue growth and profitability. Our merchandising programs are resonating with our customers and our store level execution and commitment to service continues to improve. For instance, we launched several new private label product lines, and we rolled out new merchandising fixtures and programs that have been convenient for and widely accepted by our customers. We have also enjoyed success from seasonal programs in our pa (inaudible) such as peach and (inaudible) selling programs.

In our stores, we continue to hear feedback that our customer service is a clear differentiator. We are currently evaluating several in-store labor investments that we believe may identify ways we can serve our customers even better and drive profitable sales increases.

On the real estate front, we still plan to open 12 to 14 stores this fiscal year, with seven new stores already open we are now estimating that the remaining stores will open in the fourth quarter, whereas in 2010 we had five stores open in the third quarter and no new stores open in the fourth quarter. This timing issue will likely lead to slow year-over-year sales growth in the third quarter and stronger year-over-year sales growth in the fourth quarter. However, we still expect total sales growth to be double digit in both quarters.

Additionally we plan to relocate two and remodel two existing stores during Fiscal 2011. With our Williamsburg Virginia, relocation and our Virginia Beach remodel already completed. We are planning to complete our Montgomery Alabama relocation and Columbia South Carolina remodel during the fourth quarter of this fiscal year. We have recently signed four new leases for new stores, one lease for a store relocation; we expect to sign several more leases in the coming weeks.

We now have eighteen leases on our properties and our development pipeline for new or relocated stores that will open in fiscal 2011 or later. In addition, we have numerous potential stores in various stages of negotiation and development that we believe will be excellent Fresh Market stores. Given this level of real estate activity, we continue to anticipate spending approximately $85 to $90 million in capital for the year.

Again the majority of this spend will be for new, relocated and remodeled stores. More over we continue to make investments in new equipment and merchandising fixtures as well as IT and other infrastructure projects to support our growth strategy. From a revenue growth perspective, we continue to expect comparable stores sales to increase in the 4 to 5% range for fiscal 2011. With many consecutive quarters of comp-growth in this range, we believe absent of substantial change in consumer sentiment this is an appropriate growth rate for our business. While we have achieved operating margin expansion of a 130 basis points during the second quarter.

It is important to note that in the second half of fiscal 2011 we anticipate occupancy costs to be a slight drag rather than a source of leverage given the timing of new store openings and the recognition of deferred rent. Also we remain somewhat cautious about further merchandise margin gains given the overall cost environment that faces food retailers. With all of this in mind, we are raising our operating margin guidance from a 20 to 50 basis point improvement to a 30 to 50 basis point improvement in fiscal 2011, over last-year’s adjusted operating margin of 7.2%.

Taking into account the momentum in our business as well as current sales and operating margin forecasts and the potential of continued macro economic instability we have also increased our guidance relating to fiscal 2011 diluted earnings per share, prior guidance of $ 1.01 to $1.05 has been revised to the range of $1.03 to $1.06 for fiscal 2011. It is important to note that this range is inclusive of the transaction costs of approximately $0.02 per share associated with our equity offering earlier this year that had not been anticipated when we initially provided guidance for the year.

In summary, I want to reiterate how pleased we are with our business and the prospects for the remainder of 2011 and beyond. We are confident in our new store pipeline, our remodeling and relocation opportunities and the momentum we are developing in the real estate market place. Our comparable store sales are healthy and sustainable. We continue to push for new item innovation in our perishable and non-perishable departments. And we continue to improve in leverage of sales oriented investment in-store labor. This work combined with disciplined G&A expense control has us very excited about our future.

Thank you!

Operator, we will now open the call for questions.

Question-and-Answer Session

Operator

Thank you, ladies and gentlemen, if you have question please press star and one on your touch tone telephone, once again if you have a question please press star and one on your touch tone telephone.

Our first question comes from Sean Noughton of Piper Jeffray.

Sean Naughton - Piper Jaffray & Co

Hi thanks for taking my question and congrats on a good second quarter. First off, Craig, you have talked about, I think, on prior calls improving the store labor expenses to better match hours and traffic to really drive some increased volumes. Can you just discuss anecdotally how that program is going today and if you are seeing the intended results of the program as it was initially structured?

Craig Carlock

Yes the idea there is that while we are comfortable with the overall level of labor we wanna make sure we are matching our service hours to the times when our customers are there, even better than we have in the past, and I would characterize it as this is an ongoing project in series of tests and we are encouraged by what we see and really have not made dramatic changes but certainly this should be a source of …comfortable improvement as we go forward.

Sean Naughton - Piper Jaffray & Co

Okay, and then on the inventory, I think you had also mentioned that health and beauty was an area you were making a few investments on. Just wondering if you were seeing any ASP lift from these inventory investments on that particular category?

Craig Carlock

Now …what I would say about health and beauty.. we are frequently asked, hey! are there new products or categories that you can bring into your store and that is one that we will mention but is still very early and very much a test … we still have higher (inaudible) it’s such a small, small part of our business that it will not move our total needle.

Sean Naughton - Piper Jaffray & Co

Okay, and then just lastly, obviously some pretty big storms came through over the last week here. Is there anything in terms of … that you can tell us about stores that were closed or stores that are currently closed right now?

Craig Carlock

Here is what I would say, first thing I would say, when we think about these storms is safety. We had no employees hurt and we had no customers hurt. The second thing I would say our buildings remain in good shape we had no structural damage in any of our buildings. So I will be clear about what is very most important to us. Now we did have stores closed we had 12 stores closed off and on during the storms. We had two that were still closed yesterday, but power was restored in those two stores yesterday afternoon and all of our stores, all 107 should be open today.

Sean Naughton - Piper Jaffray & Co

Okay, great, best of luck in the second half.

Lisa Klinger

Thank you!

Operator

Thank you, our next question comes from Robbie Ohmes of Merrill Lynch.

Kelly Bania - BofA Merrill Lynch

Hi good morning, this is Kelly Bania in for Robbie. Lisa or Craig, I was wondering if you could talk first about just maybe monthly trends during the quarter and if there was any volatility or how that kind of played out. And then, too, I was wondering if you could expand on your comments. I think you mentioned selectively passing through inflation. And I was just wondering if you could shed some more light on that, particularly given your gross margin expansion during the quarter. Thanks.

Lisa Klinger

Oh certainly within the quarter we don’t normally provide monthly guidance…in the normal course again we are very pleased with our second quarter comp performance, relative to what our expectations were. As far as inflation merchandise margins did have a nice extension during the quarter, we were selectively raising prices in certain categories, where we thought it was appropriate to raise retail and where the consumer had general understanding that prices could be rising. But again we look at other ways of increasing our merchandise margin throughout the various methods such as shrink reduction, managing our prices and promotional opportunities, again we are trying to look at it from a balanced perspective in how we expand merchandise margin. I do not know if Craig would like to shed more light on the inflation front.

Craig Carlock

No we are…we feel like we are under cost pressure, but we have taken the right steps to manage those costs, so we have categories we have renegotiated, (inaudible) roll-up costs, we have categories we have passed it on, we have categories we’ve reduced the shrink, putting all that together we are seeing nice expansion and we are proud of it.

Kelly Bania - BofA Merrill Lynch

Great, and then just one more follow-up. Any update on how the California expansion is progressing?

Craig Carlock

Yeh we are very excited about it, we have a robust pipeline and we are getting great response from the landlord and development community across California, we have been active throughout the state, we anticipate opening our first store or stores late next year or early 2013.

Kelly Bania - BofA Merrill Lynch

Thanks so much.

Operator

Thank you, our next question comes from Karen Short of BMO Capital.

Karen Short - BMO Capital Markets

Congratulations. Just a couple of clarifications on your guidance. So your tax rate … you explained where you are getting the lower tax rate this quarter. Is that.. then, kind of a standard run rate going forward?

Lisa Klinger

No there was little bit of a sling short in fact from first quarter, again the donation program has been a little-bit more successful than we had originally planned, so the accrual adjustment in the second quarter was a little bit lower than you would see on an ongoing run rate.

Karen Short - BMO Capital Markets

Okay, and then…

Lisa Klinger

More of a blended, blended first half rate will be fair.

Karen Short - BMO Capital Markets

Okay, thanks. And then looking, I guess, at your … you commented on your two-year trends. And, obviously, they are very good, but they did decelerate a little bit on a two-year basis. I guess I''m wondering what the three-year trends would have done. Could you provide the comps on your new fiscal year for the first quarter of ''09 and the second quarter of ''09? Because it seems like those probably accelerated.

Craig Carlock

We think the three year would have been more, even because of the characteristics of early 2009 were part of recession, but if you hear us out, honestly this is how we think about it, we have seven quarters between 4% and 5% comp store growth. So stable, healthy, reliable comp growth. Somewhat pressed to read too much into slight acceleration or deceleration in two-year-trend personally.

Karen Short - BMO Capital Markets

That is helpful. And then I guess, just looking at your back-half earnings guidance, when you look at what your earnings did in the first half, they were up 20-kind-of 8%. And then in your back half, if I add back those $0.02, kind of implies it''s 17% growth on the low end, and then I guess 28% on the high end. I mean, 17% seems conservative, given what you did in the first half. Are you just being conservative?

Lisa Klinger

I think that our brief here today was only half of the year behind us. We are looking at an economy that still has a little-bit of instability and a consumer whose sentiment is not exactly positive today. So you know as we look at…what is almost important half, we just wanna make sure we are being thoughtful and prudent with the guidance we are providing.

Karen Short - BMO Capital Markets

Okay, and last question… any update on the renegotiation of the Burris contract?

Craig Carlock

As you, all know this contract matures early next year, we are at the close of the negotiation, we have gotten indication from some of Burris’ competitors and we are very excited by what we are seeing and we are continuing to vet those proposals for both price and service.

Karen Short - BMO Capital Markets

Okay, great, thanks.

Operator

Thank you, our next question comes from Ed Aaron, RBC Capital Markets.

Ed Aaron - RBC Capital Markets

Thanks Zach morning everybody. Just based on the numbers, it doesn''t really look like you had much trouble passing through your inflation. Are there any categories as you look back at the quarter where maybe you did try to take price and had to adjust back down because the consumer didn''t tolerate it? And then secondly, as a follow-up, do you think that you have taken all the pricing that you ultimately feel like you will need to, just based on your outlook for costs?

Craig Carlock

There aren’t any that we raised and had to retrench and I will say a couple of things on that. One is, where we think it is delicate we test it first. So the advantage any retailer has is that you can test a price increase in a handful of shops and compare it to a controlled roof and see if the price increase makes sense. So we have the ability to test the ones that we think are most delicate and we did that. So when we raise prices we have a hand to retrench. You know there are some categories that the costs were just rising faster than we can pass on, but thankfully those are not…those are a small part of the store and our sales.

Ed Aaron - RBC Capital Markets

Okay… thanks. And then just one quick follow-up and I will turn it over. The storm was bought up earlier. Does that, in your mind, have a net positive effect, a net negative effect, or neither when you think about the impact on the business?

Craig Carlock

Well over the course of the year, you know what I can say, is its neutral, so we have some hurricanes, some snow storms, over the course of the year it’s not gonna affect how we view our 4% to 5% comp guidance. Now it will affect a particular store a particular set of stores for a particular week. But not much over the course of the year. There is no way in which it is positive though. I mean the…frankly, the positive for any retailer is that the threat of a storm never materialize. But that I would say, was not the case here.

Ed Aaron - RBC Capital Markets

Fair enough, thank you.

Operator

Thank you, our next question comes from Ken Goldman of JPMorgan.

Ken Goldman - JPMorgan Chase & Co.

Good morning, just wanted to follow up on a question that was asked earlier, maybe ask it a little more specifically. If you were not being conservative, do you think you would have raised guidance further? If the economy were strengthening and consumer confidence rising or even just static might you, have considered boosting your numbers a bit more here?

Lisa Klinger

No, I mean as we said of today, running our internal estimates, we believe the guidance from the writing is accurate and fair.

Ken Goldman - JPMorgan Chase & Co.

Okay. And can you update us on your fresh produce cost inflation here, what you are thinking in the back half of the year? We can obviously see core in packaging and meat, but items like lettuce are a little harder to measure.

Craig Carlock

I don’t know that we have a (inaudible), we just don’t have a forecast at that level of precision, but I can say in general, produce is a little more volatile in general, generally is lower price points. And a lot of ad activity we can manage through that. Particularly with customers, reserve who appreciate quality and taste and freshness and that is what we are really marketing.

Lisa Klinger

And produce tends to have a short cycle as well, so any huge inflation pressure or deflationary pressure will get down pretty down quick.

Ken Goldman - JPMorgan Chase & Co.

And lastly, how have the new stores been performing? Any hiccups in their launches or productivity compared to what you have had in the past?

Craig Carlock

We are excited about the new stores, they are in line with our expectation in both new markets and existing markets. When you open five in quarter, some meet your expectations a little, some come little under, but in general, on average this class is very good.

Ken Goldman - JPMorgan Chase & Co.

Great, thank you.

Operator

Thank you, our next question comes from Mark Wiltamuth, Morgan Stanley.

Mark Wiltamuth - Morgan Stanley

Hi, Good morning, and congrats on the quarter. I wanted to dig in a little bit on Craig''s comment on the labor investments you are contemplating. When do you think those would occur? What areas are you looking at? And is this something that we should be thinking about as …in terms of a drag on SG&A?

Craig Carlock

No, no, no don’t think of it as a drag for sure, so how we think about these things is, for 31 years we’ve been testing ideas, …that might deliver profitable sales with additional labor and so we continue to do that and some of these tests have been promising, but again we more than look forward to sales and the profit from the sales to more than offset the additional investment.

Mark Wiltamuth - Morgan Stanley

Okay.

Craig Carlock

And these are generally Mark, category specific or department specific or time of day specific, these are not broad changes to our labor model.

Mark Wiltamuth - Morgan Stanley

Okay. And any updates on some of the tools you have been developing that help you with shrink, out-of-stocks, any of those things you can talk to us about?

Craig Carlock

We rolled out one to a category we hadn’t used …you know it hadn’t one before in the second quarter and got good results. So we continue to be involved in it by our stores abilities to use the tools and by the folks in the office and their ability to develop them. We feel really good about it.

Mark Wiltamuth - Morgan Stanley

What was the one was rolled out in the second quarter?

Craig Carlock

You know its perishable but I rather not say which one. It is just… the trick thing for us we regard this as highly proprietary and the source of foodstuffs; we just do not want others to know, what we are poking around.

Mark Wiltamuth - Morgan Stanley

Okay, fair enough. And of your new stores you''ve got in the pipeline, how many of them are in existing markets versus new markets? And what kind of performance difference do you get versus the existing and new markets and stores?

Craig Carlock

I do not know whether I have a percentage, but I would say it is a nice blend and balance. We do not have target that we say we want xpercentage in new, and ypercentage in existing. But the portfolio is nice blend, I would say the performance is more site specific and attribute specific, retrospective to the trade area than it is to whether it is a new market or an existing market.

Mark Wiltamuth - Morgan Stanley

Okay, thank you very much.

Operator

Thank you, our next question comes from Stephen Grambling of Goldman Sachs.

Stephen Grambling - Goldman Sachs

Hi thanks for taking my question, just a follow up on some of the comments earlier, is there anything that you are seeing within your consumer spending that maybe reflects the uncertainty in the environment? Or maybe are there any signs that you saw during the last downturn that maybe you can use as a tangent to the current environment?

Craig Carlock

No, I would say we are watching carefully our customer reaction and consumer sentiments, we see nothing specific, no specific change recently and certainly nothing we would liken to 2008.

Stephen Grambling - Goldman Sachs

Okay, thanks. And then one quick follow-up on the shrink commentary. Is this something that you have a long runway to continue, or how many more…? I guess, what earning would you say that you are in, in terms of …?

Craig Carlock

(Inaudible) we is the middle earnings like a 9 innings base ball game, inning 4 or 6, we got enough off the ground, we are proud of it, we know it’s working and we got enough ahead of us. And there is still room for improvement; we are certainly not at the end of this.

Stephen Grambling - Goldman Sachs

Okay, thanks.

Operator

Thank you, our next question comes from Mark Miller, William Blair.

Mark Miller - William Blair & Company

Hi, Good Morning! A lot of questions here about the gross margin, but if I can try to be a little bit pointed on the second half, you had the second quarter great gross margin expansion. You said mostly it''s through merchandise margin. You said the drivers of that are growing purchasing power and inventory management systems. So I guess I''m trying to understand why you are highlighting that the margin improvement could be less in the second half. So outside of the other factors beyond merchandising margin, why would it potentially not have the same flow-through, given that it seems like those drivers are more secular? Do you think you will be a little more promotional or do you want to have a little better balance between ticket and transactions?

Lisa Klinger

Mark just to highlight we did have substantial improvement in our growth margin rate in the second quarter related to occupancy leverage and we did highlight that in the second half we would not see that pattern continue. So it was not all merchandising margin expansion on a 100 basis points, it was a pretty healthy blend of merchandise margin, occupancy leverage as well as other supply and other expense leverage that which we achieved. I just wanna make sure that is clear. There was a timing issue for new stores that helped us on occupancy leverage perspective on the second quarter.

As far as merchandise margin on the back half of the year not having that favorability from occupancy, and actually having a slight drag because of the back end loaded new store plan that we have. We do expect our merchandise margins to continue to expand, we are being thoughtful about the cost environment that we in, and we would expect the gains to continue may be not at the same level that they materialized in the first and second quarter.

Mark Miller - William Blair & Company

Okay, thanks, Lisa that is helpful. Craig, at the end of your prepared remarks, you ticked through some initiatives pretty quickly. And I know sometimes you don''t want to be too verbose about those, but can you just share with us which of these you are most excited about? And any additional color would be great. You talked about some new private-label fixture changes, seasonal categories, and I think you have already touched on the customer service initiatives. But any more there, would be appreciated.

Craig Carlock

I don’t know whether we’ve ranked them, I would say that we are…see what I want you to get a sense of is, we have people who are pushing at the business at all levels and all places. We are pushing it at every level, and the ice cream came out in the second quarter and it was a big success for us. We are pushing labor tests that will be profitable for profitability for us, we are pushing on supplies management, we are pushing on utilities, we are doing things across the company and all those initiatives are heavy and have a great chance of helping us.

Mark Miller - William Blair & Company

Just from a timing standpoint, then, or some more immediate than others, more multi-year, just some way to, I guess, think of the way these flow in? I know changes are happening all the time; it is very dynamic

Craig Carlock

I think the merchandising fixtures have allowed customers to get things self-service, have proven themselves pretty well, both for us and for other food retailers. And so the (inaudible) can be pre pretty quick and low-outs can be pretty quick too. Now product development takes longer than sales rolling out new fixtures to the stores.

Mark Miller - William Blair & Company

Thanks, nice work in the quarter.

Operator

Thank you, final question comes from Karen Short of BMO Capital.

Karen Short - BMO Capital Markets

Hi, I just have two quick questions. On your year fourth-quarter store openings, are you anticipating that those stores will be open before the holidays, or any sense of timing within the fourth quarter?

Lisa Klinger

It will be in combination of both.

Karen Short - BMO Capital Markets

Okay. And then the last question I had … within your traffic gains, are you seeing that more from new customers or existing customers coming back more frequently?

Lisa Klinger

Since we do not have a customer loyalty program, we do not really know whether they are new or existing customers. But what I can say is that we have seen transaction count grow like faster in our higher ticket baskets, which would lead me to believe it is our existing customers, primarily but would just be a guess.

Karen Short - BMO Capital Markets

Okay, thanks.

Operator

Thank you, I am showing no further questions at this time.

Craig Carlock

Thank you all for listening and participating in the call today, we look forward speaking to you again in late November for our third quarter call, have a great day everybody.

Operator

Ladies and gentlemen, thank you for your participation in today’s conference this concludes the program. You may now all disconnect. Thank you and have a nice day.