Fred's customers challenged in Q2

MEMPHIS, Tenn. — Southeastern discount banner Fred's on Thursday morning reported that the consumer continues to be challenged by economic pressures. "In key markets we continue to see swings in sales [tied to] the payroll cycle," Bruce Efird, Fred's president and CEO, told analysts during a conference call this morning. Efird also reported an increase in government assistance utilization.

As many as 23% to 25% of consumers in those markets where Fred's operates are receiving some form of government assistance, Efird said. "I'ts really hard to separate the effect of gas prices, the inflation that we've seen on core products, in addition to the debt crisis."

Other tell-tale signs that today's customer is spend cautious — Efird reported significant declines across several segments considered as a discretionary cost by many consumers, including apparel, home furnishings and entertainment/electronics.

But not all necessarily is doom and gloom, Efird noted. A decent back-to-school period, currently in season, could serve as a good prognosticator that holiday sales, while not stellar, may be good as well. "I wouldn't say we're very bullish on the back half, [but] we've seen some easing on our customers," which should mean increased discretionary spending, Efird said.

"Back to school has done better than we anticipated, that is somewhat discretionary, [there has been] a lot of the growth in the basic and consumable products," reported Jerry Shore, Fred's EVP, chief administrative officer and CFO.

As a deep discounter, Fred's certainly has been successful communicating its value proposition to its core consumers. Fred's reported net income of $5.1 million, up 3%, representing 14 cents per diluted share, for the second quarter ended July 30. That performance beat out the Capital IQ Consensus by one penny.

Pharmacy also continues to be a key traffic driver for the Southeastern chain — prescriptions filled were up 2% over the quarter. "Pharmacy is a strong differential factor in drawing customers to our stores," Efird said. And while the strong number of new generics has been negatively impacting top-line sales and same-store sales comps, the profitability of pharmacy going forward will be a positive considering the upcoming generic introductions to the blockbuster Lipitor (atorvastatin).

Fred's total sales for second quarter of fiscal 2011 increased 1% to $452.7 million. Comparable-store sales for the quarter decreased 0.4% versus a 2.5% increase for the second quarter last year. Fred's total sales for the first half of fiscal 2011 increased 2% to $937.1 million from $921.1 million for the same period last year. Comparable-store sales for the first half of 2011 increased 0.4% on top of a 2.4% increase for the same period last year.

In third quarter 2011, Fred's expects total sales to increase 2% to 4%. Comparable-store sales are expected to increase 1% to 3% versus an increase of 1.5% in the third quarter last year.

"Looking ahead, with the federal debt crisis behind us for this year, our strategic initiatives well under way and the cost-reduction programs that are now in place, we are confident that we will regain the momentum experienced in the first quarter and expect income growth of 10% to 20% for the final two quarters of 2011," Efird stated.

During the second quarter, Fred's opened two new stores and one pharmacy as part of its 2011 operating plan. One franchise store closed during the quarter. The company also remodeled and refreshed 68 stores with its new Core 5 elements in the quarter, bringing the total stores upgraded to 332 during 2010 and 2011.

Currently, Fred's operates 674 discount general merchandise stores, including 22 franchised Fred's stores, in the southeastern United States.