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Holly LaFon
Holly LaFon
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David Rolfe Comments on Tractor Supply Company

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July 17, 2017 | About:
Tractor Supply Company (NASDAQ:TSCO) is another North American retail holding that we believe will continue to profitably differentiate itself over the next several years by focusing on serving a select demographic, specifically rural land owners who earn higher than average incomes. We think this customer base is underserved due to its fragmented nature and exhibits merchandise needs that are not standard enough, so competitors find it hard to justify the real estate investment in low population density areas, or want to risk working capital investments in slow-turning inventory. In our view, a key element of Tractor’s approach is a mundane but disciplined real estate and merchandising strategy that attempts to bring stores and inventory to this naturally underserved customer base. We also would highlight that the Company has a long history of developing a merchandise assortment deliberately differentiated from large competitors—initially, they built the business around the sides of big-box behemoths such as Home Depot, Lowe’s, and Wal-Mart—and we believe that the same deliberate approach to e-commerce competition comes naturally to them.

We are comfortable with the volatility of Tractor’s results, which can be choppy due to weather, as a substantial portion of their sales is dedicated to outdoor projects and activities, consistent with the requirements of the upkeep of large tracts of land. For example, after posting a solid +2.6% growth in comparable stores sales for the first quarter 2016 (adjusted for Easter holiday timing), the Company reported first quarter 2017 comparable store sales that declined -2.2%. While the stock gave up over 20% of its value during the past three months – we think this has been a significant overreaction. Many market participants assume the Company’s weak first quarter comp represents evidence that e-commerce has compromised the long-term potential of Tractor. However, e-commerce is not a new phenomenon. Instead, January and February combined were unseasonably warm in many of the Company’s markets, so Tractor’s seasonal inventory – typically used to help customers combat winter weather – was marked-down and monetized to make room for spring inventory. We note that the Company’s western geographic markets, which were virtually unaffected by weather, posted mid-single digit growth in comparable sales – very healthy levels, and also evidence that weather, rather than e-commerce, likely hurt the balance of Tractor’s sales base.

Furthermore, if Amazon were making inroads into TSCO’s business, we would expect to see signs of this incursion in Tractor’s “CUE” (consumable, usable, edible) categories, which generally are among their faster-turning, often-replenished products that would seem most susceptible to the e- commerce model. However, even in a rough quarter, CUE remained the company’s strongest portion of the business.

Over a multi-year timeframe, we continue to think Tractor has ample opportunity to expand its store footprint, while driving traffic growth at existing stores through both customer engagement and merchandising investments. The stock currently discounts earnings that are substantially lower than what we believe the Company can earn on these growth investments over the next several years, likely on unfounded fears regarding e-commerce.

From David Rolfe (Trades, Portfolio)'s Wedgewood Partners second-quarter 2017 shareholder letter.


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