Tractor Supply Company (TSCO) Earnings Call Transcript & Summary

Good morning, everyone. Thanks for joining us. I'm Peter Benedict, retail consumer products and services analyst at Baird. Really pleased to have the team from Tractor Supply with us. Once again, I was talking with Mary Winn last night. I think this could be their 17th at least consecutive time at the Baird conference. So we love having you guys here. I appreciate you making it up. For those of you who don't know, Tractor Supply is a leading rural lifestyle retailer in the U.S., they've got more than 2,300 stores under the core Tractor Supply banner. They also have 200 or so Petsense locations. Their sales are expected to exceed $15 billion this year. Stock carries a market cap of just under $30 billion. So to my far left, Hal Lawton, CEO since 2020. He joined from Macy's, but spent much of his career at Home Depot and eBay; Kurt Barton, CFO, is directly to my left; and as I mentioned, Mary Winn Pilkington is in the back there with some members of her team, and she heads up the IR and Public Relations effort. I think we're going to turn it over to Hal for some opening remarks here, and then we'll get into the Q&A. So...

Thanks, Peter, and good morning, everyone. Thanks for your interest in Tractor Supply for being here today. As Peter said, 2,300 stores, about $15 billion in revenue. Over the last 5 years, we basically doubled our revenues. And the drivers of that have been our new store growth in combination with very strong comp store growth. On our comp store growth, it's been about half and half, half average ticket, half transactions. So very balanced in our growth, and I think that's a differentiator for us in retail in terms of performance, is the fact that over the last 5 years, we've had substantial comp transaction growth. Over the last 18 months or so, we're proud that we haven't given back any of those sales. There was much discussion, as you can imagine, in the early 2020s about kind of giving back a number of those sales, and that's not been the case. Our comp has been below our long-term guidance over the last 18 months because of deflation in the business. In our last earnings call, we talked about as we look towards the back half of the year, we see that deflation turning to inflation, and that's ex-tariffs, which I'm sure we'll talk a little bit about, but that's just in terms of the normal base run rate of the business. So we feel very good about returning to a more normalized growth rates as we turn into the back half of the year. More broadly, if we look towards the back half of the decade, we launched our new Life Out Here 2030 strategy in December of this past year. It builds on our existing set of initiatives, which are very proven and have a track record of performance, initiatives like our Fusion remodel program, our Garden Center build-out, our Neighbor's Club program. And then we are adding to those set of initiatives, some new initiatives that enhance and expand our total addressable market and also our revenue upside. And that's a direct sales program, a pet and animal Rx prescription program and then combining that with our final mile initiative as well. So very excited about the future of Tractor Supply, and we've got as much growth ahead of us as we've achieved in our history of our company. And like I said, we've got a great track record of performance, but excited about the future equally.

Great. That's a great overview. I think your position as a needs-based retailer, but one that also sells some big ticket product makes you a little bit unique. And so maybe just talk about what you've seen with the consumer here. You said the last 18 months, you've had some deflation. You actually had a pretty good big ticket year last year. Maybe help folks understand like what is big ticket to Tractor Supply? How has the consumer been kind of spending on that and responding to that here of late?

Yes. So if I were to break our business into 3 buckets of categories just for the sake of discussion here. The first would be what we call C.U.E., consumable, usable and edible products. So that's around 40% to 45% of our business. Those are things like products like animal feed. So think a horse bag feed, think cow bag feed, livestock feed, poultry feed. These are our staples, much like the grocery store for our business. These drive transactions in our stores every single day. People have to feed their animals, people have to feed their dogs. We're also the fifth largest seller of dog food in the country. On the feed side, we're the largest seller of bagged animal feed in the United States, somewhere between a 20% and 25% market share in the United States. So that is our staples. Those are our footsteps drivers. Those would drive customers into our business every single day. We then add to that kind of a mass type approach, mass merchandising approach where we surround those consumable products with all the accessories and utility items that our customers need to live their lifestyle. So that could be things like power tools and hardware. It also could be fencing for your property or it could be a Carhartt hoodie that you're wearing, while you're out on your property, but all those sorts of other items we surround it with. And then we cap it all off, as Peter said, with big-ticket product that our customers need to maintain their property. Those would be things like riding lawn mowers, things like trailers, gun safes. In the wintertime, it would be things like log splitters and snow throwers. And in general, I'd say what we're seeing on the consumer is really not much difference than there's been in the last 2 or 3 years. I think consumers continue to -- in their rhetoric and in their qualitative comments, talk about being cautious and even some modest kind of confidence, kind of variations we've seen over the last few months. But I think in practice in terms of their spending, consumers are holding up very well. For us, we saw a slight bit of pullback in big ticket in March and April. Dominantly, our assertion was due to weather, but we were a little cautious just because of the environment at the time. But as the weather has come out and the sun has come out and spring has finally arrived, our seasonal products are selling very well. So when the sun is out, the business has been very good.

Yes. Great. So let's maybe take a step back and talk about just the addressable market. Back in December, you hosted an Investor Day. You raised your TAM to $225 billion. I want to focus first on just like the core market, the $195 billion. Maybe talk about the rural population trends, secular trends like sustainability, and just what the competition looks like, both the existing competition and then you always seem to have someone else kind of trying to come in and play in the rural market? So maybe give us a sense of what you're seeing on that front.

Yes. So as Peter said, a couple of hundred billion dollar market -- total addressable market that we participate in. Sometimes folks are always trying to think about how to assess us because we don't have a large-scale national head-to-head competitor. If you think about most sectors in retail, that's the case, right? You've got 2 in mass, 2 in home improvement. Historically, we had 2 in electronics and appliances and those sorts of things. But in farm and ranch, we're really the only large national player. The way we think about our market is as follows. So if you call it just for sake of round numbers, $200 billion in total addressable market, about 40% of that is a historic farm and ranch channel, so call that $80-ish billion of the TAM. Those are 10,000 locations across the United States, little co-ops, mom-and-pops, some regional and local chains. But really, our largest next competitor has 150, 200 stores in size relative to our 2,300. Then you take the other 60% of the TAM that we don't have. And it's really a litany of other competitors. So you have pet specialty that we compete against in the pet category. You obviously have all kinds of apparel retailers that we compete with on our apparel product. We compete with home improvement on garden and tools and hardware. So there's a variety of other competitors. Of course, mass, we compete with as well. As Peter said, in terms of our total addressable market, it has been a growth market, and it's been a market that's grown faster than overall GDP. And one of the primary drivers of that has been rural migration. So in 2021 and 2022, there was a significant exodus as we all know, out of cities into rural America, and we benefited from that. We continue to benefit from that rural migration now, albeit at not the same pace of '21 and '22. But the millennial population continues to kind of age. And as they age into their early and mid-30s, they're embracing more historic generational norms, buying a house, getting married, having animals, those sorts of things. And when they do that, the only place to be able to buy an affordable home and to find one that's available for sale, as we know, to availability and affordability is really out in ex-urban and in rural America. And so we really continue to benefit from that. If you look at new home sales and new home sales in particular, it's a much heavier percentage of that is from the millennial population, and you see it's really out where our stores are. So we really benefit from that. It's a nice tailwind for our total addressable market.

Yes. And so like on the competition -- competitive front, I mean, we know Lowe's has been working on a rural initiative. Amazon has been talking more about it. Is this new to you guys? Or is this kind of business as usual, always have someone kind of trying to come in and disintermediate the business?

Yes. Kurt has been with the business 26 years. I've been with the business now 6 years. I think almost every time we've been on stage in the last 6 years, someone has been making a comment about initiative in rural America. That's probably been the case for all 26 years of Kurt's time. It's an attractive market, but it's also a very big market. And our focus is always just to compete in the market, earn our customers' spend and stay focused on our strategy. And there's been lots of folks that have kind of made entrees into our market. We just -- we keep staying focused and just putting up our -- the results we put up.

Yes. No, absolutely. And if anyone in the audience has a question, you want to get involved, [email protected], and I'll do my best to get you involved here. Tariffs, let's just jump on it right away here. Perspective playbook, how are you dealing with it?

Yes. First off, I'll start with tariffs are not an existential crisis for Tractor Supply. Over 60% of our business is manufactured or produced in the United States. If you think about some of the categories that I've mentioned already, things like animal feed, pet food, those sorts of products, those are manufactured in the United States, produced in the United States. Less than, as I said, 40% of our business is produced outside of the United States. A little less than half of that is China and then a little more than half of that is rest of world. For us, in terms of how to navigate it, we really are just dusting off our 2018, 2019 playbooks. We've gone out. We diversify our sourcing. We negotiate with our existing manufacturers. We're looking for efficiencies in the process. Certainly, we will adjust assortments as necessary as well. We will look at cost, first and foremost, look to create and maintain value in the market. And of course, always price is a lever of resort as well, if necessary. But we updated our guidance at the end of Q1, really broadened our range a bit just to allow for more scenarios of how the back half of the year might play out. But again, for us, this is not an existential crisis, one we're very comfortable that we can navigate and are doing so right now.

Got it. And one more for you, Hal, and then I'll throw one over to Kurt. Just around pricing. So you alluded earlier in your opening remarks, half of Tractor Supply's growth over the last 5 years has been ticket, half has been transactions. Part of your business is commodity. And so how do you see pricing today on the commodity front and then on the tariff impacted front? And how does that kind of play out over the balance of the year as best as you can see?

Yes. So if I were to break our business into 2 fronts, the commodity and then the non-commodity, as you just did, Peter. On the commodity side, for the last 18 months or so, we've been operating in a deflationary environment. It's a little counter to what we've all seen in the national headlines where we -- as a country, we've been facing a significant amount of inflation. But if you look at that data sets, obviously, it's been services inflation that's been driving inflation, whereas goods have really been flat to flat or so over the last 18 months. And that's really been the case with us. Things like animal feed, as I mentioned, we have a 20% to 25% market share across those categories are very heavily corn dependent. Back in '22, corn was up as high as almost [ 600 ], now down in the $4.50s range. And so we've been kind of trading down through that over the last 18 months. Corn has now been level really for the last 12 months or so. And we're starting to cycle on top of that where we'll see positive average unit retail and feed pricing in the second half of the year. The other big player for us on commodity pricing is dog food. And I think the slowdown in dog in 2024 was well documented. We made a comment in our last earnings call that we thought we were past the trough of that. And starting to see unit growth again in the category as well as average unit retail growth again in the category as we look towards the back half of the year. And so both of those businesses, which are, as I said earlier, 40% to 45% of our total business, we're starting to see positive inflation in those businesses in the second half. And that's inflation before we get into any impact tariffs could have.

Yes. Got it. No, that's great. And to the extent that you've seen in the marketplace any movement in price based on tariffs, I know a lot of that's kind of on the comms is what we're hearing as we get back-to-school in the back half of the year. But to the extent that you've seen any movement in pricing, any elasticities that you would call out that you've seen?

There's been some very subtle movements in pricing in the market right now, mostly in map-based products. So these are branded products where the manufacturers have pricing guidelines out in the market. We've seen some modest step-up in pricing in those categories. These are categories that either -- most of them are heavy steel and aluminum product, and that's when those tariffs, as we know, started earlier in March. And so you're starting to see some of that already make its way through. But there's really been -- we've not observed any sort of elasticity or unit reductions as those price step-ups have occurred. And then you said -- as you said, the balance of potential pricing that may occur in the market is really more of a second half thing with the seasonal programs that will all be brought in.

Yes. Fair enough. Kurt, let's get you involved here. So the financial algo that you guys have laid out, 6% to 8% revenue growth, maybe break that down comps versus new stores and how you kind of see that evolving? And hopefully, we get back into that at some point here over the next year or 2?

Yes, sure. We unveiled our Life Out Here 2030 strategic plan back in December, which is where we laid out the changes to our long-term targets. Even before a lot of the changes with tariffs this year, we said 2025 likely to be a transition year. I think the activities on a macro over the last couple of months have only just confirmed that 2025 is a bit of a transition year. But that said, we are still very convicted and as we were then on our ability to get to the long-term algorithm. And that basically breaks down as this, as you said, we see a 6% to 8% net total sales growth. And that breaks down to, one, one of the things that's been a consistent driver for Tractor Supply is new stores. We said we still see an opportunity now as high as 3,200 domestic locations. We're at 2,300 today, roughly a decade worth of just known specific markets for a Tractor Supply store. We'll be growing 90 stores this year and our target to move to approximately 100 stores a year going forward. So that 6% to 8% includes roughly 2.5%, 2.5-plus sales growth -- percentage point sales growth just out of our new stores. And those new stores do contribute to comp as they have around a 5-year maturation process. But then it's really the 3% to 5% comp sales growth. And Hal talked about the strategic initiatives, and we've got both existing strategic initiatives that are still ongoing that were in that cycle of development, but then these new ones that we're beginning to invest in. We believe those are really going to be key to driving the 3% to 5%. That said, under normal just routine macro where the rural economy and our lifestyle consumer base grows faster generally than the macro, some modest level of inflation. From a macro standpoint, 1% or 2% growth just out of that, we typically hold ourselves to in our comp sales. But the remaining 2% or 3% coming from these strategic initiatives. And we have great results from our Fusion remodels. We're only halfway through the chain at this point, less than halfway through on live goods and Garden Centers. And our digital business continues to outperform. And then the excitement that we have on being able to capture some of this new TAM in PetRx and direct sales. So we feel really strong and like I said, convicted that we can get to that long-term algorithm. And that gives us an opportunity we see to be able to continue to modestly grow our operating margin, where we've said we see us in the 10% to 10.5% range. And you put all that together, you got earnings per share growth of high single digits to 10%, 11%, total shareholder returns in the 10% to 12% range. We still see great opportunities for growth and continue to see opportunities for us to give a good return to our shareholders with so much growth potential on the horizon.

Yes. No, that's great. And that's a good segue into -- I want to dive into these next-gen initiatives. I think we talked a lot in the past about Fusion and Garden Center and loyalty. And so I'm not going to go into those too much here. But the next-gen initiatives, I think let's start with direct sales. Really interesting opportunity for you guys. You started talking about it a little bit last year, a couple of more meat on the bone here of late. Talk about the direct sales opportunity, why that's important?

Yes. Start out with maybe a foundational understanding of core Tractor Supply customers. So our core Tractor Supply customer is a hobby farmer. They have 5 acres of land. They'll have somewhere between 5 and 10 animals on their property, maybe a couple of dogs. Over half of our customers have more than 2 dogs, 10% of our customers have horses, 1 in 5 of our customers raises chickens. So you can imagine it's that 5-acre hobby farmer, 5 to 10 animals that is our core customer. When a customer gets larger than that, they kind of graduate themselves out of Tractor Supply. We become a convenience location for them, but they have -- time becomes more of a valuable commodity. And so that's where a more custom sales process and also delivery to their property becomes more important. So these sorts of customers are customers that have 20 acres, 50 acres, 100 acres of property. They're breeding animals on their property or they're having -- they have a kennel or perhaps they have an equine facility or perhaps they have a horse staples. Instead of maybe $1,000 to $3,000 of spend on a weekly basis, they're spending $10,000, $20,000, $30,000 on a weekly basis. And these are -- what we've done is we have the right infrastructure set up to serve these customers in terms of our supply chain. No one buys better than us in the marketplace. We have the lowest pricing in the marketplace. It's really about enabling that customized sale and that final mile to be able to deliver to this $10 billion-plus TAM that we've not previously addressed. And so what we've been rolling out over the last 6 months is a direct sales organization. Over the next 5 years, that will reach somewhere between 600, 700, 800 field sales reps that are out in the market calling on these larger customers. And then as I said, we'll leverage our existing supply chain, whether that's our 19 mixing centers that we have, whether that's our 11 distribution centers that we have or whether that's the direct-to-sale -- direct to property capabilities that we have with our vendors to serve these larger customers. And we think this could be $1 billion of additional sales for Tractor Supply by 2030 with this initiative. And I was just out in a market last week doing some ride-alongs and customer deliveries and it was great to see the business coming to life. There was -- we had one big flatbed truck that we had 2 pallets of horse feed on, a bunch of additional salt blocks and other types of minerals for the horses. And then they had probably 40 or 50 horse panels and plus about 500 T-post, all on one big truck going to a customer's property, $30,000, $40,000 order right there just for a week's time with that customer.

No, that's a super interesting opportunity for you guys. Let's go to final mile, which is somewhat related, but you're looking -- you're talking about in-sourcing your home delivery operations. And we've seen companies across our coverage do the same thing and generally with great success, customer service scores go up and the like. Talk about maybe how much of your order volume is, I guess, delivered by you today, where you're taking that? What are the aspirations there?

Yes. So we sell lots of big heavy stuff. And as a consequence, it's difficult for our customers many times to get those products home. And so this -- our final-mile delivery initiative is a big unlock for us. And really, there's 3 ways it unlocks the business. The first is on our field sales team that we talked about, going out calling on these large customers and having the delivery capability behind it. The second is online. Right now, a large percentage of our online orders are delivered by a third party to a customer's home, say, like a company like XPO. Those typically are lower satisfaction deliveries and also likely have a lot of customer sat gives with them as well. When we bring that in-house, we're able to support that business much better, get a much higher customer satisfaction and also reduce a lot of those customer sat dollars that we have to spend. And the third thing is in-stores. When customers come in to buy products in our stores, a lot of times, as I said, they don't have the means to get at home. You think about a 400-pound gun safe, if you think about a large 100-gallon stock tank or you think about fence panels, whatever the case may be, it could be 5 bags of horse feed on a pallet or something like that. And so now we have the delivery capability in our stores to be able to get that back to a customer's home. So we're in the process of rolling this out. We have about 250, 300 of our stores already with the delivery capability. So we're over 10% of our store base that we've already turned this on this year. And the plan over the next 2 to 3 years is to activate this across the vast majority of our store base. So by the end of 2028, as we head in towards the back half of the decade, all of our stores are lit up with this delivery capability and being able to enable all 3 of those key pieces of revenue streams.

You mentioned PetRx kind of pharmacy earlier. You made an acquisition of Allivet. There's a number of players in this space. Why does Tractor Supply have a right to win in this space? What's your strategy?

Yes. So first off, on pet, we're the fifth largest player in pet in the United States. And that's moving from a position of really doing $0 in the category 15, 20 years ago. So it's been quite a growth engine for us, Pet has. Over the last 5, 6, 7 years, as we've grown that business, we've started to surround it with a variety of services that our customers need. So as an example, 1,200 of our stores now have a pet wash in their store. We're doing over 40 pet washes a week per store, just to give you a sense of the foot traffic and our customers' use of a key service and key feature. We also offer PetVet clinics in our stores. And we have mobile clinics that go around to all of our stores once a week, twice a week for 4 hours or 8 hours at a time and allow our customers to get low-cost vaccinations and other low-cost vet services, chips and those sorts of things in their animals. We also have historically offered Rx. We've done that -- and we did that through a third party called Allivet. At the beginning of this year, we purchased Allivet. It was just over $100 million transaction. It does a little over $100 million in revenue. It's a profitable business. And for us, the big unlock is to take all the capabilities and the infrastructure that Allivet has around pet and animal Rx and combine that with our 40 million-plus Neighbor's Club members, 80% of which have a dog, 50% of which have more than 2 dogs and kind of integrate those together and drive an affordable Rx solution for our customers. And so we're 4 months into the acquisition now, 5 months in. It's off to an excellent start. We've already launched Rx on tractorsupply.com in a full custom way, leveraging all the APIs off of Allivet. A little bit of background on Allivet. So they have licensed -- they're licensed in all 50 states in the United States to sell pet and animal Rx. They've got 3 distribution centers in the United States, 1 in Ohio, 1 in Florida, 1 in Las Vegas. They will -- 90% of the time, your Rx is confirmed same day, 95% of the time the Rx is delivered to the customer within 2 days after confirmation. So it's a well-oiled machine. They do an excellent job of operating and they make money. And we're excited to incorporate them in the business and just bring a great new feature to our customers. And also, we've said that this can be -- has the potential to be a $1 billion business by 2030 as well.

Incredible. So we're coming up on time, but it wouldn't be a retail fireside if we didn't bring up retail media. Everyone's doing it, what's Tractor Supply's approach to retail media?

So we do over $1 billion in sales on our website. So we have a -- and in our digital properties more broadly. So we have a nice, large, robust website. In fact, our digital business is larger than any of our farm and ranch competitors' total sales with the exception of one, just to give you a sense of our scale and size that we have in the industry. And beginning of this year, we started to really ramp up our retail media efforts. And we now have a full suite of offerings, including on-site product listing ads, on-site banner targeting ads as well as off-site third-party media where we plus up the intelligence around it and are able to provide that to our vendors. We've seen great adoption of the retail media. We talked about on our Q1 earnings call that we did more in Q1 in retail media sales in all of 2024, but we expect that with the hyperbolic ramp-up in this capability. But it's a service that a lot of our more CPG-like vendors are really embracing quickly, say, in pet and in tools and hardware. And then, of course, we're educating some of our vendors who are a little less adept in this category -- in this area of marketing. But it's been a -- we're off to a great start there and really pleased with our progress.

Terrific. Hal, Kurt, thanks so much for your time.

Thanks, Peter. Appreciate it.