Fertile Ground for Tractor Supply


By Suzanne Robitaille For a growing group of Americans, recreational farming and ranching -- with the opportunity to garden, ride horses, and maybe even start a vineyard -- are ideal breaks from high-stress jobs and city living. Nashville-based retailer Tractor Supply (TSCO) is cashing in on this yearning for the simple life.

The niche retailer, which started out as a mail-order catalog in the 1940s, now has 475 stores in 30 states with large rural populations, and is looking to carve out a bigger national presence. Tractor is already the largest retailer catering to the rural lifestyle, selling everything from outdoor power equipment and lawn tools to pet food, horse equipment, and denim overalls.

Farmers and back-to-the-land urban and suburban dwellers aren't the only ones paying attention. Investors like what they see, too. Tractor has been growing at a fast clip since its purchase of bankrupt rival Quality Stores in late 2001. It rang up $1.47 billion in 2003 sales, up 23% over 2002, and it anticipates sales rising at least 15% this year, to around $1.7 billion. Earnings per share should also jump by at least 11% from 2003, to between $1.66 and $1.69.

ROOM TO GROW. In the first quarter -- traditionally its weakest -- Tractor posted EPS of 9 cents, vs. 5 cents in the prior year, while revenues rose 21%. For the second quarter, ending June 28, analysts expect more upswing. Tractor sees second-quarter EPS of 69 cents to 71 cents on revenue of $500 million to $520 million. Piper Jaffray analyst Michael Cox, who recently raised his second-quarter EPS estimates to 75 cents, says Tractor's "strong growth prospects" and share price present a buying opportunity. (Piper Jaffray hasn't received compensation from Tractor in the last 12 months.)

With a 52-week high and low of $45.82 and $23, respectively, Tractor's stock closed at $37.50 on June 4, and analysts who follow it see plenty of potential upside. Cox has an outperform rating and a price target of $51 on the stock.

Scott Petit, an analyst at Avondale Partners, is even more positive. He sees EPS of about 77 cents in the second quarter, due to favorable weather conditions across the country and solid store-traffic trends. Warm, wet weather is a plus for Tractor in the all-important spring selling season, prompting sales of riding mowers and other outdoor power equipment. (Petit's firm expects to provide investment banking services to Tractor this year.)

TODAY'S HOMESTEADERS. Same-store sales (sales at stores open at least one year) grew 12.4% in the first quarter, and gross margins rose two basis points, to 30.5%. Yet, Tractor sees plenty more fertile ground. It plans to open 52 new stores in 2004, including three pilot stores in California and a new store in Connecticut, its first for New England. Tractor's plans call for 575 locations by yearend 2005, including scores of stores along the West Coast and in the Northeast, where it now has 48 stores: 21 in New York and 27 in Pennsylvania.

A store that sells ranching supplies might not seem an obvious fit for New England, but the chain is betting that the growing trend toward a more rural lifestyle won't slow down. "It's a reaction to urban sprawl," says Avondale's Petit. According to the Agriculture Dept., 63% of the nation's 1.2 million farms are classified as retirement or hobby farms.

Large farms are dwindling, and only small ones -- 10 to 50 acres with less than $10,000 in annual sales -- are increasing in number. In Michigan, where Tractor has 46 stores, the number of small farms has increased about 22% over the last five years, according to a 2002 census from the state's Agriculture Dept. As the suburbs push out, "a whole new kind of city is being created," with tracts of land divided up into 10-acre ranches, says Gary Holdsworth, an analyst at Wedbush Morgan.

FEEDING THE CRITTERS. Same-store sales growth looks promising, having hit double digits for three quarters in a row, helped by new pet foods and a private-label clothing line. Petit sees same-store sales growth of 8% in the second quarter, pointing out that Tractor should be able to easily beat last year's numbers. He has a market-outperform rating on the stock, and a $52 price target.

Over the next three years, Holdsworth says he's confident in a 20% average earnings growth rate. He thinks 2004 could be a bit lower because of the costs associated with an accelerated new-store opening schedule. However, these investments should pay off for the chain in 2005 and 2006, he adds.

Another area Tractor could till is pet supplies. It reaped 32% of its 2003 sales, about $470 million, from pet and livestock products. While Holdsworth says the stock is fully valued now (he has a hold rating and $43 target), he thinks rapidly growing demand for pet supplies could push that higher. "It's a $20 billion market, and 75% of Tractor's customers own cats or dogs, while 7% own horses," he says. (Wedbush receives banking compensation fees from Tractor.)

POTENT RIVALS. Rocks in the soil? Maybe a few. A drastic change in weather can have a dramatic effect on quarterly earnings of farm suppliers. Tractor also has to maintain its niche, keeping customers away from discounters like Wal-Mart (WMT) and department stores such as Sears Roebuck (S). It has succeeded so far, by positioning its outlets in more rural areas than its competitors, offering a selection of merchandise that the more general-oriented stores don't, and focusing on customer service. For example, each Tractor store employs a welder, rancher, and a horse owner -- specialists you won't find in Sears.

Though Wal-Mart has a store in every market where Tractor competes, Tractor sells more of certain types of merchandise -- from horse-riding equipment and lawn tractors to pickup-truck toolboxes -- than any mass retailer, including the discount giant. "There are no other pure-play operators in this space," says Piper Jaffray's Cox.

Battling Wal-Mart in an aggressive price war would be difficult, as Tractor says it won't offer sale prices. Avondale's Petit says he hasn't seen any signs that Tractor is making drastic price cuts to compete with discounters.

BACK-TO-EARTH. The stock has traded relatively flat for the last three quarters. Valuation has caught up with results, and that's reflected in investor sentiment, says Andrew Wolf, an analyst at BB&T Capital Markets, who points out that Tractor shares trade at a price-earnings multiple of 23.1 times his estimated 2004 EPS of $1.70. He has a hold rating on the stock, but he thinks double-digit earnings growth is realistic later this year. (Wolf expects BB&T to be providing banking services for Tractor in the next three months.)

Turning the simple life into a lucrative business is the name of Tractor's game. Lots of investors will watch to see if the retailer's bet on a back-to-earth lifestyle pays off. Those already convinced might want to buy now, with expectations that their portfolios will blossom. Robitaille covers the markets for BusinessWeek Online in New York


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