Tractor Supply -- Take Profits

We are downgrading Tractor Supply Co.’s (TSCO - Analyst Report) shares from a Buy to a Hold. The shares are up 40% in just over two weeks, and we think it makes sense to take profits right here. The shares look fairly valued at 15.5x our 2008 EPS estimate and 14.0x our 2009 EPS estimate. Our target goes from $39 to $40, which is 14x our 2009 EPS estimate.

On July 23, the company reported better-than-expected results for the second quarter, beating the consensus estimate by $0.05. The management reiterated its sales and EPS guidance for full-year 2008. Despite the difficult macro conditions, including higher food and energy prices and weak consumer confidence, Tractor Supply’s focus on sales growth and cost controls is enabling the company to deliver solid results.

We feel that Tractor Supply’s plan to increase its reach to small towns across the country is the right approach to take. The company plans to increase its store base to over 1,400, up from its current total of 814 stores. At the same time, the company is also eliminating under-performing units and relocating existing stores to better locations.

There is a risk that its cost cuts may not be able to keep up with gross margin pressures. In addition, the company’s continued store expansion has sizable upfront costs, but minimal near-term benefits from its new stores. Most of the benefits from store expansion will be realized over the long term as the newer stores become established. These higher near-term costs will most likely continue to be a drag on TSCO’s margins and earnings over the next few quarters.

Read the full analyst report on TSCO

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