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America’s largest pet pharmacy, PetMed Express (PETS - Analyst Report) reported earnings of 20 cents per share in the second quarter of fiscal 2013, a penny ahead of the year-ago quarter and surpassing the Zacks Consensus Estimate of 17 cents. Net sales remained almost unchanged at $58.1 million, but surpassed the Zacks Consensus Estimate of $57 million.

The Florida based company added 177,000 new customers during the quarter compared with 184,000 in the second quarter of fiscal 2012. PetMed reported a 2.1% year-over- year increase in reorder sales to $46.4 million though new order sales dropped 8.1% to $11.7 million owing to reduction in advertising and lower average order value. Sales continued to be adversely affected by the unavailability of branded products from Novartis (NVS - Analyst Report) due to suspension of its production.

It seems that PetMed has been successful in pushing its sales via the internet, which is reflected in the 2.9% increase in online sales. Approximately 77% of the company’s orders were generated on the website compared with 74% in the corresponding year-ago quarter. 

Gross margin contracted 90 basis points (bps) to 33.3% during the quarter with the average order size declining by 5% to $72. This reduction was primarily due to additional discounts and a shift to lower-priced product mix, mainly generics. Increase in freight costs was also responsible for lower margin.

A 4.2% drop in general and administrative expenses (to $5.4 million) and a 6.1% decline in advertising expenses (to $7.4 million) led to a 5.3% reduction in operating expenses (without depreciation) to $12.8 million. Consequently, operating margin improved 30 bps to 11.3%.

PetMed reduced advertising expenses during the quarter due to the unavailability of any television remnant space. However, the cost to acquire a new customer dropped to $42 from the year-ago quarter’s $43. The company would continue to advertise efficiently along with shifting sales to higher-margin products while expanding its product portfolio, including generic pet medications.

PetMed exited the quarter with cash and cash equivalents of $47.0 million compared with $46.8 million at the end of March, 2012. The company repurchased 397,000 shares during the quarter for approximately $3.9 million.

Recommendation

PetMed reported a mixed second quarter with still struggling sales. Although the company is attempting several strategies to revive its top line, it will be a while before any impact is witnessed. The company offers a wide range of products for dogs, cats, and horses and is working on expanding its portfolio. However, the presence of players like PetSmart (PETM - Snapshot Report) makes the pet pharmacy market very competitive. To address competition, the company has adopted an aggressive pricing strategy that might hurt its margins.

The stock retains a Zacks #3 Rank (Hold) in the short term.

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