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Fred's' Q3 Earnings in Line, Revs Miss

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Fred's Inc.’s third-quarter fiscal 2013 earnings of 20 cents increased 11% year over year driven by improved margins and cost savings. Earnings were, however, in line with the Zacks Consensus Estimate and also within the company’s expected range of 19 cents to 23 cents.

Revenues and Margin Performance

Total sales increased 2.0% year over year to $460.5 million, slightly missing the Zacks Consensus Estimate of $461.0 million. Sales were within Fred’s’ top-line growth expectation of 1%–3%. Modest sales gain in food and tobacco and pharmaceuticals businesses/segments were offset by sales decline in household goods, apparel and linens, paper and chemicals and franchise categories.

Fred’s’ comparable store sales (comps) climbed 1.4% during the quarter, better than a 2.5% decline a year ago and within management’s expectation of flat to up to 2%. Comps improved on the back of higher customer traffic and average ticket during the quarter.

Gross profits grew 2% to $140.2 million while gross margin shrank 20 basis points (bps) to 30.5% from the year-ago quarter. Gross margin shrank mainly due to higher merchandise markdowns.

Disciplined cost management led to lower selling, general and administrative (SG&A) expenses in the quarter. SG&A expense margin leveraged 30 bps to 28.2% in the quarter. During the quarter, Fred's closed four stores and opened eight locations.

Operating income rose 5.1% to $10.6 million and operating margin inflated 10 bps to 2.3% in the quarter due to prudent expense management.


Fourth-quarter fiscal 2013

For the fourth quarter of fiscal 2013, Fred’s forecasts total sales to increase in the range of 1% to 3%, while it expects comparable store sales to be flat to up 2%, better than a decline of 2.8% a year ago. The company expects earnings to remain within a range of 18 cents–23 cents per share in the quarter, compared to 18 cents in the year-ago period.

Management is well on track to improve its pharmacy department growth and expand its specialty drug program. However, the company expects the unfavorable retail conditions to continue through the rest of fiscal 2013.

Fiscal 2013 Outlook Retained

Management expects the competitive climate to be intense and the operating environment to be challenging in the second half of the year. Consumer discretionary spending is expected to remain low, especially of the lower income consumers which comprise Fred’s’ principal customers. For fiscal 2013, Fred’s continues to expect earnings in the range of 81 cents–86 cents per share, representing 17% to 25% growth over the year-ago level.

The Zacks Consensus Estimate is pegged at 22 cents per share for the fourth quarter and 85 cents for fiscal 2013.

Other Stocks to Consider

Fred's currently carries a Zacks Rank #4 (Sell). Other diversified retailers worth considering include The TJX Companies Inc. (TJX - Free Report) , Pricesmart Inc. (PSMT - Free Report) and Big Lots Inc. (BIG - Free Report) . All these stocks carry a Zacks Rank #2 (Buy).

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