Analysis: The Pantry (Part 1 of 2)

Published in CSP Daily News

With stock prices below their original issue, CSP Daily News examines an industry leader

By  Mitch Morrison, Vice President & Group Editor

SANFORD, N.C. -- At the end of the 20th century, The Pantry, led by charismatic roll-up specialist Pete Sodini, launched an initial public offering (IPO). The Southeastern retail giant was on an acquisition frenzy with a voracious appetite that carried through 2006. The past year or so has been a different tale, and news of late has emphatically crimped The Pantry 's once seemingly limitless M&A account.

As of midday yesterday, the company 's stock was trading at $10.42, less than one-quarter its 52-week high and even below the $13 initial public offering of nine years ago.

Rumblings [image-nocss] are surfacing that the chain 's best days are behind it, that the bigger-than-life growth pace that ballooned The Pantry 's portfolio to an impressive 1,650 stores across an 11-state swath is over. In interviews with analysts and other industry observers, The Pantry sits in an intriguing, if not uncertain, position.

Its revenues are enough to cover its covenants and stave off any short-term speculation of filing for Chapter 11 reorganization. Likewise, the retailer 's total debt of approximately $1.2 billion makes it an unlikely takeover target despite its vulnerable stock value.

At the same time, some analysts are expressing concerns about The Pantry 's long-term viability, citing a heavy debt load, an over-dependence on gasoline margins, serious miscalculations on its long-vaunted fuel-hedging positioning, and the lack of a robust c-store concept to draw customers in from the pump.

“They 're doing what they can in the near term. They 're cutting back capital expeditures and saving some cash,” one analyst, who like others interviewed for this story agreed to speak only on condition of anonymity, told CSP Daily News. “They have a partnership with Subway, and they have a lot of private label. But I don 't see anything that stands out to make their stores a destination.”

Fuel Infatuation

That The Pantry 's stock value has slipped isn 't necessarily a harbinger for the financial junk heap. The company has long coursed a topsy-turvy ride on Wall Street, swooning at one time below $1 and nearly being delisted, only to crest above $70, enjoying the fat of abundant fuel margins that exceeded industry averages by 4 to 5 cents a gallon.

But what makes today 's picture more uncertain are the fundamentals that threaten what has made The Pantry one of the country 's five largest independent c-store chains.

While other publicly traded convenience chains have offered mixed reports of late, some—such as Delek, Casey 's and Susser Petroleum—have staged expanded fresh proprietary foodservice offerings to offset sluggish fuel margins and to wean themselves off pump dependency.

For The Pantry, however, much of its fortunes rest on the performance of its pumps. In a recent quarterly conference call with analysts, The Pantry 's CEO Pete Sodini blamed a decline in year-over-year same-store sales on disappointing gross fuel margins that were about 9 cents a gallon once credit-card fees were factored in. The Pantry reported 11.5 cents per gallon one year ago.

Especially hurting The Pantry was its use of crack spreads, hedges that in effect sell oil and buy gas. With the price of oil rising faster this past quarter than the price of gasoline, the hedge created a loss. Wall Street analysts explained that The Pantry had essentially placed its bets that crude-oil prices would top somewhere between $100 and $105 and for refinery margins to generate more margin than they did.

“What they did wasn 't necessarily unsound,” said one observer familiar with The Pantry. “The problem is they were wrong with their predictions and now they 're paying for it with lower margins.”

A Wall Street analyst who has tracked The Pantry 's operating model for several years was less kind in his observations. “Management made a very bad call. Everyone in the Street has been saying that refining margins were not going to be that high, and The Pantry still went ahead with its hedge.”

Indeed, The Pantry 's fuel-hedging positions cost the business a one-time loss of 1.6 cents per gallon, or 23 cents per diluted share.

Tomorrow, CSP Daily News will look at how in-store sales are affecting The Pantry and what might lie ahead.

By Mitch Morrison, Vice President & Group Editor
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