Core-Mark Holding Company, Inc.
Q2 2018 Earnings Call Transcript

Published: 7 Aug 2018

[Operator:]

Welcome to the Core-Mark 2018 Second Quarter Investor Call. My name is Vanessa, and I will be your operator for today's call. [Operator Instructions] Please note that this conference is being recorded. And I will now turn the call over to your host Ms. Milton Draper.

[Milton Draper:]

Thank you, Operator. I would like to welcome everyone to Core-Mark's second quarter 2018 investor call. Joining me today are Scott McPherson; our President and Chief Executive Officer and Chris Miller, our Chief Financial Officer. Also in the room is Matt Tachouet, our Chief Accounting Officer. Core-Mark's issued its earnings press release earlier this morning. You can find the copy of it on our website under the Investor Relations tab. Today's discussion will include both GAAP and non-GAAP financial measures. A reconciliation to GAAP of these non-GAAP financial measures is included in the earnings press release. We will also be discussing forward-looking statements. These forward-looking statements are subject to risks and uncertainties. Actual results to differ materially from management’s current expectations. We refer you to the documents we periodically filed with the SEC, specifically our 10-K and our 10-Qs for a discussion of risks that may affect Q2 results. I’ll now turn our call over to Scott McPherson.

[Scott McPherson:]

Good morning, everyone, and thanks for joining us. After my review of the quarter, Chris will discuss the financial results in more detail and then we'll open it for questions. Our second quarter results built on the solid showing in the first quarter and increased our confidence in the outlook for the year as we move through the all important summer seasons. Sales grew by 11.2% year-over-year to $4.2 billion and EBITDA came in at $42.4 million up above 41%. At a high level, we are pretty happy with the sales performance, which was driven by our focus on growing same-store sales and our independent store account. On the expense side results are improving, but mixed. We saw a strong warehouse performance, but despite some signs of traction in transportation, we have much more to do there. Results overall were held by moderating cigarette carton declines and continued operational improvement at the division level. I'll dive more into the results in a moment, but since this is my first call following Tom's retirement, I'd like to level set our analyst and investors on our current industry position and our strategic and operational priorities. Core-Mark today is the second largest distributor to the convenience retail industry and we affectively share the number one position if you're looking at just the C-Store segment of the market. We have market shares somewhere in the mid-to-high end single digits on a revenue basis and the mid-to-high teens on a store account basis. That means we have more scale than just about everyone, but we also operate in a highly fragmented industry, which creates opportunity to grow in multiple directions by adding stores and share both organically and through acquisitions and operationally by leveraging our scale to drive better margins and profitability. If we are executing smoothly and capitalizing on the opportunities in front of us, our business should produce EBITDA growth in the range of 8% to 12% annually, which is consistent with our historical levels. We have three main priorities in pursuit of that goal. First we want to drive our scale in competitive advantages and grow faster and more profitably than our industry. We aim to drive same-store sales growth across our existing customer base while expanding market share in the independent store segment. We will continue to build upon our strong portfolio of larger national C-Store customers, and pursue acquisitions that fit our criteria when the right opportunity arrives. Second and in support of our growth objectives, we want to be the industry leader in category management solutions. The convenience retail market is evolving as the consumption habits change for foods, tobacco, and other products and it's our job to help our customers cross first through that evolution. We have strategies we've talked about with all of you including vendor consolidation and FMI, as well as our increasing focus on fresh and food service. We also invest in technology tools that better enable our sales reps to identify real time what our customers need on their selves. While we've talked about these initiatives somewhat independently in the past, it's useful to think about them in a border sense as category management. Helping our customers have the right products on their selves at the right time to maximize their sales and profits and by extension our sales and profits as well. Third and definitely not least, we will continue to improve the leverage in our cost structure. This is a scale business where every dollar matters. We use technology to drive efficiency across our division, our base of drivers, our sales organization, and in our warehouses and we continuously look for additional efficiencies to reduce fixed costs. My roots at Core-Mark are deep in the operation side of the business and you will see us get better at turning over every stone to ensure we are driving cost out of the business. So with that as context for our strategy, let's take a closer look at how we performed in the second quarter. On the topline, overall sales were up 11.2% and non-cigarette sales were up 22% for the quarter. Tracking with industry trends that show overall healthy growth in non-cigarette categories. Same-store non-cigarette sales were also strong at 6.8%, another driver of our sales growth strategy is the progress we are making and adding independent stores, as I mentioned at the top of my remarks. We have added more than 490 stores year-to-date. Typically these stores fit well into existing driver reps, so on the margin they are profitable additions for us. Another key factor in our sales growth is the continued moderation cigarette carton declines, which are now more in the neighborhood of historical norms. Same-store carton declines were about 2.5% for the second quarter. Gross margins for the quarter of 5.13% was a solid result. We are seeing gross margins increase year-over-year driven by the shift and mix to non-cigarettes and the increased consumption of alternative nicotine products. Vaping products in particular carry higher margins than cigarettes. So while they don't replace the lost volume in cigarette smoking declines in the U.S. they do mitigate the impact. I'm pleased with the job our sales organization is doing capitalizing on the emerging trends in the nicotine category. Looking at fresh and food service same store sales, we continue to generate growth finishing at 6.2% and 3.3% respectively in Q2, but obviously those numbers are not meeting our expectations. Industry data suggest growth of fresh in the convenience category has softened a bit recently, there is speculation in the trade as to what it is. Some attributed to more aggressive promotional activity from fast food and fast casual restaurants, as they seek to stake claim to the healthier menus. Regardless of the reasons we think fresh and food service will continue to play an important role in the C-store market. It is growing. It remains a priority initiative for us and we're focused on continuing to evolve the category and expand offerings for our customers. On the operating side, we saw good warehouse performance in the quarter as we continue to increase throughput and keep overtime levels manageable. I mentioned last quarter that we had done a good job with staffing positioning us for the summer and that has helped our results. I'm also pleased with the progress of the two divisions that we spend a lot of time talking about on prior calls. We're seeing improved results both financially and from a customer service perspective. Q3 is an exceptionally busy period for us so I want to see the progress continue through the summer before declaring victory but I'm optimistic that both divisions are on track. We're also very pleased with the Iowa division's performance. In transportation, we're seeing some positive signs from our efforts but this remains a key area of focus. We will continue to place emphasis on drivers staffing through the summer and find areas to optimize around efficiency but we have more to do. All that said, we plan to make continued progress on both warehouse and delivery in the third quarter. Overall SG&A performance was good relative to our expectations. Chris will provide more detail on SG&A but I would like to know one development that will benefit this line item in the future. Recently we have finalized plans to relocate Core-Mark’s corporate headquarters to the Dallas Fort Worth area. The move will take place during the first half of 2019. The cost of operating out of the San Francisco Bay Area high and while San Francisco is our long time home, the business has expanded dramatically over the years. Dallas offers a better operating cost lower taxes and is a central location for what is now a nationwide business. Being closer to our customers and more central to our divisions will create cost and logistical efficiency for us. Wrapping up, we've got a solid first half of the year with momentum from key areas continuing for the first quarter into the second. Sales trends overall are positive held by our traction in winning independent stores. Solid growth in non-cigarette sales and more normalized environment and cigarette cartons. The operating picture is improving especially on the warehousing side as we have good line of sight into what we need to do to drive additional improvement. Q3 is key for us as always, but we're confident in our outlook for the year and have a clear strategy in place to return Core-Mark to the steady and profitable growth, our investors should expect from us. Thanks again. And now here's Chris.

[Chris Miller:]

Thank you, Scott and good morning everyone. I'll start by first reviewing our key profitability metrics and the factors that drove the strong financial results for the quarter. As a reminder, our financial results include the additional Walmart and the Iowa acquisition which we lapped in May and July respectively. Net income showed a healthy increase to $11 million and $0.24 per share for the quarter compared with $6.9 million or $0.15 per share in the second quarter of last year. Excluding LIFO expense in the quarter, diluted earnings per share increased $0.14 to $0.35 compared with $0.21 last year. The decrease in the federal tax rate which we discussed in Q1 contributed $0.04 to the increase in EPS for the quarter. Adjusted EBITDA increased 41% to $42.4 million from $30.1 million last year which was a strong result driven primarily by Iowa sales growth in our non-cigarette categories and improved operational performance. From a profitability perspective, while we still have the critical third quarter ahead, our improved results in the second quarter and for the first half of the year strengthened our confidence in achieving our guidance. And looking at the topline, net sales grew 11.2% to $4.2 billion compared to $3.8 billion. The increase was due mainly to continued strong performance in our non-cigarette categories and an improvement in same-store cigarette carton sales which declined 2.5% and was consistent with our historical trends compared to 9% in the first quarter of this year. Sales for the non-cigarette categories which now represents approximately one-third of our overall sales grew 22% which benefited from the addition of Iowa and Walmart continued diversification of our product offerings and net market share gains. Excluding sales from the Iowa division and Walmart non-cigarette sales increased 7%. And looking at key categories total fresh sales increased 18.4% as we continue to meet customer demand for healthier products. Total sales for both food and OTP increased 17.5% and 19% respectively. Our health, beauty and general products which produced the highest level of category growth across the company increased 36%. Driven by the growth in alternative nicotine products which continues to show strong demand helping to offset declines in cigarette consumptions. Candy sales grew 30.3% mainly attributable to Walmart. As for cigarette sales they were up 6.6% in the quarter driven by Iowa and increases in manufacturing prices. Gross profit showed a healthy increase of 16.6% to $216.9 million over the $186.1 million in the prior year’s second quarter. LIFO expense increased $6.9 million compared to 4.6 million in the second quarter last year. Remaining gross profit which excludes inventory holding gains LIFO expense and OTP tax reforms increased $220.3 million up 16.8% for the quarter. Remaining gross profit margin increased 24 basis points overall to 5.2% primarily due to the sales mix shift to higher margin non-cigarette products. Cigarette remaining gross profit increased 7.9% to $57.6 million while non-cigarette remaining gross profit was up 20.3% $262.7 million. Non-cigarette remaining gross profit margin increased 16 basis points in the second quarter of this year compared to Q2 last year. Excluding the impact of the Walmart business and the increase in OTP sales which have a significantly lower margins than our other non-cigarette categories. Non-cigarette remaining gross profit margin improved by approximately 30 basis points, this increase was driven by the addition of Iowa and a shift to higher margin non-cigarette products. Improving non-cigarette margins is the key focus for the organization to drive improvements in earnings. Total operating expenses increased $24.6 million to 198.6 million in the quarter of which $17.2 million came from the Iowa division. Operating expenses were 4.7% of net sales in the quarter a slight increase over the 4.6% for the second quarter 2017. The shift in sales mix to non-cigarette during the quarter unfavorably impacted OpEx as a percent of sales due to the substantially lower price points of these products. To get a more meaningful comparison of our OpEx leverage we look at OpEx as a percentage of remaining gross profit which yielded 90.2% for Q2 this year compared with 92.3% last year. So we clearly saw leverage in our overall expenses. Warehouse and delivery costs increased $16.3 million or 13.8% compared with last year’s second quarter. Warehouse represents the bulk of our cost leverage as we've seen strong improvement in our overall throughput. From a transportation perspective, the market for drivers has continued to intensify putting pressure on our labor costs not to mention the continued escalation in fuel prices. On a positive front, our on-time delivery and other key transportation metrics are improving. Overall, warehouse and delivery expenses were 61% of our remaining gross profit this year versus 62.6% last year. SG&A expenses increased $7.5 million and 13.8% to $61.7 million during the quarter. Excluding expenses forward the addition of the Iowa division, SG&A expenses increased 3.5% or 22 last year. As a percentage our remaining gross profit, SG&A expenses were 28% for the Q2 this year compared with 28.7% last year. Our free cash flow, which we define as net cash from operations less net CapEx and capitalize software was $158.9 million for the first six months of this year, which increased from the $93.7 million we generated through the end of the first quarter. Through the first six months, this was a substantial improvement in free cash flow compared to the $74.4 million we generated for the first six months last year. At the end of the second quarter, our long-term debt was $363 million compared with $444 million at the end of Q1. So, we've made good progress in paying down debt. We expect our debt leverage to be in the range of 2x to 2.5x adjusted EBITDA at the end of 2018. During the quarter our capital spending was $3 million and we used $4.7 million of cash to repurchase approximately 233,000 shares at an average price of $20 per share. Approximately $30 million remains under the authorized share repurchase plan. Our dividend is $0.10 per share with the next quarterly dividend payable on September 14, 2018 to shareholders of record on August 28, 2018. And looking at our outlook for the full year of 2018, we are reaffirming our previous financial guidance. Sales are expected to be between $16.6 billion and $16.8 billion, representing a growth rate of 6% to 7% over 2017. Adjusted EBITDA is expected to be in the range of $157 million to $167 million, representing growth over 2017 of 16% to 23%. Diluted earnings per share is expected to be between $0.84 and $1 and $1.13 and $1.29, excluding LIFO expense, which represents 13% to 29% growth over the $1 per share we reported in 2017. We expect free cash flow to be closer to the $60 million, which is the high end of the range I mentioned on the Q1 call. This is dependent however on the level of inventory purchases in capital expenditures in the second half of the year. This higher level of free cash flow will support our debt reduction plan and provide flexibility in executing on our capital allocation strategy, which includes investments in our operations and market share growth, and returning capital to investors thorough the share repurchases and our dividends. Our guidance assumes cigarette inventory holding gains of $16 million, factoring in two prices increases during the year, which is consistent with what we had experienced the last several years. LIFO expense is forecasted to be $18 million for the year, and we are assuming an effective tax rate of 25%. Incremental interest is expected to be between $4 million and $5 million over 2017, subject to any interest rate increases. Diluted shares outstanding are expected to be $46.4 million for the year. Overall, we had a strong second quarter and first six months this year, and are making steady progress driving operational efficiencies, reducing costs, and scaling our business. Our strong results reinforces our confidence in our outlook and positions Core-Mark for future growth opportunities, as we head into the important summer season and second half of 2018. Now I will turn the call to the Operator for questions.

[Operator:]

[Operator Instructions] And we have our first question from Ben Bienvenue with Stephens.

[Daniel Imbro:]

This is actually Daniel Imbro on for Ben. Thanks for taking our questions and congrats on the quarter. Wanted to start on the cigarette volume trends, you guys saw, I think obviously improved sequentially but any more color you can add on what you think is driving that? I mean we did lap over the excise tax increases last year but is there anything else going on maybe with the consumer - see things happening?

[Scott McPherson:]

Yes, I mean I think you pointed out the - probably the biggest impact was the lapping over the excise tax which was a big buy in and then a big trough quarter-over-quarter. The other thing we saw in Q1 that we've seen some improvement is, Q1 we saw a significant carton decline in the East, which I think part of it was some major weather events. We had some divisions that had some material disruption to service in their markets. But I’d say overall if I look at the first half of the year and kind of average that out, that’s kind of my expectation for the balance of the year.

[Daniel Imbro:]

Moving over a little bit towards capacity, you guys have done good job bringing the West Coast, DC kind of back towards profitability. But to continue servicing 7-Eleven, do you think that you might need to add capacity in the coming years out there. And then similar line down at Tampa you guys had talked about ramping your independent business, curious how that's progressing?

[Scott McPherson:]

So 7-Eleven like you said or the Western divisions overall, I think we've got them back where they are operating very well. We still have capacity in some of the markets in the West so really, kind of depend on as we sit down and talk to 7-Eleven about future opportunities. Obviously we’ll target areas where we have more capacity but we’ve got a good partnership there and if we need to expand capacity and markets obviously we have the capital to do it, and if it’s the right opportunity we’ll definitely expand capacity. As far as Tampa's going, Tampa is definitely laser focused on growing independent and I’d say that through the first of the year that made steady progress never what I want but they're getting there.

[Daniel Imbro:]

Last one from me. Leverage took a nice step down in the quarter, what do you guys envision your leverage ending the year. It sounds like your more focused on improving the operations in the next few quarters. So in the absence of M&A what’s the preferred use of excess cash flow, is it just to delever the balance sheet or.

[Scott McPherson:]

Yes, I think in the short run we've been focused on paying down debt. We've been very successful with acquisitions. We want to make sure we're in a position to do that. We've done some share buyback as well, and we think that our share is a value. And you saw we made some small buybacks early in the year, but I would say for the balance of this year our focus is to continue to decrease our leverage and position us for next year to grow via expansion or via acquisition or any other business opportunity if it’s building expansion or other things?

[Operator:]

And our next question comes from Andrew Wolf with Loop Capital Markets.

[Andrew Wolf:]

Wanted to ask in getting Sacramento and some of the other DCs that were impacted last year back to where their normal operations, what inning are you in there, as we try to assess how much of this quarter's EBITDA kind of split between your growing the business and also increasing the earnings power back to sort of a more normal rate?

[Scott McPherson:]

I guess the good way to put it I would say we’re in the fifth or sixth inning there, may be the fifth inning of a nine inning game. I’m very pleased with the management teams there and the people that they have surround themselves with. And we’re at the peak of summer in those two divisions are operating very well. What gets us into the six, seventh, eighth and ninth-innings with those divisions is getting back into a growth mode with independents and growing their business and really dropping that to the bottom line from a profitability standpoint. So I would say we’re about halfway to where I want to be.

[Andrew Wolf:]

And I guess after such a good quarter certainly versus my estimate the consensus is that kind of why you didn't raise guidance or indicate maybe the higher-end was where you think you could be. You just and operate the operations need to perform the way you want them to or is just - was the quarter close to your plan and we were all just a little low?

[Scott McPherson:]

I would say the quarter was close to our plan, but you got to keep in mind that in our business Q3 is a lion share of the profitability. So at this stage we’re focused on executing in Q3 and we’ll take a look at where we stand at the end of that.

[Andrew Wolf:]

And just wanted to ask one other question that you had mentioned M&A and you said, if the operations even more on track this year, but you can always control when assets come up for sale. So I mean, if your hand were forced and a good asset were put into auction, you think business is at a place now where you could do a decent size deal if the market conditions were?

[Scott McPherson:]

Yes. Chris and I have talked about it multiple times and I think we both feel confident that if it was the right opportunity, we would go get it done.

[Andrew Wolf:]

But not out of necessity or need. More out of that the business is already -- even in the fifth inning or whatever it's already it’s not going to backslide if you're busy doing the integration?

[Scott McPherson:]

Right.

[Andrew Wolf:]

Quick housekeeping, if I will -- if you could. The 490 new independent stores, is that a net number or is that not net?

[Scott McPherson:]

Yes.

[Andrew Wolf:]

So it's net of whatever you might have lost or – given you've closed the doors.

[Operator:]

And our next question is from Kelly Bania with BMO Capital Markets.

[Kelly Bania:]

Curious if you could just give a little more color on what Iowa division added to top line? You gave us the numbers on expenses, but what it added to top line. Just trying to get a sense of what organic growth was for the quarter and just how that compares to the last couple of quarters?

[Chris Miller:]

So, I've mentioned on non-cigarettes if you take out Iowa and Walmart, we grew about 7%, is that kind of what you were looking for or…

[Kelly Bania:]

I was looking for non-Iowa not non-cigarettes.

[Chris Miller:]

Just in total sales?

[Kelly Bania:]

Really just trying to kind of zero in on organic growth.

[Chris Miller:]

While the same-store sales was, as Scott mentioned, up 6.8% for the quarter. And then the independent, we added the 490 stores. We don't -- we haven't typically called that out separately

[Scott McPherson:]

Kelly, another way look at it, we don't call our divisions specifically but you can probably go back and look at the acquisition and you can figure out what they do in revenues and that would give you a pretty good indication.

[Kelly Bania:]

Yes, I am just -- I guess thinking about the next couple quarters I think our kind of quarters where it's mostly going to be organic. So I am just trying to think about what the kind of run rate of organic sales?

[Chris Miller:]

Right.

[Kelly Bania:]

Or if there is a change in trend and improvement in trend. So, okay -- and any comment you can talk about in terms of just the underlying sales momentum you see at your chain customers versus your independents, is it pretty similar, is there any difference either on cigarettes or non-foods overall, any comment you can make there?

[Scott McPherson:]

So I would say on same-store sales our independent -- it's not a big delta but our independents have slightly outpaced our change in growth in same-store sales, but overall it’s pretty consistent.

[Kelly Bania:]

And so maybe just to characterize the environment, I mean, a few quarters ago it was characterized as soft and challenging, with the improvement in the carton decline. Do you feel like that's kind of stabilized some of the trends or how would you characterize the broader environment?

[Scott McPherson:]

Yes, so just today we had release on expected gallons in the market and August we're still strong. They were strong in July. So I characterize the market in store traffic is solid. And if you look at some of the retailer releases that have just come out in the last few days, I mean, I think the market has been pretty solid. Where we've seen some softness which as I mentioned in my remarks, it's around food service and fresh, and that has been echoed by the market as a whole. We've seen some kind of slowdown there, obviously seen some aggressive progress in the nicotine space. And OTP still seeing strength in snack and beverage, and we do have growth in food service and fresh but just not what we've seen historically.

[Kelly Bania:]

And then in terms of just the warehousing and transportation, as you think about where you could possibly end up for the year. How much in terms of dollars is that still an opportunity as you look out over the next couple of years to get that to where you think it should be?

[Scott McPherson:]

Tough question to answer, Kelly. I would say -- let me answer it like this. We have talked to you guys a number of times about throughput and we've been very pleased with the throughput this year, which is up almost five units. And we've communicated that each unit of improvement is around $1 million a year annualized. I think that there is more runway there as we look forward to 2019 and beyond. Transportation is the area that is probably our biggest challenge. I would say that we’re really proud to be able to say, and I'd say we're one of the few companies in the transportation logistics industry. Our on-time delivery performance this year is much better than it was last year as a Company and really across the Board. And that is despite everything that you hear on driver, staffing, and challenges. That said, we still have a significant opportunity with our fleet and mainly around -- essentially put more products on the trucks. Our fleet is not going out anywhere near capacity. So again, I think there's a pretty sizable runway around our transportation costs.

[Kelly Bania:]

And then I guess last one from me, just as you think about the cycle with your contracts, any update on where you see the RFP cycle either to bid on or that could come up for bid for your existing customers through the end of the year and maybe into 2019?

[Scott McPherson:]

We have December of this year that we haven't really disclosed. But it's a really good partner of ours and we're in the process right now of bidding that. And beyond that we have a couple in 2019, but nothing really major in the first half of '19. I’ll go back and look at those second half of 2019, I didn't do that for this call, but nothing major in the next 12 months.

[Operator:]

Our next call comes from Christopher Mandeville with Jefferies.

[Christopher Mandeville:]

Sticking with logistics, Scott, just with the challenges that the suppliers are seeing from cost pressures. Do you foresee or have you heard of any plans from any of the supplier community where they intend on taking price shortly, and has any of this tightness in transportation affected your ability to receive products and timing there?

[Scott McPherson:]

Chris, the first half of your question on price what was that again?

[Christopher Mandeville:]

Just look like cost increases the vendor community is realizing today, can you foresee or how do you really actually heard of true intentions to back on some of those costs?

[Scott McPherson:]

So we have seen some -- I wouldn't say wholesale price increases, but we have seen some price inflation. We've seen a little bit in the Candy arena, although it's not been kind of full scale candy price increase. But we've seen some ancillary products take prices increases and we have seen some other price inflation, but I would say nothing abnormal or material that we've seen pop-up. The only impact we've had ourselves on third-party logistics freight rate kind of stuff, is, our internal warehouses that we distribute, we've had some increases in freight rates there, but again, nothing overly material that's affected our business. Probably the biggest impact is just pressure on drivers, pressure on driver wages. We have seen that it's been isolated a handful of markets. But it definitely were early in the year. And last year, I was saying it hasn't been a huge issue, it's becoming more acute now. So we've got something that obviously we're focused on.

[Christopher Mandeville:]

And I would assume as much that the cost pressures are also something to which your key vendors are also realizing. So has the conversation changed at all recently when it comes to you making that argument that it maybe be best suited or in the best of interest of all, to consolidate deliveries on to your trucks?

[Scott McPherson:]

Our message to the DSD folks in our stores has been very consistent. The question is – and you posed a really good question is, is that increase in their distribution cost those DSD folks, is that going to start to have an impact to where they see there's a better avenue to get their product to market? I believe it is, there's a couple of DSD folks that we have had, and are in discussions with. Currently, that – traditionally we're full DSD that we're looking and bringing some of the products on to our existing network so I do think that the more pressure you see there may pose some opportunities or present some opportunities for us.

[Christopher Mandeville:]

And transitioning to the non-cigarette gross margin, Chris can you help us when we think about that on go forward basis, as Kelley, alluded to earlier. You're going to have some clean compares for the most part anyways in the back half of the year and I think Walmart and Farner-Bocken. So how do we think about product margins progression going forward?

[Chris Miller:]

So in the quarter Walmart compress margins is about 30 basis points we lap that in this quarter, right. So we won't have that impact. So we should return back to, I'd say more historical margins for the non-cigarette category. Although – as we also pointed out the OTP category has been compressing margins because their margins are substantially lower. So to the extent – those sales are higher than – they've been trending higher than some of our other non-cigarette categories that will compress the margin a little bit. But all things being equal, we should be back to and maybe a little bit better over time.

[Christopher Mandeville:]

And the last one from me here, is there really any ability at this point to provide additional color on the potential savings expected from that headquarters move to Dallas in 2019 or in the first 12 months of the transition and as this message already been conveyed to your employees and is there any early REITs on those who are more committed to actually making the move?

[Scott McPherson:]

So Chris - it has been conveyed. And we have obviously – this is a sensitive topic as we have employees that are on the call and they're very important to us. But our corporate office -- we're a fairly decentralized company. Our corporate office consists of about 100 people of our 9,000 as a company. So, it's not a huge material cost savings, that's not why we made the decision to move. It was one of the factors and it does help us leverage cost but really it’s getting us in a much better position as a nationwide company to service our customers to be in a market that is, I'd say, employee friendly. With a really high quality of life so I think there were a lot of factors beyond just cost savings that went into that decision.

[Operator:]

We now have a question from Ben Brownlow with Raymond James.

[Ben Brownlow:]

The OpEx was better, leverage was better than our expected, and one of my concerns or – modest concerns, was just – the losses, the come and go contract and handling that. And I think you previously said that was kind of a 60 day, timeframe to right size that structure. Obviously that didn't appear to be any sort of challenge for the second quarter. Can you give any color out there or any headwinds from an expense leverage standpoint in the second quarter?

[Scott McPherson:]

I would say that I would – although it's challenging and was very disappointing for them to lose a customer that they felt they provide a great service to. They did a fantastic job of rightsizing our operation, and kind of continuing on with being a real profitable contributor to this company. So hats off to that division.

[Ben Brownlow:]

And just to follow-up on some prior questions on the cigarette same-store sales down 2.5. Obviously returns improved to the CORE. Can you give a little bit more granular about kind of that improvement, what you're seeing early third quarter. And when you think about that second half sort of implied guidance on EBITDA, what's assumed in that upper and lower end range around carton movement.

[Scott McPherson:]

I kind of reiterated what I said before. We were at 9% in the first quarter, 9% same-store carton in the first quarter down to 2.5% in the second quarter. My expectation as I communicated kind of early in the year as well as that we're going to be back to that historical norm in the 3% to 5% range, that would be my expectation for the balance of the year.

[Ben Brownlow:]

Any color around what you're seeing quarter-to-date?

[Scott McPherson:]

No color yet.

[Operator:]

And our next question comes from Ryan Domyancic with William Blair.

[Ryan Domyancic:]

So based on the comments so far, it sounds like transportation costs running a bit ahead of internal expectations. So to meet the EBITDA guidance for the second half, do you need to realize some additional transportation cost savings or is there another part of the business or contributor that kind offerings those potentially higher than anticipated transportation costs?

[Scott McPherson:]

Yes, that's probably a fair assessment, Ryan. I think trans is not where I want it to be, and where we expected it to be. I'd say warehouse is and warehouse's health kind of offset some of that. So I'd say those two kind of combined are about where I expected them to be overall. So, if we can get some more leverage out of trans ends in the back half of the year that will definitely help us.

[Ryan Domyancic:]

And then I know it's going to be hard to deal with on those trans costs, if you take out the higher driver wages you kind of back up the fuel cost. Do you think about back in January when you wanted to realize in trans savings, if you look at those initiatives, how are you progressing against those controllables that you put out at the start of the year, internally?

[Scott McPherson:]

I would say – the one that I've talked about the most with everybody on the call is cubes per load and we're flat. And that's -- my expectation was not to be flat. So Q3 as we do every year, we're focused on our seasonal reroute I’m trying to continue to leverage loads. Our challenge has been in not gaining that leverage. This has obviously been driver turnover and just being able to have a real efficient driver workforce that's able to leverage cubes per load. So year-to-date we're not where we want to be, for sure.

[Ryan Domyancic:]

Okay very good and then just switching topics real quick, if you think about – I'm not sure this is the way to look at it, but how many of your current 45,000 customer locations are now carrying the alternative nicotine products? I guess I'm just trying to think about – when you see the strong growth in that category, how much more time or how many more quarters could we see that growth because of just those parts getting added to stores?

[Scott McPherson:]

So I would maybe break it out like this. 45,000 stores, roughly 30,000 of those are your traditional convenience stores, so the 15,000 is not traditional convenience I'd say the penetration in those stores is much lower. And some of them don’t even carry those types of products. So out of the 30,000 convenience stores, I would say that 90% plus of them have some form of vapor or e-cigarette products, probably 99% of them. That being said, what's driving the market today is obviously the new vap devices that are in the market, and that's what's driving the volume. And their penetration is more than in the 50% to 60% range. So there's definitely some runway there.

[Ryan Domyancic:]

And then just a quick follow up on that. Is there anything else in that Health, Beauty and General line of contributing to the growth or is the vast majority of that due to these newer nicotine products?

[Scott McPherson:]

I wouldn't call it vast majority, but there's definitely growth in general merchandise beyond e-cig and vap for sure. But it's, we'll call it, it's definitely a majority.

[Operator:]

We have our next question from John Lawrence with Coker Palmer.

[John Lawrence:]

Yes Scott, would you talk just a little bit about - you mentioned West Coast and the ability to go back and try to add some accounts. Give us a cadence there a little bit, I assume when you started having trouble and adding those - adding 7-Eleven. You slowed down probably the marketing events there can you talk about how that progression is going back trying to reengage some of those accounts?

[Scott McPherson:]

Yes John, I would say you know that the couple divisions that we talked about specifically last year, not only did they slowdown their activities, they had some customer departure because of the service. And I would say that that service today is really solid and really probably second to anybody - not second anybody in the channel that they compete with. So they are now focused on regaining anybody that they may have lost and I would say that at this stage they're fully engaged in recruiting new customers and growing the volume. So back to normal, Core-Mark division operations.

[John Lawrence:]

Secondly, the Iowa division, with a little bit more food and fresh, your overall comments, how much was that division with a little higher gross because of those of the mix - is there what you saw additional softness across the Board in food and fresh?

[Scott McPherson:]

I'm not sure I totally got your question. I would say that our growth in food and fresh was definitely, Iowa was a heavy contributor. And obviously that's a big part of their mix. So they definitely were a big contributor to our growth in those two categories.

[John Lawrence:]

When you said there was no softness in some areas, even though it was a strong contributor, would it been softer year-over-year?

[Scott McPherson:]

No, actually they well - you got to take out the fact that they had the departure of come and go. They'll definitely minus that, but outside of come and go they performed well in those areas.

[John Lawrence:]

So the last question. Any thoughts as you’ve performed well, any of discussions at Walmart, why you want to expand in the other parts of the country?

[Scott McPherson:]

I would say that our conversations with Walmart are all very positive on service and that relationship is strong. But right now we're just focused on doing the best we can and performing under the contract that we have today. And that's our focus and I will see where that leads us. But hopefully that will be a conversation for the future.

[Operator:]

[Operator Instructions] And we have our next question from Chris McGinnis with Sidoti and Company.

[Chris McGinnis:]

Just quickly maybe on FMI, could you just maybe give an update on where that's at? If you said already, I missed it, so I apologize. And then just how those customer are trending after they’ve been on the program for you?

[Scott McPherson:]

So, yes Chris, FMI is - if you remember from last year we ramped up our production. So, we're on pace through midyear to hit 4500 customers for the year. So that part of it is going very well. We've got - we've improved some of the processes there. And so, I am really pleased with the work product that's coming out of there, and it continues to show solid results on non-cigarette. Our incremental non-cigarette sales growth is $100s higher than what we see in our non-FMI stores.

[Operator:]

And our next question comes from Andrew Wolf with Loop Capital Market.

[Andrew Wolf:]

Chris actually asked my question on the FMI, but Sam's Club got out of the cigarette distribution business. I don't know if that anecdotally, I'm not sure if that would have impact your business a lot, but for your customers or anything is that the kind of thing that can help you as a distributor or the customers nearby who won't have to compete with a wholesale price.

[Scott McPherson:]

So, that would be news to me. I don't think Sam's Club got out of the cigarette business. I know they've shut down a number of stores and some of their new openings do not have cigarettes and I know they've taken cigarettes out of some locations, but I don't think they're out of the business unless that's something you've heard in the last two weeks that I'm not aware of. But that said, they and Costco and BJ's, if they got out of the business that would be I think a big windfall for us. I think we would definitely capture a lot of that market share and so absolutely, if they want to get out, all the power to them. We'd be happy to take their cartons.

[Operator:]

Thank you. And it seems we have no further questions. I will now turn the call back over to Mr. Milton Draper for closing remarks.

[Milton Draper:]

Guys, thank you for participating in our call, we really appreciate. If you have any follow-up questions, you can give me a call at 0-589-9445. Thanks. Bye, bye.

[Operator:]

And thank you ladies and gentlemen. This concludes our conference for today. We thank you for participating. You may now disconnect.