Differentiated Position
By providing exceptional value on more than 12,000 items customers need every day in an easy, in-and-out store footprint, and with 40% of its stores incorporating full-service pharmacies, FRED'S occupies a unique niche in the discount retail industry. Spanning a 15-state market across the Southeast and Southwest, FRED'S represents an attractive alternative to the big-box retailers for shoppers in terms of value, selection and convenience.

Strategic Response
Throughout 2007, it became abundantly clear to most observers – especially retailers – that our economy was decelerating. Overwhelmed by the fallout from spiraling gas prices and a growing credit crunch, shoppers stayed largely on the sidelines throughout the year as consumer confidence steadily declined. At FRED'S, we began 2007 with cautious optimism for our business, based on the outlook for positive results from our store and merchandise refresher programs as well as our new branding campaign. As the year continued, however, it became apparent to us that dramatic, far-reaching change was needed to confront and cope with a slowing retail environment. In the last half of the year, we began an intensive assessment of FRED'S competitive strengths and weaknesses as part of a broader effort to formulate a strategic response to the challenges that exist now and in the future.

Based on an in-depth study of Company operations covering the past two-and-one-half years, we announced in early February 2008 a new strategic plan aimed at improving FRED'S performance and raising our operating margin over time to a target level of over 4 % – an ambitious goal that calls for a 300-basis-point improvement from our 2007 results. A key element of our new plan involves a greater focus on the core of our strongest stores by closing 75 underperforming stores in 2008 and repositioning and reducing corporate overhead by 10%. The stores set to close contributed $112 million to sales in 2007, but also generated an operating loss of approximately $9 million. Additionally, our plan includes implementing and repositioning the Company's real estate strategies. All told, these steps and our strategic initiatives are anticipated to generate more than $100 million in free cash flow over the next three years. The cost of our restructuring is expected to total approximately $26 million, of which $15 million will be non-cash expenses primarily associated with the write-down of inventory and fixed assets related to the store closings. The remainder of the total restructuring cost will be incurred as we buy-out our remaining lease commitments on closed locations. In addition to these long-term strategic changes designed to improve our performance over the next three years, we implemented initiatives in 2007 to drive store productivity. Our store and merchandise refresher programs, completed in the fall of 2007, modernized the look and feel of our stores, introduced new signage throughout, and changed our merchandise footprint within our stores with the expansion and relocation of several departments. In addition to these steps, we tightened our inventory disciplines and improved in-stock levels on our most popular items.

Expansion
During 2007, we opened 35 new stores and closed 20, resulting in a net addition of 15 stores. The majority of new stores opened in 2007 were located in Mississippi, Georgia, Texas, South Carolina and North Carolina. Similarly, we added 11 new pharmacies in 2007 and closed four, resulting in a net addition of seven pharmacies during the year and pushing the number of stores offering pharmacy services to approximately 43%at year's end. With these additions, our total selling square footage increased almost 3% to 10.2 million square feet at year’s end.