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True Religion Apparel, Inc. (NASDAQ:TRLG)

Q3 2008 Earnings Call

November 6, 2008 4:30 pm ET

Executives

Laura Foster – ICR, Inc.

Jeffrey Lubell – Chairman of the Board, Chief Executive Officer & Chief Merchant

Michael F. Buckely – President

Peter F. Collins – Chief Financial Officer

Analysts

Eric Beder – Brean Murray, Carret & Co.

Jeff Mintz – Wedbush Morgan Securities

Analyst for Karen Short – Friedman Billings Ramsey

Jody Kane – Sidoti & Company, Inc.

Kelly Duval – BB&T Capital Markets

Paula Torch – Needham & Company

Operator

Welcome to the True Religion Apparel, Inc. 2008 third quarter financial results conference call. During today’s presentation all parties will be in a listen only mode. Following the presentation the conference will be opened for questions. (Operator Instructions) This conference call is being recorded today, Thursday, November 6, 2008. I would now like to turn the conference over to Laura Foster with ICR.

Laura Foster

Thank you for joining us today to discuss True Religion Apparel’s third quarter 2008 financial results. On the call today are Jeff Lubell, True Religion’s Chairman and Chief Executive Officer, Michael Buckley, the company’s President and Peter Collins, the company’s Chief Financial Officer.

By now everyone should have access to the third quarter 2008 earnings release which went out today at approximately 4 pm Eastern time. If you have not received the release, it is available on the investor relations portion of True Religion’s website at www.TrueRelgionBrandJeans.com by clicking on the investor relations tab.

This call is being webcast and a replay will be available and archived on the company’s website. Please note that all the information discussed on the call today is covered under the Safe Harbor provision of the Private Securities Litigation Reform Act. We caution listeners that during this call True Religion management will be providing financial guidance and making other forward-looking statements regarding expected future financial results and business opportunities.

The company’s actual future results may be very different from our current expectations. We encourage you to read the 10Qs, 10Ks and other reports that we file periodically with the SEC. These documents contain a discussion of the risks facing our business including factors that could cause these forward-looking statements to not come true. The company does not currently intend to update these forward-looking statements except as required by law.

With that said, it is my pleasure to turn the call over to Jeff Lubell.

Jeffrey Lubell

Thank you for joining us today as we discuss our results for the 2008 third quarter and the nine months ended September 30, 2008. We look forward to sharing our results with you today. The format of today’s call will include my brief business overview including key financial brand and product highlights for the quarter. Pete will follow with a more detailed discussion on our third quarter financial results as well as provide you with an update on our 2008 guidance and Michael will then provide you an update on our business operations before we open up the call for questions.

We delivered another quarter of record breaking performance with third quarter net sales increasing 64% to $79.4 million from $48.4 million and net income growing 76% to $15.4 million from $8.8 million. Our third quarter results reflect the continued strength of our product assortment across both our wholesale and retail channels. We believe our performance speaks to our commitment to continuously innovate and evolve our merchandise in a manner that resonates with our consumers.

For the third quarter gross margins expanded 120 basis points to 58.4% compared to 57.2% in 2007 and operating income increased 46.4% to $22.3 million from $15.2 million in the prior year period. We continued to deliver earnings growth ahead of our expectations with diluted earnings per share increasing 73% to $0.64 in the third quarter from $0.37 in the prior year period.

Year-to-date we delivered revenue growth of 63% and net income for the period increased 67% year-over-year. Despite the increasingly difficult global retail environment our fourth quarter US wholesale forward order book as measured at September 30, 2008 versus September 30, 2007 was up more than 30%. With our branded retail stores we continue to exceed our budgeted same store sales year-to-date.

In the month of October our full price and outlet stores delivered same stores sales increases versus last year. Given our year-to-date performance and our visibility in to the fourth quarter we are increasing our full year 2008 guidance marking the third consecutive quarterly upwardly revised guidance. We now expect net sales of $265 million representing an increase of 53% over 2007 net sales and earnings per share of $1.78 representing an increase of 53% over our 2007 earnings per share.

While we are pleased with our third quarter and year-to-date financial results we remain cognoscente of the global environment in which we continue to operate. Our year-to-date net sales growth is well in excess of our previously annual target of 20% to 25%. Lately, we have received several questions on whether we view our year-to-date growth rate as sustainable and whether we believe consumers will continue to buy $200 plus jeans in this environment.

Let me respond to these questions in a few ways. We are committed to the growth strategy we have in place and remain diligently focused on executing our business initiatives. We believe that long term growth will come from number one expanding our distribution. We’ll continue to increase our consumer direct presence with that long term our consumer direct business will represent half of our sales and two, diversify our geographic presence.

We will continue to expand internationally to as many parts of the world that desire premium denim. We believe that one day our international business could exceed our domestic business and three, diversifying our product offering to achieve the long term sales mix of 60% jeans and 40% sportswear. We expect that the current economic and consumer environment will impact our future growth rate and we would not expect to continue to deliver sales growth in line with out 53% year-to-date growth rate.

Yet, in response to the question of whether consumers will continue to buy $200 plus jeans in this environment, we see many signs that they will. First of all, premium denim remains a growing category. Others have estimated that the US premium denim market is $1.5 billion and a $4 billion market globally. While premium denim has been widely recognized in both domestic and international markets for many years, many US consumers are still new to the premium denim category.

Growth of premium denim is further supported by the increasing prevalence and acceptance of premium denim in a variety of settings and has lead to premium jeans becoming a wardrobe staple for more people. Further, True Religion remains a very young and underpenetrated brand with significant room for growth. True Religion continues to be one of the top performers apparel brands both in terms of sales, volume and sales growth within our key department store count.

It is our belief that as the retail environment becomes more challenging retailers will continue to reduce the total number of brands offered and selectively increase the styles offered of the top selling brands. We are pleased to report that True Religion is one of these top selling brands. We attribute our performance to our commitment in the ability to provide consumers with innovative, trend setting and exceptional fitting jeans and related sportswear.

We have a talented design team in place currently consisting of 23 people. As Chief Merchant and Head Designer I am intimately involved in every aspect of the creative process and I am committed to maintaining True Religion’s global status as a leader as we become an aspirational global brand. Our late fall holiday 2008 collection which shipped in the fourth quarter to our wholesale customers and branded retail stores reflects this commitment.

Holiday expands upon our fall collection offering a full range of jeans, sportswear and licensed product. Regarding some of our exciting new products the XXX collection for woman utilizing a special four way stretch fabric by [Indishta]. The women’s component of the XXX collection joins the men’s offering which we introduced in fall 2008. The XXX collection in our take on the classic five pocket jean which has become the universal simple of timeless Americana.

The collection is presented in multi fits, washes and unique classic styling. The limited edition vintage collection consists of women’s and men’s jeans, jackets, western shirts, t-shirts and sweatshirts and comes in a unique vintage wash finish which is inspired by worn in garments from the early 1900s. Our black leg jeans collection for women and men is inspired by 60s and 70s classic rock and roll music and is constructed with irregular stitching highlighted with multiple color threads in a very trendy look.

We expanded on the women’s disco collection which is our diamond like crystal encrusted jean with the interjection of a new gold diamond color for the glamorous woman customer. We’ve added new washes and detail to the stealth collection for women which was introduced in fall 2008. Stealth captures trend setting styles that uses our core fits with four way stretch fabric by [Indishta] and has side seams move forward along the small back pockets to give a slimmer more enhancing appearance.

We expanded on our outerwear collection with the introduction of down jackets and vests in a myriad of colors, styles and fabrics including mat nylon and denim down jackets with faux fur trim. In the head ware collection we introduced hats for women with Swarovski crystal embellishments and we are introducing chunky knit scarves, hats and gloves. For holiday our swimwear licensee is shipping bikinis and matching cover-ups with details ranging from embroideries to heritage denim to velvet.

Vogue recently featured one of the embroideries bikinis in their November issues. Handbags are offered in a wide range of fabrications and styles for women. We have handbags with metallic, stamped letter and mohair just to name a few and for men we have a medium laptop bag and an overnight bag both offered in leather and denim. Lastly, we are introducing our women’s fragrance which is now available in our True Religion branded stores and was introduced exclusively starting in October at Nordstroms.

In the 2009 spring season when we expand the full roll out of the women’s fragrance and we will begin to introduce and roll out the men’s fragrance. In summary, we continue to expand and evolve our product offering in a manner that reinforces our positioning as a global premium aspirational brand.

This is further supported by our ongoing diversification strategy both in the US through the expansion of our own branded retail stores, increased penetration in our existing wholesales accounts and growth alongside our wholesale partners and in international markets through the addition of new distributors within key international markets.

That concludes my comments today. I would like now to turn the call over to Pete to discuss our third quarter financial results and provide an update on our 2008 guidance.

Peter F. Collins

I’ll start with the detailed discussion of our financial results for third quarter followed by a brief discussion of our year-to-date result. I’ll then provide some commentary on our updated full year guidance and our guidance policies as it relates to 2009. Net sales for the quarter increased 63.9% to $79.4 million versus $48.4 million in the third quarter of 2007.

Within our US wholesale segment sales for the quarter increased 53.8% to $46.3 million versus $30.1 million in the prior year. The increase in the US wholesale segment net sales was driven by the growth in sales to off priced retailers and the majors. Sales to boutiques declined in the quarter as compared to last year as these retailers continued to be challenged by the economic slowdown and as a result we have become increasingly selective in the boutiques that we will sell to.

Similar to the first and second quarters, sales to the majors continue to be strong increasing 49% in the third quarter of 2008 over 2007 due primarily to further penetration within existing doors. In addition, our third quarter US wholesale sales were higher than original anticipated due to a timing shift in which $4.0 million of October orders were shipped in September. International wholesale sales in the third quarter increased 3.2% to $11.2 million from $10.9 million in the prior year.

Increased sales to our German and South Korean distributors were partially offset by a year-over-year reduction in sales to Japan as we are in the midst of transitioning to a direct business model in that region. Similar to the second quarter our third quarter international net sales benefited from the early shipment of $1.5 million of October orders in September. The combination of the early shipment of October orders in September resulted in $5.5 million in sales shifted from the fourth quarter of 2008 in to the third quarter of 2008.

This equates to approximately $0.04 per share. Consumer direct sales which includes our branded retail sales and ecommerce site increased 198.2% during the third quarter to $21.5 million from $7.2 million in the prior year period. The growth in our consumer direct segment is attributable to the expansion of our retail stores which totaled 36 at the end of the third quarter of 2008 compared to 13 retail stores at the end of the third quarter 2007.

Third quarter net sales also included $444,000 of licensing revenue which is included in our other segment. As it relates to the three primary segments of our business, 54% of our net sales came from women’s merchandise, 42% from men’s and 4% from kids. The average sales price in our full price retail stores was $204 for women’s, $194 for men’s and $105 for kids and 80% of the sales in our retail stores were jeans and 20% were sportswear.

Gross profit grew 67.2% to $46.4 million or 58.4% of net sales from $27.7 million or 57.2% of net sales in the third quarter 2007. The improvement in gross margin reflects the ongoing segment mix shift towards our higher margin consumer direct business partially offset by an increase in sales to off price retailers.

Gross margin by segment for the third quarter is as follows: consumer direct increased to 77.9% from 77.1% in the prior year quarter; US wholesale gross margins decreased to 51.0% from 55.4% in the prior year quarter; and international wholesale margins increased to 49.7% from 48.3% in the prior year quarter. The decline in gross margin for our US wholesale segment was due to the increase in sales to select off price retailers.

International wholesale segments gross margin increase came from a mix shift to customers with lower discounts. Selling, general and administrative expenses for the quarter increased 92.6% to $24.1 million from $12.5 million in the prior year period. SG&A for the quarter included costs related to the growth in the consumer direct related segment of $5.6 million, incremental marketing expense of $0.8 million related to the fall 2008 national print campaign.

In addition, SG&A for the third quarter of 2008 includes incremental performance based compensation of $1.3 million based on the company exceeding its 2008 operating benchmarks year-to-date. Operating income for the third quarter increased to 46.4% to $22.3 million or 28.1% of net sales compared to $15.2 million or 31.4% of net sales in the prior year period.

The year-over-year reduction in operating margin was primarily due to the decrease in the US wholesale segments gross margin and the increase in advertising and marketing costs associated with the fall 2008 national print campaign. The consumer direct segment’s operating margin increased from 37.5% in the third quarter last year to 38.6% this year.

Our effective tax rate for the third quarter 2008 was 31.1%. During the third quarter we implemented a tax planning strategy that retroactively changed our filing status in certain states that reduced our cumulative tax provision by $1.5 million. This increased our diluted earnings per share by $0.06. We also finalized our 2007 tax returns which included additional analysis of our federal and state income tax obligations.

As a result of this analysis, we reduced our income tax provision in the third quarter by $600,000 which increased our earnings per share by an additional $0.03. Net income for the 2008 third quarter was $15.4 million or $0.64 per diluted share based on weighted average shares outstanding of 24.2 million shares compared to net income of $8.8 million or $0.37 per diluted share based on weighted average shares outstanding of 24.0 million in the third quarter of 2007.

It is important to note that our third quarter results benefited from two items. First, the timing shift of October orders in to September within our US wholesale and international wholesale businesses and second, our lower than anticipated tax rate. Together these items benefitted our third quarter 2008 earnings per share by approximately $0.13. We’re still very pleased that even when we excluded these benefits we still exceeded our internal plan for the third quarter.

For the nine months ended September 30, 2008 net sales increased 63.4% to $197.0 million from $120.5 million in the same period last year. Net income grew by 67.3% to $31.7 million or $1.31 per diluted share from $18.9 million or $0.79 per diluted share last year. Turning to our balance sheet we continue to be pleased with our overall financial position. We ended the quarter with $55.8 million in cash and cash equivalent representing a $12.7 million increase from $43.1 million at June 30, 2008.

This increase in our cash balance was driven by the cash flow from operations generated in the third quarter. Inventory totaled $27.6 million at September 30, 2008 a $2.1 million decrease from $29.7 million at June 30, 2008. This sequential reduction is primarily due to production planning improvements and increased sales of past season’s merchandise at off price retailers as we remain intensely focused on maintaining a clean content appropriate inventory position.

As we’ve mentioned in the past, we utilize our own outlet stores and select off price retailers to clear end of season and obsolete merchandise in order to maximize the productivity of our inventory. We carefully balance this against maintaining our premium aspirational brand status. Our annual inventory turn rate for the third quarter remained consistent with the second quarter at four times per year.

We are satisfied with the position of our inventory which we believe provides us the necessary flexibility to manage the growth of our consumer direct and wholesale businesses. I’m pleased to say that we carry no debt and we continue to fund our growth from internally generated cash reserves and turn operations.

With that, let me now turn to our financial guidance for 2008. We’re updating our full year guidance as follows: net sales for 2008 are now expected to be $265 million compared to our previously updated range of $242 million to $247 million and representing 53% growth over the full year 2007. Diluted earnings per share is now anticipated to be $1.78 compared to our previously updated range of $1.61 to $1.65 and representing 53% growth over the full year 2007.

Our updated guidance reflects our better than anticipated result for the first nine months of 2008, our increased visibility in to the wholesale order books through the fourth quarter, the quarter-to-date performance of our branded retail stores and our reduced tax rate to 39.5% versus our previous estimate of 41%. Our revised full year guidance implies fourth quarter revenues of $68 million and earnings per share of $0.47.

As I mentioned earlier $5.5 million of sales equating to diluted earnings per share of $0.04 was shifted in to the third quarter of 2008 from the fourth quarter of 2008. Additionally, during the fourth quarter we expect to incur preopening cost of $400,000 of the additional 2008 and first quarter 2009 store openings, additional advertising cost of $160,000 to support our consumer direct business and additional store labor to drive holiday sales.

Our guidance assumes fully diluted weighted average shares outstanding of approximately 24.2 million shares for 2008. With respect to 2009 guidance, we are currently in the early stages of our 2009 planning and budgeting process. As such, we will provide guidance for the full year 2009 on our fourth quarter and full year 2008 conference call to be held in the first quarter of 2009.

With that I’d like to turn the call over to Michael to take us through a review of operations.

Michael F. Buckely

We had yet another record breaking quarter, our fifth consecutive quarter of record breaking sales and our sixth consecutive quarter of double digit sales growth. Our performance was led by solid growth across each of our businesses highlighting the continued worldwide demand for True Religion Apparel. We’re especially pleased to deliver this performance in light of the challenging global environment.

In the third quarter we experienced year-over-year sales growth of 63.9% with approximately 58% of the business coming from US wholesales, 14% from international wholesales and 27% from consumer direct business. US wholesale sales for the third quarter increased 54% to $46.3 million from $30.1 million in the prior year period. Third quarter US wholesale sales were impacted positively by a $4 million shift of orders from October that shipped early in September.

Year-to-date US wholesale sales increased 47% over the prior year to $117.2 million. For the third quarter sales to the majors increased 49% compared to the prior year period. The increase in sales to majors was primarily driven by further penetration within existing doors. True Religion continues to gain market share within our premium wholesale accounts as retailers selectively increase the number of styles offered by top selling brands.

Despite the positive progress made to date, we see significant opportunity to further increase our penetration in our top US wholesale accounts by adding additional styles for men, women and children within our jean and sportswear product assortment. In addition, we continue to offer a greater number of styles in replenishment and we are shipping closer to the beginning of the order window which is fueling our reorder business.

We are pleased with the increase to sales to majors as they represent the more stable reoccurring business for us. However, it is important to note to some degree we trade volume for margin dollars as majors receive a volume discount. Also impacting US wholesale margins for the third quarter were increased sales to the off price channel. While some level of off price sales is planned and necessary, the sales amount through this channel exceeded our third quarter forecast mainly due to sales of jeans made from discontinued fabrics as well as a few sportswear styles.

Except for the third quarter, year-to-date sales to this channel were in line with historical levels. On a regular basis we proactively analysis our inventory balances to keep our inventory levels clean. As we have grown rapidly over the past several years we are continuously improving and refining our ability to forecast our production needs to minimize our merchandise risk.

Our guidance for the fourth quarter implies a fairly significant decrease in sales to the off price channel. As a result in this decrease we expect to see an improvement in our US wholesale gross margins for the fourth quarter. Sales to boutiques in the third quarter declined 13% compared to the prior year period. Many smaller and regional boutiques are experiencing the increasing financial pressures from a challenging macroeconomic environment which includes a reduction in available credit from our factor.

In many cases where the factor has not extended credit we have chosen to limit our risk as well. Subject to an improvement in the US economy, we would expect this trend to continue. With respect to our US wholesale business for the fourth quarter, our wholesales sales order book was up more than 30% as measured on September 30, 2008 versus 2007. We are very pleased with the strength of our backlog which continues to exceed our expectations.

However, we remain conservative on the sales outlook for this channel given the challenging retail environment and the uncertainty in the global macroeconomic environment. With respect to our international wholesale business, net sales in the third quarter increased approximately 3.2% to $11.2 million from $10.9 million. International wholesale sales were impacted by a timing shift in the shipment of our fall 2008 orders from July, 2008 in to June, 2008.

Year-to-date sales increased 24.1% over the prior year to $28 million. For the fourth quarter our international wholesale forward order book is up approximately 15% as measured at September 30, 2008 versus 2007. We are planning our fourth quarter to be down slightly as some of our international distributors are experiencing large unfavorable currency fluctuations versus the US dollar including the Euro, the Pound, the South Korean Won and the Australian Dollar. This may impact our shipments to these countries.

I recently traveled to both Japan and Europe and would like to update you on the developments within these markets. With respect to Japan during the third quarter we opened two True Religion branded retail outlet stores in [Maranoa] and [Aruma]. We also viewed a number of markets and locations that would represent attractive locations for future full priced stores. On the wholesale side in Japan our sub distributors are writing orders for spring 2009.

Initial response has been very positive and we would expect that over time we can increase the penetration of True Religion Apparel in many of our wholesale accounts. I recently returned from a trip to Italy, Germany and the UK. In the UK we are performing well and the brand continues to grow. We are currently in approximately 125 premium locations including Harrods, Harvey Nichols and Selfridges.

We expect that our distributor will increase the number of premium retailers who carry our product. In London we scouted a number of potential retail store locations for our first European branded retail store. In Germany we visited the top 25 accounts in Dusseldorf, Cologne and Munich. We are currently in approximately 200 doors in Germany and the brand continues to strengthen.

In Europe our key products for the fall 2008 season are very similar to the best selling products in the US. Disco, stealth, rainbow and super T are the strongest performers in our women’s division. Super T and heritage have been very strong performers in our men’s division. We see several benefits to establishing a direct retail presence in select international markets. First and foremost in provides us with direct control over the brands to ensure that we avoid over distribution and maintain our aspirational brand status.

In addition, over time should we continue to invest directly in international markets we would expect to see our international margins improve thus contributing to the future profitable growth of the company. However, prior to making any investments we will thoroughly evaluate and research each market on a country-by-country basis to determine whether a direct retail model is appropriate.

As we have stated in the past, view the international growth opportunities for the brand as significant and we would expect that over time the value of the international wholesale business could exceed the value of our US wholesale business. As such, in markets where we determine that the direct approach is not appropriate we will explore franchise opportunities. In order to grow the brand to its fullest potential we will need to continue to invest in the growth of the brand internationally.

Turning now to our US consumer direct business, net sales for the third quarter increased 198.2% to $21.5 million from $7.2 million in the prior year period. Year-to-date sales increased 186.3% over the prior year to $50.9 million. Third quarter and year-to-date performance results in a significant increase in our store count on a year-over-year basis. We ended the third quarter with 36 retail stores compared to 13 at the end of the third quarter of 2007.

Subsequent to quarter end we opened an additional three stores bringing our total store count to 39 branded retail stores. We are increasing our year-end US store count to 41 total stores as we have secured two more great locations which we expect to open this December. Across the board we continue to be pleased with the performance of our retail stores. In 2008 we budget our mature stores to comp in the mid single digits and to date these stores continue to exceed our expectations.

Even in this very challenging economic environment we comp positive every month this year including October. We also beat our retail sales plan in October. Our branded retail stores while enhancing our profitability also allow us to test and showcase new products in a controlled environment. In addition, our stores continue to prove incremental to wholesale.

For the first nine months of 2008 if we compare year-over-year per door sales increases for True Religion products to Nordstrom stores in which there has also been a True Religion store at least a year, versus all other Nordstrom locations in which a True Religion store does not exist or has not been open at least a year, the net sales increase is nearly identical to both of these groups. Both were nearly 60% up in the first nine months of 2008 versus the prior year period.

With respect to 2009, we remain on track to open at least 20 additional True Religion branded retail stores bringing our US store count to at least 61 stores by year end 2009. With our strong balance sheet we are well positioned to capitalize on the opportunistic leases to us an establish our retail presence in some of the best shopping centers across the country. We expect to open seven new stores in the first quarter of 2009. We will take possession of these stores in October and November which we anticipate incurring incremental preopening cost of approximately $400,000 in the fourth quarter.

It is important to reiterate that each new store is budgeted to deliver an operating margin of 30% plus. In the third quarter of 2008 our retail stores delivered a four wall operating margin of 44%. We carefully evaluate the demographics, population, income levels and co-tenants among other criteria for each of our new branded retail stores. Given the unique characteristics of each individual store location and our ability to negotiate store costs the revenue and expenses of each store is budgeted independently of one another.

That concludes by remarks. Operator we would now like to open up the call for questions.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from Eric Beder – Brean Murray, Carret & Co.

Eric Beder – Brean Murray, Carret & Co.

Could you talk about denim/non-denim you had a 80/20 mix, what should we be thinking about that going forward and maybe in to ’09? I know you want to get much higher than that going forward.

Michael F. Buckely

Well, ultimately for the first two quarters of this year it was closer to a 70/30 mix and we want to continue to see that increase within our own stores as we expand the amount of product that we have in there. We launched our fragrances which is now at our stores, the denim jackets and now hitting our stores. So, we would expect to continue to see that increase.

Eric Beder – Brean Murray, Carret & Co.

In terms of are you seeing that now that you have 30 plus stores are you seeing the rents come down to levels where it makes even more sense to go in to other kinds of markets? I know you look at all demographics but as the rent narrows are you guys starting to see rents come down because you guys have such a proven model?

Michael F. Buckely

Well, even going in to next year there’s still a lot of very good centers that we’re still tapping in to. Although the real estate market out there has gotten a lot more flexible in terms of opening up locations as well as the economics on those deals.

Eric Beder – Brean Murray, Carret & Co.

I guess the final question, Japan, you opened up the two outlets, are you still thinking you’ll do about 10 full price stores in Japan? Does that still make sense? And, what’s your thoughts about putting new stores in to the UK or in to Europe for this year, for ’09?

Michael F. Buckely

In Japan obviously we’ve got to get a full price store opened and see how that does and based on how that performs that will dictate how many store we can have. If it performs well we probably think that we can possibly open as many as 10 in the short term. As far as in Europe, I mean I just came back from London, we’ve looked at a number of potential sites there and we would like to get one opened there. We’re not sure it’s going to happen in 2009 but we would like to, if we can find the right space, the right economics, we’d like to move forward on that.

Eric Beder – Brean Murray, Carret & Co.

Just a numbers question here, what tax rates are we looking for, for Q4 ’08? And, what should the tax rate going forward be now that you’ve changed all these tax rates around?

Peter F. Collins

39.5%.

Eric Beder – Brean Murray, Carret & Co.

And that should be going forward the same thing too, for ’09?

Peter F. Collins

There’s additional planning opportunities out there but we don’t have anything in place yet so for now it’s best to use 39.5% and as we continue to try to move to a more efficient structure we’ll update you accordingly.

Operator

Our next question comes from Jeff Mintz – Wedbush Morgan Securities.

Jeff Mintz – Wedbush Morgan Securities

Michael, I don’t know if you want to take this question, can you talk a little bit about the split men’s, women’s and kids in your retail store kind of are the percentages similar to wholesale or are you seeing kind of a different pattern in your own stores?

Michael F. Buckely

No, within our own stores, we actually plan the business based on a certain gender mix but it’s a little higher percentage of men’s within our own retail. As I said, as we plan it that way so we would hope long term that as the brand continues to get more popular that it will be close to 50/50 with a few percent coming from the kids business.

Jeff Mintz – Wedbush Morgan Securities

Then also in terms of performance at the retail stores, are you seeing any kind of noticeable difference between stores that are in malls and street locations or is it kind of more on a location-by-location basis?

Michael F. Buckely

I would say it’s more a location-by-location basis. I mean clearly, we’re in some A plus malls where we do tremendous sales per square foot, we’re also in some great street locations that do the same and there’s also some street locations as well as malls that don’t perform as high as some of the other ones.

Jeff Mintz – Wedbush Morgan Securities

Then in terms of size of stores, I mean you’ve worked with a lot of different sizes so far, have you kind of settled on what’s the kind of best model for the business?

Michael F. Buckely

Yes, we’re basically looking at 1,500 to 2,000 square feet. It depends on the center, clearly in a center that isn’t one of the top centers we might want to be a little more conservative and go with a reduced size box whether that be a full priced center or even outlet center. The outlets are generally 2,000 to 2,500 square feet so we’ll go with 2,000 in a center that might not be in say the top 10 outlets in the country.

Jeff Mintz – Wedbush Morgan Securities

Then although you’re not even close to it yet, have you changed your view at all in terms of what the potential size of the retail chain is going forward?

Michael F. Buckely

We have our list of over 100 potential full priced stores and over 20 potential outlet stores. We’re going to open at least another 20 next year, we’ll continue to see how those do and we’ll continue to open them as long as they continue to perform at the levels that we need.

Jeff Mintz – Wedbush Morgan Securities

Then just turning for a second to the wholesale business, when you talk about greater penetration, obviously that – and I can see it in the stores, it means more skus, do you also feel like you’re getting more shelf space in the doors that you’re in?

Michael F. Buckely

Absolutely. I think what we’ve seen over the last probably year to year and a half is a consolidation of brands where there was 20 brands a year and a half two years ago and then it was 10 and now it’s five or six brands that you really see front and center in most of the major accounts we sell out there. True Religion continues to be one of the top performers so the premium denim overall open to buy might only be going up slightly but they’re given more dollars to fewer brands.

Operator

Our next question comes from Analyst for Karen Short – Friedman Billings Ramsey.

Analyst for Karen Short – Friedman Billings Ramsey

We were just hoping you could provide some more details on the 4Q backlog? Any update you can provide on what you’ve seen since September 30th, have you seen any order cancellations or order shifted to the first quarter? And also, what does this number include in terms of reorders and automatic replenishments or is it primarily based on orders that have already been shipped?

Michael F. Buckely

It’s clearly it’s based on orders that existed on September 30th so it wouldn’t be anything that would have shipped. It’s a very solid order book on the US wholesale side, it’s up more than 30% compared to last year. The major side is clearly driven that as it did in the third quarter for us. At retail, we continue to perform well. You can do your channel checks, the orders that we have currently, the department stores continue to confirm them, we’re not seeing cancellations from the majors.

So, in a fairly difficult environment out there with less customers walking in the stores we’re holding out very well.

Analyst for Karen Short – Friedman Billings Ramsey

Can you provide an update on the roll out of a store within a store in Bloomingdales?

Michael F. Buckely

Well, there’s really no update on that front. We developed a package for them and I think Bloomingdales’ posture at this point is really to not use vendor fixturing rather than to basically give us more space where we’ll be able to put our signage in, put coordinators but it wouldn’t be True Religion fixturings in.

Analyst for Karen Short – Friedman Billings Ramsey

What are you seeing in terms of the men’s versus women’s product mix internationally compared to the US?

Michael F. Buckely

We don’t have the break out right here.

Analyst for Karen Short – Friedman Billings Ramsey

Can you give us some sense of the biggest trends or changes in trends to look for in the spring line?

Jeffrey Lubell

Karen, as far as the spring line is concerned we keep pushing forward. We have a myriad of groups that we are holding back. You have to give the groups time in order to perform at retail but you’re going to see a lot more knits with stretch on the women’s side and a lot more vintage washes, most of the markets like a rinse and very clean finishes and I like to push the spectrum and go the opposite way.

But, we have a lot of product coming in. We added new crystals, we have a lot of leather treated with studded, disco, updates to the super T, the big T, just a lot of new product which you could definitely see at the upcoming shows.

Operator

Our next question comes from Jody Kane – Sidoti & Company, Inc.

Jody Kane – Sidoti & Company, Inc.

Can we just talk a little bit about the gross margin, it seems to be that it goes up every quarter and I’m wondering what’s driving it from a product standpoint and just how much higher can it go?

Peter F. Collins

The growth in the gross margin is a function of the sales mix. The highest margin business we have from a gross margin perspective is our consumer direct business and that keeps gaining share of our overall sales. I mean, in the quarter it was up nearly 200%, the consumer direct segment sales that is and the international was up 3% and the US wholesale was up a little over 50% so as that consumer direct business grows, that’s what’s really driven the gross margin expansion.

Jody Kane – Sidoti & Company, Inc.

Is there another sort of number you can put on it as to we’re looking at another 500 basis points, 1,000 basis points as to how much higher it’s going to go?

Peter F. Collins

I think what we’ve been able to demonstrate is that our gross margin in the consumer direct business has been consistent for the last year and a half when we went from four stores at the beginning of ’07 to the 36 we had opened at the end of this last quarter. That’s been in the 75% to 77% range for gross margin. The other thing that we’ve shared with everybody is that our plan is, and we just reaffirmed it with our comments that we’d like to see the mix move to 50% of the sales coming from that consumer direct side of the business.

In the quarter it was 27% of the mix. So, I think if you do the math you can get some sense of the additional expansion that we’re expecting in the future in our gross margins.

Jody Kane – Sidoti & Company, Inc.

The fact that the gross margin keeps going up I would presume means that there’s not much discounting at the stores, at the department or your retail stores at all?

Peter F. Collins

That’s right. In our own stores we continue to operate with the philosophy that our full price stores do not go on sale. We do move merchandise that is slow moving to our outlet stores as opposed to marking it down in our full priced stores. Then, we continue to have good margins on our wholesale business.

We had very few returns and very small amounts of any other type of allowances with the majors and with the boutiques. From that perspective, from an operating perspective the margins are doing very well.

Jody Kane – Sidoti & Company, Inc.

Just finally on the consumer spending or consumer traffic or mall traffic side, how do you guys explain how your business continues to do well despite what’s going on out there? Is it the design, the price points? If you could talk a little bit about what you think is driving your business when everyone else is suffering?

Peter F. Collins

Jody, it’s really what Jeff likes to talk about it’s the product. It all starts with the product. We’ve got a unique product that others in the market place don’t have. We’re the leader, we’re the trendsetter and so the people that want to see that product that are interested in fashion they’re out there buying our product. We look at ourselves and see ourselves as being the very immature company in a growing category.

Our brand is very strong and we just think there’s a lot of potential for us from a market share perspective. You look at other companies that have premium denim business that’s been around for more than 20 years, you think like a Diesel, Diesel is doing well over $1.5 billion on a global basis. So, we think there’s a lot of potential out there for us to continue to grow and it’s really driven by the product and the consumer’s appetite for the product and that’s what’s driving the sales growth we’ve had especially over the last four quarters.

Operator

Our next question comes from Kelly Duval – BB&T Capital Markets.

Kelly Duval – BB&T Capital Markets

I have first of all a couple of questions around your outlets, I think as of Q2 conference call you were at eight outlets, is that still correct? Have you opened anymore?

Peter F. Collins

We have nine today.

Kelly Duval – BB&T Capital Markets

Your seven stores you are opening in Q1, those are all full priced stores?

Peter F. Collins

Actually, I’m not sure. There are some outlets opening next year. We want to stay with this for every three or four full price stores, we have one outlet. I don’t have a list right in front of me but there’s possibly one that could be in there.

Kelly Duval – BB&T Capital Markets

Then my next question is actually on the sportswear side, you had talked a little bit about retail stores and how that gives you an opportunity to test items and I’m wondering if there’s anything in the sportswear side that you’ve been testing, kind of shifts in that merchandise mix that could help you get to that higher ratio that you’re looking to get at in sportswear?

Jeffrey Lubell

Yes. We’ve been testing the new down vests and down jackets both in the western feel and the classic feel as well as the denim down jacket. We are testing a myriad of graphics with more girly girl crystal type affects to them, introducing stretch fabrics, LYCRA in to our knits for women’s. I’m adding fleece with LYCRA, I’m adding velour with LYCRA, I’m adding all sorts of new knitwear products and woven shirts with LYCRA both actually for women’s on the LYCRA side.

Kelly Duval – BB&T Capital Markets

So you’re saying that the results from that are kind of helping you shape the mix towards getting more of that in to the kind of wholesale channel as well then?

Jeffrey Lubell

Yes, as well as also our licensees, our handbags, our fragrances, our shoes, our hats. I hear a lot of talk in the market place how sportswear in general in the major channels is really off like 80%, 90% of what it was. I’m happy with the 20% for this quarter but we want to achieve that 60/40 mix long term.

Operator

Our next question comes from Paula Torch – Needham & Company.

Paula Torch – Needham & Company

You had mentioned last quarter that after jeans, tees were the second biggest selling category so as we move on in to the cooler months have you seen more of a shift to fleece and wovens or is the tees business still maintaining its strength?

Jeffrey Lubell

I see the jean segment being the staple of the wardrobe for both men’s and women’s today. You’ll find a lot of women wearing a beautiful pair of jeans with a Valencia bag, a Dolce & Gabbana top, Chloe boots and it’s all about the style and the fashion that’s going on today.

Paula Torch – Needham & Company

Right, I think I was just more curious about your non-denim apparel and what was the strongest category there?

Jeffrey Lubell

The strongest category in our non-denim apparel was t-shirts, sweatshirts and our fleece items.

Paula Torch – Needham & Company

Now, I know myself I love to put on my jeans with my Dolce & Gabbana bags but I’m just curious that even though the premium denim market continues to be performing well, have you found at all that the customer is becoming price resistant in this environment at all? I mean, is he or she responding better to jeans over $200 or under $200 and vice-a-versa? Then, incidentally would you be seeing an uptick in conversion and traffic at your outlet stores versus your full price?

Jeffrey Lubell

I’ll let Mike answer the later but, you can’t fool the consumer. If they see a product that they like they’ll buy it. I think that the trend is to buy – as opposed to a woman buying a full wardrobe she’ll buy one, or two, or three items she feels she really needs to compliment her wardrobe. Men are very loyal consumers so they’re always looking for the next thing as well as women and we keep bringing out new product that gravitates towards our consumer.

Michael F. Buckely

As far as are we converting more in the outlet stores versus the full price stores, I mean even in October we comp’d up in both segments.

Operator

Ladies and gentlemen that’s all the time we have for questions today. Mr. Lubell I’ll turn it back to you for closing comments.

Jeffrey Lubell

Thank you for joining us this afternoon. As always, we appreciate your continuous support and interest in our company. If anyone has any further questions, please do not hesitate to contact Pete or the team at ICR. This concludes our call today and thank you for your attention.

Operator

Ladies and gentlemen we do thank you again for your participation. At this time you may disconnect.

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Source: True Religion Apparel, Inc. Q3 2008 (Qtr End 9/30/08) Earnings Call Transcript
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