Stage Stores, Inc. F3Q08 (Qtr End 11/01/08) Earnings Call Transcript

Nov.20.08 | About: Stage Stores, (SSI)

Stage Stores, Inc. (NYSE:SSI)

F3Q08 Earnings Call

November 20, 2008 8:30 am ET

Executives

Bob Aronson - Vice President Investor Relations

Andy Hall - President and Chief Executive Officer

Ed Record - Executive Vice President and Chief Financial Officer

Analysts

Jeff Blaeser - Morgan Joseph

David Mann - Johnson Rice

Robert Drbul – Barclay’s Capital

David Glick - Buckingham Research

Operator

(Operator Instructions) Welcome to Stage Stores Conference Call. I would now like to introduce your moderator for the day’s conference call Mr. Bob Aronson, Vice President Investor Relations.

Bob Aronson

Welcome to Stage Stores Third Quarter Conference Call. Speaking this morning from the company will be Andy Hall, President and Chief Executive Officer, and Ed Record, Executive Vice President and Chief Financial Officer. Andy will provide a high level overview of the financial and operational highlights for the third quarter. Ed will discuss the quarter’s financial results in greater detail and will also cover the company’s fourth quarter sales and earnings outlooks.

Before they begin I would like to point out that our comments this morning contain forward looking statements. Forward looking statements reflect our expectations regarding future events and operating performance and often contain words such as believe, expect, may, will, should, could, anticipate, plan or similar words.

Our forward looking statements include comments regarding the number of new stores that we plan to open in November, the number of stores that we plan to close by the end of the year and the number of new stores that we plan to open in the 2009 fiscal year as well as the number of Estée Lauder and Clinique counters that we plan to roll out in the 2009 fiscal year.

Our forward looking statements also include comments regarding our net sales, comparable store sales, gross margin, SG&A expenses and earnings outlooks for the fourth quarter of the 2008 fiscal year, our anticipated year end borrowing amount and our planned capital expenditures for the 2009 fiscal year. Such forward looking statements are subject to a number of risks and uncertainties which could cause our actual results to differ materially from those anticipated by the forward looking statements.

These risks and uncertainties include but are not limited those described in our most recent annual report on Form 10-K as filed with the Securities and Exchange Commission and other factors as may periodically be described in other company filings with the SEC.

With all that said I would like to turn the call over to Andy.

Andy Hall

We appreciate you joining us today for our third quarter conference call. The third quarter turned out to be an extremely difficult and challenging period in which our sales and earnings clearly did not meet our initial expectations. We experienced significantly reduced customer traffic in our stores as economic conditions deteriorated rapidly and consumer confidence reached historic lows. In addition, hurricanes Gustaf and Ike led to the temporary closing of 53 and 121 stores respectively.

We estimate that the storms cost us approximately $10 million in sales. We currently have all but four of the hurricane impacted stores operational. With sales trending below our expectations we became more aggressive in our marketing efforts and accelerated the liquidation of our clearance goods. While we are disappointed with our overall financial results we are satisfied with our quarter end inventory position of down 13% on a comparable store basis. We are also pleased with our expense control efforts as SG&A expenses were down $2.2 million versus last year despite operating 44 more stores.

Moving now to a brief discussion of our major merchandise categories; cosmetics once again led the way with a 7.8% comparable store sales gain for the quarter. Given the reduced store traffic all remaining merchandise categories and all market regions experienced negative comparable store sales for the quarter.

During the third quarter we completed the installation of three new Estée Lauder and three new Clinique counters. These additions brought the total number of Estée Lauder counters to 150 and our Clinique counters to 136. In the fourth quarter we currently expect to open six new Estée Lauder and five new Clinique counters. We are currently working with Estée Lauder and Clinique to finalize our roll out plans for fiscal 2009 but at this point we anticipate installing approximately 20 Estée Lauder and 20 Clinique counters.

With regard to our comparable store sales by market size all of which are adjusted for the impact of hurricanes our small markets led the way at down 7%, our mid size markets were down 8.2% and our large markets were down 9.8%. Even in these tough economic times our small markets continue to out perform our larger markets which supports our ongoing strategy of primarily opening new stores in small markets.

Turning now to our third quarter store based activities; we opened 17 new stores, relocated three stores and expanded two stores. We also increased our geographic presence to 38 states by entering Minnesota and Nevada. We closed five stores during the quarter which included four hurricane damaged stores. We ended the period with 731 stores comprising a total of approximately 13.6 million selling square feet.

In November we will open 11 additional new stores and re-open three of the four hurricane damaged stores. In total we will open 56 new stores in fiscal 2008. Finally, we anticipate closing five more stores by year end.

As we previously announced, given the current economic conditions we are moderating the pace of our 2009 new store openings. We plan to open between 30 and 40 new stores. We believe this store opening plan strikes an appropriate balance between growth and capital preservation. While we are currently in the midst of a slowing economy we are confident that we can open stores that meet our internal hurdle rates and we will be well positioned in our target markets when the economy improves.

As we enter the holiday shopping period we feel good about our product offerings which will provide our customers with great gift selections and assortments of preferred brands. Having said that we believe the macro economic environment will continue to be difficult and we will face highly promotional market conditions. As a result we are projecting that our comparable stores sales for the fourth quarter will be down 8% to 10%.

While we can’t control the economy or the mood of the consumer we will continue to focus on the things that we can control such as providing our customers with exceptional service and trend right merchandise assortments, reordering merchandise with strong sell throughs, offering our customers compelling values, conservatively managing our inventory levels, controlling our expenses and executing an aggressive marketing campaign.

Our marketing efforts during the quarter will focus on increasing traffic to our stores. Our efforts will be supported by an increased advertising spend and an enhanced promotional calendar.

Before I wrap up I want to express the feelings of our entire company and sincerely thank Jim Scarborough for an outstanding job that he did as our CEO. He left us a much stronger and better positioned company than when he joined us. For that we are all grateful. I look forward to collaborating with our management team as we work to further strengthen our position as the leading small town retailer of nationally branded family apparel.

I also want to welcome Rich Maloney to our company as he takes the reigns of the Peebles division. Based on his extensive retail experience and successful track record I am confident he will play a key role in the continuing development and growth of the Peebles division.

Lastly, I want to reiterate that the goodwill impairment charge that we took in the third quarter, the details of which Ed will discuss shortly was a non-cash charge and had no impact on our revolving credit facility covenants or cash flows. Our company is financially strong with current year cash flows that allowed us to open 56 new stores and still end the year with about one half as much debt as we had last year end.

That concludes my remarks so I’ll turn the call over to Ed.

Ed Record

I’ll provide a quick review of our third quarter financial results and then I’ll cover our updated outlook for the fourth quarter. Sales for this year’s third quarter were $334 million down 6% to last years $355 million. Contributions from net new stores of $14 million were offset by reduction of $35 million in comparable store sales. Comparable store sales were down 10.3% for the quarter. As Andy discussed earlier this was driven entirely by reduced transactions per store as our average ticket was up 70 basis points. Average unit retail was up 2.7% and average units per transaction were down 2%.

Our performance for the quarter was impacted by a tropical storm and two hurricanes which combined resulted in approximately $10 million of lost sales. Without the impact from these storms our comp store performance would have been down 7.6%.

Our credit portfolio continues to hold up well with average open to buy, account limits and account balances higher than last year. Credit penetration was flat for the quarter, delinquency rates at Peebles continues to tick up slightly but not materially and Stage division delinquency rates started the quarter better than last year and ended slightly worse with a deterioration driven primarily by the impact of hurricane Ike.

While we sold our credit portfolio to Alliance Data Systems five years ago we still share in the profits of the portfolio, despite the difficulty and the macro credit environment our credit income leverage for the third quarter. The gross profit rate for the third quarter was 22.4% down 410 basis points from last year. This decline in the rate is a combination of a 220 basis point reduction in our merchandise margins and 190 basis point increase in the buying, occupancy, and distribution components of cost of sales.

Merchandise margins were negatively impacted by the acceleration of our clearance liquidation in the third quarter and high end promotional activities. We ended the quarter with our inventory levels down approximately 13% on a comparable store basis. The increase in buying, occupancy and distribution components of cost of sales is primarily due to higher rent and depreciation expense resulting from our increased store count versus last year as well as the overall de-leveraging given our negative comparable store sales for the quarter.

The third quarter SG&A rate was 25.3%, 90 basis points above last year. SG&A expenses were $2.2 million less than last year despite operating 44 more stores at the end of the quarter this year versus last year. We continue to manage our store expenses in line with store traffic. We’ve also worked hard all year to keep our corporate overhead at last years level and expect corporate overhead expense for fiscal 2008 to be less than fiscal 2007.

Our store opening costs were $2.3 million this year versus $2.5 million last year. We opened 17 new stores and relocated three stores during the quarter while we opened 21 new stores and relocated four stores during the same period last year.

Interest expense for the quarter was $1.4 million, $1.2 million last year. Interest expense on our equipment financing notes of which we have $46.1 million outstanding this year versus none last year offset our savings on a revolving credit facility which had quarter end borrowings of $65.6 million this year versus $103.1 million last year.

With regard to the goodwill impairment charge during the third quarter as a result of the decline in the market capitalization for the company and other factors we determined that an interim goodwill impairment test outcome of our normal fourth quarter testing period outside of our normal fourth quarter testing period was necessary. We have historically employed various methodologies to determine the fair value of the Peebles reporting unit.

These tests rely on market valuation multiples, comparable transaction multiples and the expected cash flows of the reporting unit. Given the recent reduction in market multiples and the current challenging economic environment and its impact on the Peebles reporting units, sales and earnings performance we determined that a total write off to the goodwill related to Peebles and BC Moore acquisitions was warranted. This resulted in a one time goodwill impairment charge of $95.4 million or $2.47 per diluted share.

Just to reiterate what Andy said it is important to remember that this is a non-cash charge which will not affect the company’s revolving credit facility covenants or our cash flows.

We had a tax benefit of $6 million in this years third quarter versus a tax expense of $1.5 million last year. I should point out that the goodwill impairment charge is not tax deductible. Taxes for the quarter were also impacted by work opportunity tax credits received are approximately $900,000. Last year’s third quarter tax rate was 37.8%. We expect this year’s fourth quarter tax rate to be 38%.

Our net income for the quarter including the goodwill impairment charge was a loss of $102.8 million or $2.66 per share. Excluding the goodwill impairment charge we had a loss of $7.4 million or $0.19 per share this year versus net income of $2.4 million or $0.06 per share last year. Our diluted share count which equaled our basic share count because we had a net loss this quarter was 38.6 million shares versus 42.3 million shares last year.

Our financial condition remained strong during the quarter. At the end of the period we had outstanding borrowings under our $250 million revolving credit facility of $65.6 million versus $103.1 million last year. With regard to our cash flow year to date cash from operations totaled $67.6 million this year which is $33 million higher than last year.

In conjunction with our holiday inventory build, mid next week will represent the high point of our revolving credit facility borrowings for the year. We expect to have approximately $132 million in excess availability at our peak borrowing. By year end we expect the borrowings on our revolver to be less than $10 million versus fiscal 2007 year end revolver borrowings of $63 million.

Capital expenditures for the third quarter net of landlord construction allowanced totaled $17.6 million this year compared to $16.1 million last year. For the full fiscal year we expect capital expenditures net of landlord allowances to total approximately $80 million.

Looking to next year with no further expenditures required on our new Jeffersonville higher distribution center and assuming 30 to 40 new store openings we anticipate that our capital expenditures in fiscal 2009 will be approximately $55 million. That completes my remarks on our third quarter financial results.

At this point I would briefly like to review our updated outlook for the fourth quarter. For the fourth quarter we expect to report revenues in the range of $448 million to $457 million with comparable store sales down 8% to 10%. Within the quarter itself we expect November comps to be down in the mid teens as there are two post Thanksgiving days this year versus nine days last year.

We expect December to benefit from two extra shopping days pre-Christmas this year but still anticipate that December comps will be down in the low to mid single digits. We expect January to look like the quarter as a whole we are projecting earnings of $0.64 to $0.70 per share. Our outlook compares to sales of $473 million and earnings of $0.78 per share for last years fourth quarter. In projecting earnings per share we used an estimated diluted share count of 38.2 million shares versus 40.5 million shares last year.

We expect fourth quarter merchandise margins as a rate of sales to be slightly up to last year as the benefit from the acceleration of clearance into the third quarter offsets the increased promotional activity expected during the holiday season. We expect the total gross margin rate to be down slightly to last year due to the de-leveraging impact of additional stores and fixed costs and the negative comp store sales environment.

Fourth quarter SG&A expenses are expected to increase 1% to 2% in total. This increase is driven by the additional 46 new stores in operation in the fourth quarter this year versus last year. As Andy discussed incremental advertising expense related to more aggressive holiday promotional campaign.

That completes my remarks and with that Andy and I will now like to open it up for questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Jeff Blaeser - Morgan Joseph

Jeff Blaeser - Morgan Joseph

A few things on the CapEx if you could give us, what’s the base minimum CapEx, CapEx per store and the impact from the new distribution center this year?

Ed Record

First, with the distribution center we’ll spend about $9 million this year. We did have additional spend last year I think that brings our spend into mid teen range over the two years. We spend about $0.5 million for a new store in CapEx, it varies on the deal and depending how much landlord allowance we get but on average its $0.05 million.

Jeff Blaeser - Morgan Joseph

Have you seen any change in the terms for new store openings in terms of better rates going forward?

Andy Hall

I think in total we haven’t seen a whole lot of change in the small town America real estate market. I think moving the new store opening to 30 to 40 stores versus the 50 to 70 that we were looking at previously affords us the opportunity to be more selective in our stores and we can push back and make sure that we get the best 30 to 40 deals that are out there. Having said that I think the terms will be slightly better this year because we’re not opening as many stores but generally speaking I think the real estate environment looks to be the same out in small town America.

Jeff Blaeser - Morgan Joseph

On the gross margins it may be difficult to quantify but the impact from the two hurricanes obviously the $10 million in sales and probably some additional promotional activity skewed with that but is there any way you could ballpark a figure on what you thought gross margins would be without the hurricanes?

Ed Record

We haven’t really quantified that. Obviously the biggest impact would have been on the fixed costs which de-levered on the $10 million. The rest of the margin we de-leveraged our per markdowns because of the lost sales and that would have had an impact but we really haven’t quantified it.

Operator

Your next question comes from David Mann - Johnson Rice

David Mann - Johnson Rice

On the store openings is there any chance of delaying them further to conserve or reduce CapEx more in ’09?

Andy Hall

We feel comfortable with today’s environment on the 30 to 40 stores. We do think its conservative and a prudent balance between growth and capital preservation. However, we’re in an environment that seems to change daily and weekly so if we see significant further deterioration in the operating environment I think we would be in a position to pull back on the new store openings if we thought that was the right answer.

David Mann - Johnson Rice

In terms of the SG&A that you delivered in Q3 very impressive. Can you talk about in an environment that is more difficult what opportunities you might have for further cost efficiency?

Ed Record

Like we said in the release we continue to manage it with sales and we cut our stores pretty much to the bone. We’ll continue to pressure that if we can in fourth quarter there’s a little more opportunity there because you have a little additional staffing. We don’t want to hurt the customer experience. We think we’re probably where we need to be on payroll. We continue to look at the corporate overhead. We’re going to be below last year at the end of this year and we were below last year at the end of the third quarter. We think that will continue and we think we continue to have opportunity there.

We’re looking at things like insurance or workers comp and general liability who continue to do a great job there in managing that and bringing those expenses down. As we talked about, credit continues to leverage for us and we expect it to get better in the fourth quarter versus last year on dollar terms. We think there is opportunity out there but it’s all across the board in small dollars that just add up.

Andy Hall

We have looked at our December store operating hours and looked at the productivity from sales standpoint last year with those hours. In places where we had unproductive hours we have cut those back this year. We are looking at anything and everything to make sure that we’re being as prudent as possible on the expense management line.

David Mann - Johnson Rice

In terms of credit it sounds like from a lot of what we’re hearing out in the industry limits are being curtailed, obviously performance of other portfolios are weakening. Can you reconcile from your discussions with your credit provider why limits aren’t being pulled back, what approval rates, how they’re holding up and why you are seeing better income relative to your sales rate?

Ed Record

We’ve actually see approval rates go up, I think that is contrary to what you’re hearing. Our credit limit is actually although up slightly is still up to last year. This is our hypothesis that our small town consumer is holding up better than some of the large city consumers and that they may not have been as leveraged as some of the other consumers because we continue to see them perform relatively well in this environment.

Andy Hall

It’s also our understanding that our portfolio is the best performing portfolio in the ADS stable of portfolios. That small town consumer where they didn’t have the boom and bust in the housing cycle and the price of houses was not as impacted with the downturn in the real estate climate.

David Mann - Johnson Rice

Can you talk about how much of that is the Southwest or South Central portfolio offsetting perhaps weakness in the Southeast, is there a big disparity between the two?

Ed Record

There really isn’t. We break it by the Stage division, the Peebles division and they’re performing relatively comparable to each other. Approval rates, as we talked about, are up in both divisions.

Operator

Your next question comes from Robert Drbul – Barclay’s Capital

Robert Drbul – Barclay’s Capital

Can you talk a little bit about any trends that you’ve seen in traffic with the declining gas prices on your business that you would call out?

Andy Hall

Interestingly with gas prices in October going down at the pump we really didn’t see any reaction to traffic coming in the stores, I think there was enough other negative headlines out there that the reduction in the price of gas kind of got lost on the consumer. Interestingly when gas prices went up two years ago and that was the major focus, the singular thing that was going on out there you definitely saw a reduction in traffic and then when it got combined with increasing grocery prices you just saw a reduction in traffic.

When the prices went back down you didn’t hear much about it in the news and the headlines there was enough other negative information out there that consumer sentiment was still at historic lows even with gas prices going down.

Robert Drbul – Barclay’s Capital

Can you talk a little bit about the terms of your revolving credit facility and the covenants and where you are with it, give some detail but in terms of how big is it and any other details you might share with us?

Ed Record

As we talked earlier its $250 million there really are no covenants, the only issue is if we get below we go out on the line and have less than $35 million availability things kick in that the banks can take control of our bank accounts and things of that sort. We basically have to keep $35 million of availability on the line. It runs through 2012, we signed up last year, it’s a five year deal. Clearly it’s priced below market at this point.

Robert Drbul – Barclay’s Capital

As you look to 2009 can you talk about how much of your spring merchandise commitments you’ve completed and how you’re thinking about your buys at this point in time?

Andy Hall

We’re not really ready to talk about specifics but I can tell you that our mindset is very conservative and we probably have placed 30% of spring at this point. There are other commitments out there but a purchase order hasn’t been written. We’re still very liquid on spring, our viewpoint and communication to the merchant groups is that we’re going to be very conservative as we plan spring. We don’t see a quick turn around to the economic times that we’re in so I think our mindset of controlling inventory and being conservative will continue through the spring.

Robert Drbul – Barclay’s Capital

Have you started to see any new brands that you couldn’t get before in terms of apparel or footwear or anything like that that are actually starting to open up to you now?

Andy Hall

No, we really always had access to the brands that we wanted in our small town format so that was never really an issue. I do think that in today’s retail environment I think the vendor community really appreciates our model. We’re probably one of the few retailers that are walking through their doors with a growth story. I think we’ve always had great vendor relations that continues today and certainly being a growth story in today’s environment of retailer bankruptcies and pull backs is one of the bright spots out there.

Operator

Your next question comes from David Glick - Buckingham Research

David Glick - Buckingham Research

I know you’re not talking about ’09 but I just wanted to get a sense how you guys think about SG&A dollars. A lot of the department stores are talking about how difficult it is to reduce the SG&A dollar level in ’09 from ’08 given if you’re going to give employees raises, health insurance, a lot of your costs are fixed. You’re opening new stores; credit is an issue for some of the department stores. Can you give us some sense of what that level could be? Should we think about it as flattish does it inevitably have to grow because some of the factors that I’m talking about any color on that would be really helpful.

Ed Record

We’re still working through obviously our ’09 plans but and it is going to be a challenge all the things you mentioned obviously in effect here as well. We do think we’ll be able to leverage in a negative comp environment from and SG&A standpoint somewhere between flat to down 2% is what we’re targeting.

We do have a little bit of a benefit because most of our fixed costs are reported up in margin and obviously there’s not a whole lot we can do about rank costs for our stores although we’re working on that as well. There will be some of the de-leveraging we’ll see in the margin lines but from an SG&A standpoint we’re hoping to leverage at a flat to negative comp.

David Glick - Buckingham Research

Does that mean in an absolute sense the dollars could be down slightly?

Ed Record

Dollars will probably go up; we’ll still anniversary the fall stores we opened this year plus the 35 stores next year. On a comp store basis we should be able to leverage in the low single digits.

Operator

I’m showing no additional questions or comments in the queue at this time.

Andy Hall

We’d like to thank everyone for participating in our conference call today and we look forward to speaking with you again after the conclusion of the fourth quarter. Thank you.

Operator

Thank you for participating in today’s conference. This concludes the program. You may now disconnect. Everyone have a wonderful day.

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