Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

Barnes & Noble Inc. (NYSE:BKS)

Q3 2008 Earnings Call

November 20, 2008 10:00 am ET

Executives

Joseph J. Lombardi – Chief Financial Officer

Stephen Riggio – Vice Chairman of the Board and Chief Executive Officer

Mitchell Klipper – Chief Operating Officer

Analysts

Charles Grom – JP Morgan

William Armstrong – C.L. King & Associates, Inc.

David Schick – Stifel Nicolaus & Company, Inc.

Alan Rifkin – Merrill Lynch

David Schick – Stifel Nicolaus & Company, Inc.

Operator

Good day everyone and welcome to this Barnes & Noble third quarter 2008 earnings results conference call. Today’s call is being recorded. At this time for opening remarks and introductions I would now like to turn the call over to the Chief Financial Officer, Mr. Joseph Lombardi.

Joseph J. Lombardi

Good morning and welcome to Barnes & Nobles third quarter 2008 conference call. Joining us today are Steve Riggio, Mitchell Klipper and other members of the senior management team. Before we begin I would like to remind you that this call is covered by the Safe Harbor disclosure contained in our public documents and is the property of Barnes & Noble. It is not to be broadcast or used by any other party without the prior written consent of Barnes & Noble.

This morning before the market opened, we released our results for the third quarter ending November 1, 2008. Consolidated sales totaled $1 billion 123 million for the quarter, a 4.4 % decrease compared to last years 5.7 % increase.

Sales at Barnes & Noble stores were $971 million for the quarter, down 4.4 % over a year ago. Comparable store sales declined 7.4 % for the quarter, which was lower then guidance, which called for a decrease in the low single digits.

Store traffic was down throughout the quarter continuing a trend from earlier in the year. Our average ticket was slightly up this year until midway through the third quarter, when our average ticket began to decline albeit moderately.

Sales at barnesandnoble.com were $109 million for the quarter; a 2 % comparable sales increase on top of last years 14.5% increase. Gross margins declined 30 days this points this quarter however, last years third quarter gross margin included a physical inventory shortage benefit. Excluding the benefit from last year gross margins increased from 29.3 % to 29.9 % this quarter.

With a 7.4 % comparable stores sales decline our gross margins are pressured, as it is difficult to leverage fixed occupancy costs, which are included on our gross margin line. As was the case in the second quarter we continued to see margin benefits in two areas; first, greater through put and usage of our distribution center network and second, reduced markdowns as a percentage to sales.

Selling and administrative expenses include two charges recorded this quarter an $11.6 million pre-tax asset an impairment charge, and a previously announced pre tax charge of $3 million related to a management resignation.

Excluding those charges our selling and administrative expenses were essentially flat with last year at $304 million despite 19 net new store openings since then. The company has recorded an asset impairment charge during the fourth quarter in each of the last three years. This year impairment indicators warranted recognition of a charge in the third quarter. As a result, we determined that the asset carrying value in certain of our stores exceeded the anticipated future cash flows and the charge was recorded in the third quarter.

The company reported a net loss of $0.34 per share including the asset impairment charge of $0.13 per share and the management resignation charge of $0.03 per share. Excluding those charges, net loss per share was $0.18 compared to guidance for a loss per share of $0.10 to $0.15. At quarter end the company’s balance sheet and financial condition remain in excellent shape. Inventories declined $107 million or 6.5 % this quarter, compared to last year despite 19 net new store openings and the sales short fall.

The company had borrowings of $127 million at quarter end or $110 million net of cash. Our seasonal borrowing peaked last week at $200 million and we are forecasting year end cash balance of $150 to $200 million and no debt.

While we were disappointed with our sales performance, we believe that much of our comparable stores sales decline has to do with external economic forces. We are however very pleased with three accomplishments in areas of our business we can control.

First, we maintained and controlled our store expenses, particularly store payroll, while delivering outstanding customer service. Second we reduced our inventory quantities while maintaining quality and selection. And finally, we increased gross margins through relentless pursuit of improving supply chain efficiencies and maintaining our focus on promoting profitable top line sales.

Now we’d like to talk about fourth quarter and full year guidance. While it is difficult to forecast sales in any certainty in the current retail environment, the company is reducing its full year sales and earnings forecast based on the negative sales trends to date. For the fourth quarter, the company expects comparable store sales to decline 6% to 9 %. This would result in a decline in full year comparable store sales of about 5% to 6%. Fourth quarter earning per share is projected to be in a range of $1.40 to $1.70. Full year earnings per share is now expected to be in a range of $1.30 to $1.60.

In our second quarter conference call we lowered our capital expenditure guidance for 2008 down to a range of $210 to $220 million. We now expect this year's capital expenditure number to be $190 to $200 million as certain projects have been cancelled or deferred.

In addition, last quarter we noted that our store opening count for 2009 would be 20 to 25 new stores. We are now reducing that number to approximately 15 new stores which is a result of many new developments around the country being delayed or cancelled. Nine of the new stores for next year are relocations and upgrades.

In light of the current business climate and preliminary expectations for 2009, the company is currently reviewing its capital expenditures and expenses with the focus on cash flow. We currently forecast $50 to $75 million of free cash flow this year. As I noted earlier, we expect to have $150 to $200 million of cash on hand at year end with no debt. Our borrowing capacity significantly exceeds our seasonal financing needs. We have ample room in the financial covenants required by our credit facility and our facility has a term through 2011.

In addition, we have hundreds of store leases, which are up for renewal in the next few years. We generally have high quality real estate in terms of our centers and co-tenancies. Traditionally we sign 10-year leases with multiple options, which provides us with tremendous financial flexibility on renewing these leases.

Given today’s retail and economic outlook we believe that this real estate flexibility, coupled with the strength of our balance sheet overall, will enable us to manage our business as effectively as possible during these uncertain times.

At this point I’d like to turn this discussion over to our CEO, Steve Riggio.

Stephen Riggio

We are obviously seeing the same type of decline in traffic being reported by other major retailers. The book business has also been affected by lack of coverage of books both in the mainstream media and on cable, news and talk radio, which were all fully devoted to coverage of the Presidential election and then the economic crisis which hit in September.

The comparable store sales decline we’ve experienced, as Joe mentioned, has had a deleveraging affect on the business as SG&A has risen as a percent of sales. As we all know, comparable store sales declines in retail typically also result in rising levels of unsold goods and subsequent deterioration of gross margins due to markdowns.

This is not the case with Barnes & Noble. Our inventory levels are lower than last year by a good amount, and our merchandise gross margins are higher then last year. While inventory levels have decreased, we have maintained outstanding breadth of selection in our stores and online. In fact our in stock standards for what we call core titles have never been higher. We have the books the people need and that they ask for everyday.

The increase in gross margin we’ve experienced is the result of small but steady improvements in our supply chain, thus reducing our use of lower margin purchases from whole sellers, and additionally margins have increased due to mix and lower sales of bestsellers and other low margin products, especially music and by less discounting promotional discounting and less couponing.

Our Internet sales out paced retail sales for the quarter, during which time we launched some extensive improvements to our website and expanded our product range. As we head into the holiday season our stores are well stocked and well staffed. Our website and e-commerce fulfillment and customer service departments are processing orders faster then ever, and we will continue to provide world class customer service whether people choose to shop online or in our stores.

In the difficult environment, economic environment, we believe that books compared to most other consumer product represent gifts that are affordable, personable, memorable and that last a lifetime. In conclusion, we are laser-like focused on managing our working capital efficiency, which is evident in a reduction of $170 million of inventory compared to last year and lowering our capital expenditures.

The company expects to have no borrowings at year-end. We believe that maintaining a strong balance sheet remains the major priority in this negative economic cycle.

Joseph J. Lombardi

At this point we’d like to turn it over to questions.

Question-and-Answer Session

Operator

(Operator Instructions). Your first question comes from Charles Grom – JP Morgan

Charles Grom – JP Morgan

Joe, just wondering if you could comment on membership, membership fee income or membership income, just both the combination of retention rates and new sign ups in this environment?

Joseph J. Lombardi

Our member rate is holding steady. This sign ups are on plan and the fee income as accordingly. So where we’re seeing – the membership is obviously the stronger part of the business in terms of the customer response. I would say the customers who are less frequent customers, certainly the non-members, would be where the business would be weaker.

Charles Grom – JP Morgan

I don’t know if you guys have ever quantified that but in light of what’s going on, I was wondering if you’d choose to do so at this time and also just let us know where that rolls through your European now, does it come through as a contra SG&A, or does it come through the top line?

Joseph J. Lombardi

The member fee income comes through the top line. And I don’t really have the intention to disclose that now.

Charles Grom – JP Morgan

The second question is, could you just elaborate a little bit more on the impairment charges exactly? What you guys are writing down?

Joseph J. Lombardi

There’s a handful of store locations, which don’t generate enough cash flow to cover the book value with their assets remaining, and we believe that those store's cash flows have been permanently impaired. They won’t recoup their asset value so it’s the fixed asset value if you will, the – what we invested in the store.

Charles Grom – JP Morgan

And then on the down 7.4 comp, could you break that down between traffic and ticket, and also how the comp trended throughout the quarter and I guess so far in November, I’m assuming it's ticked down a little bit worse. But I’m just wondering if you could comment on that?

Joseph J. Lombardi

The business was negative throughout the quarter obviously as everybody seems to have experienced September. The back end of September was a little worse, and everybody’s October was a little worse then that. And right now our business is trending where we’re comfortable with the 6% to 9% comp stores sales decline guidance for the quarter.

Traffic was obviously the big driver to the comp, the negative comp, and I did say that average ticket was down moderately. So it was a bit off, but if it really was a traffic – traffic is the story for the quarter.

Charles Grom – JP Morgan

And then this last question if I could, obviously the buyback you guys did in the first part of this year has really helped out your earnings. Given that you’re going to use cash flow generated in the fourth quarter to pay down debt, which is prudent, I’m assuming when we look at our 2009 model we shouldn’t expect a lot of buy backs, at least maybe until the end of the year. Is that a fair assumption? Just trying to arrive at what EPS should look like for next year?

Joseph J. Lombardi

Well I think you should, yes, we have basically exhausted our previous program and have announced no new authorization. We’re currently working on our 2009 business plans, and we’ll be discussing them with our board and deciding what we want to do going forward, but we are focused on cash flow and the use of that cash flow is to be determined.

Operator

Your next question comes from Bill Armstrong – C.L. King & Associates, Inc.

Bill Armstrong – C.L. King & Associates, Inc.

Two quick questions really, on inventory you’ve got that reduced by a pretty fair amount. Is there any risk that you may be under inventoried to the extent where you might you leave some sales on the table?

Joseph J. Lombardi

I would say that no, the answer’s no. I mean our in stock levels are as high as they’ve ever been.

Bill Armstrong – C.L. King & Associates, Inc.

And you still have return privileges with the publishers, correct?

Joseph J. Lombardi

That’s correct.

Bill Armstrong – C.L. King & Associates, Inc.

Segueing on from the previous question on share buybacks, were any shares bought back in the third quarter or were you already pretty much finished at that point?

Joseph J. Lombardi

We're pretty much finished. It was a minor amount just to cover employee sales of restricted stock. But effectively there were no buy backs other than that.

Bill Armstrong – C.L. King & Associates, Inc.

Got it and then finally are you seeing your competitors responding to the overall slowdown in traffic with more aggressive promotions or couponing or other types of initiatives?

Joseph J. Lombardi

I think retailers in general are promoting and doing what they can to drive sales and I don’t think – the business has been competitive and it continues to be. I don’t see anything other than that.

Bill Armstrong – C.L. King & Associates, Inc.

So not a notable step-up then in discounting or other types of promotions then?

Joseph J. Lombardi

No.

Bill Armstrong – C.L. King & Associates, Inc.

Okay is that something you would consider, given the negative trend we’re seeing?

Steve Riggio

I don’t think so, we’re finding that our member card, which people pay $25 for every year, it’s an annual fee and bakes in every day discounts, we’re finding that those customers are staying with us and we think that’s the strongest component of whatever you would classify as promotional discounting.

We’re sending out regular communications to our people and we have been, but the degree of discounting and then, we’ve actually cut back and we’ve seen buoyancy in the top line. So we don’t believe that more aggressive discounting is profitable. We can drive traffic potentially but we don’t think we can drive traffic profitably. We think we have the right kind of formula right now and we’re sticking to that.

Bill Armstrong – C.L. King & Associates, Inc.

And then last the question, could you tell us what comps were in the music department?

Joseph J. Lombardi

Well, we don’t really need to break it out. It's significantly negative, much more than the overall store.

Operator

Your next question will come from David Schick – Stifel Nicolaus & Company.

David Schick – Stifel Nicolaus & Company, Inc.

Steve, you made the comment that the media was not doing its typical talking about books and that has some impact. Can you give any detail as to post election, has there been – not whether it’s impacted the business, because obviously everything’s soft everywhere, not just your business – but is there any return to normal? What do you see it in any given title that we could think there might be some of that to come back?

Stephen Riggio

Well we’ve obviously seen it in books by President-Elect Barack Obama, which has been fantastic. Publishers actually lightened up their September and October publishing lists because they knew that the election would dominate the media. Obviously no one forecasted the economy as well to dominate the media, but we’re hoping that things get back on track as we enter the holidays and into the January season so that we can continue to get media interest in books.

It’s starting to come. I mean John Meacham’s book has been getting a lot of press; it’s doing very well. Rick Warren has a book coming out, so we hope things get back to what they were before. But again, the economic news is still dominating the media and we don’t see that letting up right now.

As they said, books are fairly affordable and we hope that as consumers get into the holiday season they recognize that a purchase of $15 or $20 or $25 can give someone a fairly memorable gift.

David Schick – Stifel Nicolaus & Company, Inc.

The second question is you mentioned the lease flexibility or the fact that lots of leases come up. Would you be able to give any range of, as you guys look at all these cancelled projects and the leases coming up, what kind of savings on the rent line we should think about over the next five years or is it too early?

Mitchell Klipper

This year we’ve renegotiated 77 leases that are coming due and I can tell you almost each and every one of them are, they’ll be paying less rent in the out years than we were currently paying. So as this economic climate continues and there's less retailers available to take the space, it gives us a lot more leverage with our landlords.

So they’re very happy with us there. We’re in pretty much great centers, otherwise we would be leaving. As you know we’ve upgraded some 100, 120 stores over the last eight ten years of the older, smaller stores and we’re constantly upgrading to bigger and better locations.

But the leases that are coming up is clearly an opportunity for the company and as time goes on we’ll see how big that number gets. But there’s clearly opportunity on each and every one of our renegotiations.

David Schick – Stifel Nicolaus & Company, Inc.

Is there any ballpark on that less in out years than in the past, like five, ten? I mean, do you want to hazard any sort of ballpark for that or?

Mitchell Klipper

No, we wouldn’t throw a number out there because we don’t know what that number’s going to be and again, we’re keeping the renewals very short-term so we have all flexibility. So I mean our plan early on was to go with 10-year leases with two and three, four, five year options, so as those leases are coming up it gives us all the financial flexibility of renewals in the out years. So we’re in pretty good shape on the real estate front.

Operator

Next we’ll hear from Alan Rifkin – Merrill Lynch.

Alan Rifkin – Merrill Lynch

Yes a couple of question if I may, just a follow-up to the asset impairment charge, Joe. Could you just maybe provide a little bit more color as to the change in timing going from Q4 to Q3, is the charge in Q3 in lieu of the Q4 charge, or should we still expect a charge in Q4?

Joseph J. Lombardi

Well we’re required to assess the ability of every store to recoup its cash to cover its investment. And given the third quarter results and certainly our forecast for the balance of the year, in our – we determined that it was appropriate to evaluate the stores for impairment now since we had indications of impairment.

If we’ve done a good job in our forecasting we have impaired all the stores that need to be impaired. So I can’t, I’m not going to project that there couldn’t be another store, but I think we’ve done a very thorough, detailed job in this analysis and the rules suggest that we know it today so we’re taking it today. And that’s how – why we recorded the charge in the third quarter. So if everything falls out as we forecasted it, we won’t have a charge in the fourth quarter.

Alan Rifkin – Merrill Lynch

Okay fair enough, Steve, you mentioned that the merchandise margins are above last year. In what increasingly looks like a potential deflationary environment across the board for 2009, I guess my first question is have you ever seen a deflationary environment in your business number one, and number two, if there should be deflation what is your opinion in your ability to maybe maintain some of the retail prices such that merchandise margins could hopefully expand in ’09?

Stephen Riggio

That’s a good question. Well I think we saw book prices through the late 90s and early into 2001 or ’02 raise higher, faster than the consumer price index and we were concerned about that. It did level off since then, but I don’t expect book prices to decline at all, I think they’ll remain stable through the next couple of years.

There’s no indication from the publishers that they will do anything and books still remain a relatively affordable purchase compared to many other consumer products, so we don’t see that as an issue at all.

Alan Rifkin – Merrill Lynch

One last question, Steve if I may, obviously the growth of the Kindle in just over a year, I think has exceeded what at least our expectations are. I don’t want to speak for anybody else. Are you contemplating, given that this is the backbone of your business, is there any contemplation on your part to maybe team up with some sort of a technology company to develop a similar product, exclusively for you so that you can compete better with the Kindle?

Stephen Riggio

We have many strategic projects on board for the company, both in the retail stores and online. And we wouldn’t comment any further on any of them until the day they’re launched.

Operator

Next we’ll hear from Dave Weiner – Deutsche Bank Securities.

Dave Weiner – Deutsche Bank Securities

A few questions going back to a question on traffic, in terms of the trends you saw you described those at the retail level. On a relative basis in terms of timing, did you see a drop off timing wise, again in the Internet business as well at around the same time as on the retail business?

Joseph J. Lombardi

The Internet business was going against a significant launch last year when we re-launched the site in October. So it’s not exactly a comparable period in terms of we had a major launch and some major things that we did in October last year so it’s kind of a tough comparison. But I mean obviously the Internet business was much stronger in the first half of the year.

Dave Weiner – Deutsche Bank Securities

So you wouldn’t even really say that it weakened during the quarter? Or you’re basically saying it’s just too difficult to make that because of the comparison?

Joseph J. Lombardi

No, no, I – it weakened. I’m not saying it didn’t weaken. It weakened, but in comparison it’s –

Stephen Riggio

It’s going up against a 14.9% comp last year, so it was just a big number to compare to.

Dave Weiner – Deutsche Bank Securities

Fair enough, fair enough. And then question on the S&A, SG&A line, can you – what specifically were the drivers there of the deleverage? Like what are the line items in there? Store labor I imagine is in there.

Joseph J. Lombardi

Yes store labor, store expenses and all of that and our home office.

Dave Weiner – Deutsche Bank Securities

So for example, on the store labor line, are there things you can do to lessen the deleverage in this weak environment? I mean are you running up against a lot of minimum store hours for your stores where you don’t want to reduce labor further, or are you pretty much – do you still have some room to go there?

Joseph J. Lombardi

I mean I think we’ve done a pretty good job all year of managing to what has been a basically a negative comparable store sales decline all year, obviously much worse in this quarter. And we’ve been managing store payroll particularly well. We continue to do that.

At some point, depending on the size of the decline, it gets very difficult to leverage that because we do have required standards and levels of customer service we want to give to the people who come to our stores. But we work on store payroll every day.

Stephen Riggio

The deleveraging really comes from the amount of fixed costs that are really non-negotiable. I mean the 40,000 book sellers around the country have done an amazing job and we commend each and every one of them for the work that they’ve done delivering world class service with their adjusted hours. And I don’t think we want to be hair cutting the service to our customers, especially not at this time.

We have great systems in place which give us the ability to flex the hours up and down, and again that’s one of the three items that Joe spoke of earlier, is the ability to control the store payroll and they’ve done an amazing job around the country and we want to commend all of our book sellers for working so hard. At the same time while giving what I would say is world class customer service in these tough times.

Operator

And there are no further questions in the queue at this time, Mr. Lombardi. I’ll turn the conference back over to you for any additional or closing remarks.

Joseph J. Lombardi

Thank you for listening to our third quarter conference call. Please note that our next scheduled financial release will be our holiday sales release on or about January 8th. Thank you.

Operator

That does conclude today’s teleconference. We’d like to thank everyone for their participation and wish everyone a great day.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Barnes & Noble Inc. Q3 2008 Earnings Call Transcript
This Transcript
All Transcripts