J. Crew Group, Inc. F1Q09 (Qtr End 5/2/09) Earnings Call Transcript

| About: J CREW (JCG)

J. Crew Group, Inc. (JCG) F1Q09 Earnings Call May 28, 2009 4:30 PM ET


Allison Malkin - Integrated Corporate Relations

Millard S. 'Mickey" Drexler - Chief Executive Officer

James S. Scully - Chief Financial Officer

Tracy Gardner - President, Retail & Direct

Libby Wadle - Executive Vice President, Factory

Jenna Lyons - Creative Director


Paul Lejuez - Credit Suisse

Jeff Klinefelter - Piper Jaffray

Kimberly Greenberger - Citigroup

Chris Kim - J.P. Morgan

John Morris - BMO Capital Markets

Roxanne Meyer - UBS

Jeff Black - Barclays Capital

Michelle Tan - Goldman Sachs

Janet Kloppenburg - JJK Research

Jennifer Black - Jennifer Black & Associates

Richard Jaffe - Stifel Nicolaus & Company, Inc.

Christine Chen - Needham & Company, LLC


Greetings, ladies and gentlemen, and welcome to the J. Crew first quarter fiscal 2009 results conference call. (Operator Instructions)

It is now my pleasure to introduce your host, Allison Malkin of ICR. Thank you, Ms. Malkin, you may begin.

Allison Malkin

Thank you and good afternoon. Before we get started I would like to remind you of the company's safe harbor language, which I'm sure you're all familiar with.

Statements contained in this conference call which are not historical facts may be deemed to constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Actual future results might differ materially from those projected in such statements due to a number of risks and uncertainties, all of which are described in the company's filings with the SEC.

And now I'd like to turn the call over to J. Crew's Chairman and CEO, Millard Drexler.

Millard S. Drexler

Good afternoon and thanks for joining us.

Jim Scully, our CFO, is here along with Tracy Gardner and other senior partners at the company. That would be actually Libby Wadle and Jenna Lyons, etc. I will begin with a brief overview of our first quarter results and then Jim will cover our financials in more detail and update our outlook. We'll then open the call up for your questions.

First quarter revenues increased 2% to $346 million with comp sales down 5% to last year and direct sales decreasing 6%. We opened 12 new stores in the quarter with net square footage increasing 11% and operating income totaled $35 million or 10.2% of revenues versus 15.6% last year.

We're pleased that our first quarter results exceeded our expectations, but given the conditions at the time we forecasted the quarter, I don't think there were many of us that knew where things were going. So while we don't have a crystal ball, it certainly feels better than it did in the fourth quarter.

The economic downturn has changed the rules of the game in that what was before a given from a consumer point of view is no longer the case. We think we're in the right place given that change. We've always positioned ourselves with unique product with a very strong service and value relationship. We see our customers continuing to come to us for not only what is new and exciting in our assortments but also for everyday consistency in style and quality that he and she has come to know us for. We think it is clear that there's no choice in this environment than to continue to be creative and figure out where the customer is going, not to respond to where he or she has been.

To us, this means innovating every day in our designs, our details, our fabrications, our quality, our fit and building on our key iconic businesses and looking for new product opportunities.
We have searched the world for the world for the most beautiful, creative, quality fabrics and are doing business in many of the best mills that are also used by our competitors in the designer world.

It is important to us to be the best curators and editors and we have cultivated relationships with authentic, iconic brands to enhance and make our assortments more exciting to our customers. They want the best and our mission is to always try to give them the best. For example, we've been working with Mackintosh, Red Wing, Mister Freedom, Globe-Trotter, Hunter, Jack Purcell, Selima Optique, and Baracuta, and these are just a few.

We've made a major creative investment in our catalog and online, continuing to connect more and more to our customer. Strategically, over the past year or so we've made every effort to appeal to a broader audience, of course the commonality always being people who want great style, design and quality. To this effect, we recently featured Lauren Hutton and artist Alex Katz in our catalog and online.

In the midst of our efforts to expand our appeal, the luxury goods market has weakened and more and more we are finding ourselves to be the go-to alternative to the higher-priced designer collections. We are delighted to be competing on a number of levels with the designer market without ever forgetting our opening price points.

And finally regarding Madewell, we continue to be very pleased with this business. As with any new business, we're learning more and more every day. We have decided to strategically make some changes and we'll be adjusting our pricing in our fall assortments and you'll see that approximately 25% more of our goods are below the $100 retail versus last year. We currently operate 14 Madewell stores. We opened three new stores in the first quarter and opened in East Hampton over Memorial Day weekend. We plan to open four more stores this year. We continue to micromanage every aspect of the business in the short term while investing conservatively in our business to position us for success over the long term.

We're maintaining a healthy balance sheet and ended the quarter with $155 million in cash and no revolver borrowings. Our cash position compared to $122 million at the end of the first quarter last year. We're pleased with our improved inventory position as we enter the second quarter with inventory per square foot flat to last year versus a 7% increase at the end of the fourth quarter.

As I mentioned on the last call, we reduced our new store openings. We plan to open 24 new stores in 2009 versus 42 in 2008, representing a 40% reduction in both new square footage and new units. Clearly, we cut back on the stores that we did not feel compelled to open in this environment.

Obviously, as we have said, no one has a crystal ball and forecasting continues to be difficult in this environment. We remain focused on our everyday mission to provide our customers with great style, quality and design and continue to make conservative investments that will serve our business for the long term.

With that, I'll turn the call over to Jim to review our first quarter results and our outlook in more detail.

James S. Scully

Thanks, Mickey.

Turning to the details for the first quarter, total revenues increased 2% in the first quarter to $346 million.

Our store sales, which include our retail, factory, Crewcuts and Madewell stores, increased 5% to $241 million. This increase was driven by an 11% increase in net square footage partially offset by a 5% decrease in comp store sales. We believe the improvement in our store trend primarily reflects an improvement in traffic.

Our direct business experienced a 6% decline to $95 million. As a reminder, we were up against a 17% increase last year, which is our toughest comparison this year for the direct business.

Gross profit dollars for the first quarter were down 9% to last year to $146 million, with gross profit margin decreasing 470 basis points to 42.2%. The decline in gross profit margin was driven by merchandise margin decreasing 450 basis points coupled with 20 basis points of buying and occupancy deleverage.

The merchandise margin deterioration, which was significantly better than anticipated, resulted from the actions required to reposition our inventories, which were up 7% per square foot over last year at the beginning of the first quarter.

SG&A expenses for the first quarter increased 4% to $111 million or 32% of revenues versus 31.4% of revenues last year. The first quarter included approximately $1.3 million in severance costs related to our work force reduction announced in February and non-cash asset impairment charges of approximately $1 million related to underperforming stores. We also experienced an increase of approximately $2 million related to share-based and incentive compensation expense in the first quarter versus last year and a $3 million increase in depreciation related to our recent store expansion and system upgrades. On a per square foot basis, SG&A was down 8% excluding the severance and non-cash impairment charges.

Operating income decreased 34% from last year to $35 million, with the operating margin declining 540 basis points to 10.2%.

Net interest expense for the first quarter totaled $1.1 million compared to net interest expense of $2.4 million in the first quarter of last year.

Net income for the quarter was $20 million or $0.32 per diluted share compared to net income of $31 million or $0.48 per diluted share in the first quarter of last year.

Turning to key balance sheet highlights, cash and cash equivalents were $155 million at the end of the first quarter compared to $122 million last year.

Total debt remains at $100 million at the end of the quarter and we have no borrowings under our $200 million working capital facility.

Inventories at the end of the first quarter were $194 million - representing an 11% increase - and were flat to last year on a per square foot basis. Our inventory position was better than anticipated as a result of our better-than-expected first quarter sales trends. We will continue to experience margin pressure in the second quarter as a result of our entering inventory position as reflected in our guidance.

Capital expenditures for the first quarter were $16 million.

Now turning to our outlook, as I said in our last call, given the continuing macroeconomic uncertainty, we have suspended annual EPS guidance; however, we will continue to provide EPS guidance on a quarter-by-quarter basis and additional guidance on selected controllables for the full year.

For the second quarter, we expect diluted earnings per share in the range of $0.08 to $0.12. Our second quarter outlook reflects comp store sales in the negative mid to high single digits, direct sales in the positive low single digits, gross margin deterioration of approximately 400 basis points, and a $3 million increase in depreciation versus last year.

As a reminder, our second quarter results last year were impacted by the direct re-platform disruption and last year's SG&A included $1.5 million in incremental expense related to the direct systems upgrade which was essentially offset by lower incentive compensation.

As we enter the second half of the year, we expect our inventory per square foot to be down in the mid teens versus last year. As you may remember, our inventory at the end of the second quarter last year included $15 million in incremental inventory due to the issues related to the direct systems upgrade. Excluding this amount, our inventory will be down approximately 10% per square foot as we enter the second half of the year. This conservative inventory planning could limit our ability to drive sales materially above Q2 guidance. We believe a higher-margin business is a healthier business, and when and if we confirm the environment has changed based on demand, we will chase where appropriate and feasible.

For the full year, based on the current trend we expect SG&A dollars to be slightly higher than last year due to variable expenses to support the higher sales trends versus our prior estimate. We still expect SG&A dollars slightly higher in the first half, slightly lower in the back half, with a 5% to 10% reduction in SG&A dollars per average square feet for the full year. This continues to reflect the items detailed in our cost reduction program, which represented $40 million in savings on an annualized basis. To the extent that sales exceed our expectations, SG&A dollars will increase due to variable expenses to support the business.

Annual net square footage will grow approximately 5% and 4%, excluding Madewell. We have plans to open 24 new stores in 2009, which include seven retail, five factory, four Crewcuts, and eight new Madewell locations.

Capital expenditures for the full year will be approximately $55 million, with depreciation and amortization of approximately $52 million versus $44 million last year.

We are assuming an effective tax rate of approximately 40%, with approximately 65 million diluted shares outstanding for the full year.

And now I'll turn the call back to Mickey.

Millard S. Drexler

Thanks a lot, Jim.

As we move into the second quarter we'll stay focused on our mission of providing customers as best we can quality, design and style.

As I think a lot of you know, each and every one of us here at J. Crew is committed to listening to and taking care of our customers every day in our stores, on the phone and online.

And now we're ready for questions.

Question-and-Answer Session


Thank you. (Operator Instructions) Your first question comes from Paul Lejuez - Credit Suisse.

Paul Lejuez - Credit Suisse

I'm wondering which part of the business was the source of the sales upside, if you can share that, between retail or factory, or was it consistent across the board?

I'm also wondering why do you think we didn't see the same upside relative to your expectations in the direct business?

And then, Mickey, just wondering if there's anything that you're seeing from a fashion perspective that makes you feel better or worse about the prospects for second half?

James S. Scully

First, I'd say I think the business is more consistent in terms of beating expectations between retail and factory. Obviously, the factor business right now I think is playing to the value customer, so that continues to be a strong business for us as well.

If you look kind of between the channels and how they beat, I think it was relatively consistent how they beat expectations; direct not quite as much. During the first quarter we did run a stores-only promotion which may have shifted a little bit of the business to direct and that may be the reason that it was a little bit different than expectations versus retail and factory.

Millard S. Drexler

In terms of fashion and what we see out there, it's kind of what we see from our own vision, fabric inspiration. What I see for us - and you can never predict too much these days - but I like that we're doing what we believe we do in a consistent, creative way. Our design teams every day are designing into and creating what we think will be coming down the road while maintaining clear consistency and evolving our franchise classic businesses.

We also think that as long as we can continue to provide a style and a point of view that's not available anywhere but in our stores, online or in our catalog, it gives us a very strong competitive advantage. You know, what we've said before is the world is becoming so ubiquitous, product is becoming so common, and it's clear to us - and the customer's been saying it more strongly than ever - particularly today that he and she want what's not everywhere and they also want what's a fair value-product relationship, as we've seen. So I think as long as our merchandise looks consistent, it looks good, it fills the needs of our consumers, we feel pretty good.

That being said, we are in the fashion business. We invest almost every day in what's new and what's exciting and what in fact that customers are directing us towards while in fact owning the most important franchise categories that we think will drive traffic day in and day out. I like that we're multi-channel, I like that we're adding some brands, and I like that we're balanced in the environment.


Your next question comes from Jeff Klinefelter - Piper Jaffray.

Jeff Klinefelter - Piper Jaffray

Two quick questions. One would be, Mickey, in terms of the IMU structure, I'm sure you've gone back and are working diligently on your IMU both from opening price point as well as your higher end, taking advantage of excess capacity around the globe. Can you give a sense for your IMU trend this year and projected versus last year? Should that be a source of starting gross margin strength versus last year?

And then, Jim, I think in terms of your productivity measures for direct, just curious if you could share anything for Q1 in how you leveraged between retail and direct, anything on circulation or productivity of your books versus your online business.

James S. Scully

Sure, Jeff. I'll hit both just quickly and I'll let Mickey add some color.

In terms of IMU or the way we look at it in the second half of the year really kind of from a cost perspective, I think we said earlier in the year and it's still consistent. We do see cost opportunity in the back half. We've quantified that between 3% to 5% in terms of savings in the back half of this year as we place orders.

With respect to the direct business, circulation for the first quarter was actually down 27%, a very strong showing. We had talked on the Q4 call about the fact that we had tested a number of initiatives in Q4 when we had reduced circulation by 18%, things such as eliminating re-mails, being more specific in versioning, eliminating some pages related to Crewcuts and other categories that we did not see a sales impact, and we took that opportunity in Q1. We do see that the rest of the year playing out the same way, I would say between 25% and 27%-ish in terms of circulation reduction the rest of the year. But as you can imagine, with the size of that spend in that business, it's already our most profitable channel, it just makes that channel even more profitable and we have not seen a sales impact from those decreases in circulation.

Millard S. Drexler

Regarding IMU, there clearly are benefits in the market today on pricing, so there's been a bit of deflation. I also think for us what's been really important is our relationships with our factories worldwide. We've tended to not spread our manufacturing too broadly. It gives us a chance to stay with proven best factories. With the environment the way it is it gives us a better opportunity to get from our manufacturing partners what we need and want. But we're pleased with clearly past-due reduction in costs, and so we're going to take the benefit.

And the other thing is the one thing that for us is a religion is not compromising quality right now at all to save a penny. But we really have a nice relationship and it's really important for us to be close to our manufacturing partners. And, frankly, during good and bad times we treat each other as true partners for the long term.


Your next question comes from Kimberly Greenberger - Citigroup.

Kimberly Greenberger - Citigroup

On the cost savings in the second half of the year, are you looking to deliver those savings to the bottom line or are there any investments in price or quality that you're looking at that may mitigate some of the savings flow-through to the profit line?

James S. Scully

When it comes to the unit costs, I think it's a matter of sharing a little bit with the consumer. We're going to take some to the bottom line, but it's more about sharing with the consumer, I think, adjusting prices based on that in the second half of the year. But the important thing is it has nothing to do with the quality aspect. It's maintaining the quality. It's realizing the savings that Mickey said were past due, sharing some with the consumer and holding back a little bit for us.


Your next question comes from Chris Kim - J.P. Morgan.

Chris Kim - J.P. Morgan

I was wondering if you could talk about when really the big inflection of the business was in the first quarter. And if you could pinpoint any specific drivers of that, that's be very helpful.

James S. Scully

Sure. One of the benefits of being a quarterly reporter is that we don't really talk to the business by month. What I would say is we gave guidance on March 10th and our history or historical reference has been to use the comps that we're coming off of in Q4.

I will say that Q1 is the toughest quarter to forecast based on the weather, based upon February not just being a big month. So we don't break it out by month or give color to it. What I would say is what drove it primarily from our perspective was an improvement in traffic and also the fact that we cleaned up the inventory significantly in Q4 and we were able to flow product, new product and newness to the stores during the spring season.


Your next question comes from John Morris - BMO Capital Markets.

John Morris - BMO Capital Markets

Mickey, maybe a little bit more color on the progress that you're making in Madewell. It sounds like you are doing some things a little bit differently there in terms of the pricing, so what went into that decision-making process and what have the learnings been so far?

And then also on the store opening plan, which you had ratcheted back, would you be considering at all opening up that faucet again as things stabilize or what will the factors be in your decision-making if in fact you do decide re-accelerate appreciably on store openings?

Millard S. Drexler

Regarding Madewell, when we initially conceived the company three or so years ago, we actually were planning to have a different range in the jeans prices. We probably, like a lot of us in terms of the euphoria of the world, we decided to start our jeans at about $98. It seemed to be, you know, it was kind of a new normal now; in those days it seemed to be the right place to go, to put a little more fabric detail, make, etc.

And what we found out is in a few stores it's nice to kind of have expensive jeans, but when you start to analyze the market and look at what's happened to us, we realized that there was an enormous amount of business as we looked at our competitors and their price points that we were in fact not getting because it was under $100.

So, frankly, in hindsight, mistake; I wish we decided a year ago. But we decided when things started to change in October or even earlier that we needed to get into the $59.50 and above jeans business to $100. Our cheapest or least-expensive jean last season was $98. And that's a very big change for us on that because with reset you can't just do what we did. So the world has kind of changed dramatically in that regard.

We also looked at the landscape of I guess it's the teenage business. We said well, where are they going? We always said Madewell was an opportunity to get the graduates. So we decided that, looking at their price points, that we have Madewell 37 collection - it starts at $59.50, comes out in July. And our number one jean right now actually is our Ex Boyfriend jean, which is $95, just got into the stores two weeks ago.

So, you know, it's a very dynamic business we're in; the world is competitive and changing. And so we decided, particularly in the jeans category, because we think our T-shirts, etc., are quite well priced. So that's really the big news there.

And I think in terms of the stores unless the landlords start to adjust their expectations, frankly, I'm not sure - we're not going to open one store that does not pencil out, meaning we're not spending money on high rents and work for the landlords for the first seven or eight months of the year or maybe 12 months. So our sense is that unless landlords start to realize that supply and demand balances - as our customers all around the world realize - we're not going to accelerate store openings because we don't want to work for the landlords; we want to be their partners. And, frankly, we're not seeing landlords being flexible and open enough in this environment to understand that.

There are some retailers who might want to pay the high rent, but I can tell you from past experience there's nothing worse than having a bad lease on day one because it does not go away. So that's how we are. We're very much living with that, and time will tell.

That being said, we're in it for the long run. We don't want to do anything stupid right now to take advantage of what might be an A center because with what might be also considered an overpriced location.


Your next question comes from Roxanne Meyer - UBS.

Roxanne Meyer - UBS

Two questions, one just relating to Crewcuts. I know you had lowered some price points there. I was wondering what the reception has been to Crewcuts and kind of how you're thinking about the balance between opening stores and putting them within larger J. Crew stores as a go forward strategy.

And then secondarily, how important will be it or how big of an opportunity is it to continue to partner with some of those eclectic brands and grow that as a bigger percentage of your business?

Millard S. Drexler

Okay, Crewcuts, we did change our prices. We realized that actually a lot of mothers and fathers and some of us here said well, they're a little bit high in perception and in reality and so we adjusted that starting this spring. And, you know, we're not rushing out to expand Crewcuts. We've seen it's a nice part of our business, but our real thrust from Crewcuts and if you looked at our ad, I'm not sure many people know this, but we're really looking at it as a direct opportunity, catalog, the first one that ever went out about two weeks ago. We're opening stores but positioning that more as a direct business. Clearly, the economics in direct work a lot better than the economics in a Crewcut store, which we've said, given our profitability on the direct business compared to bricks and mortar.

So what's happened since then is it's kind of slowly happening. We got a really nice boost from our marketing, the two ads in the New York Times. More importantly, the catalog, our first-ever catalog, went out; the next one will be out in August.

Again, I don't want to say we're not in a hurry to grow anything, but as we look at Crewcuts it's a long-term business. We will not be the biggest because the biggest is always the cheapest. We are in the business to give fair and good value. We think we're in a position to continue to grow that.

We also think Crewcuts has been a relatively well-kept secret. We're only opening one more store this year at Madison Avenue and 87th Street, a relatively small store, and we're going to really put our efforts in Crewcuts basically being a catalog online company with some stores more so than perhaps our other businesses or other divisions.

The second part was iconic brands. Here's what we look at. Retail today, I think it's curation, it's editing, and it's discovery and it's scarcity. This is only our opinion, but we think there are not enough stores that in fact have enormous regard for the editing process and we also think - and we actually started this with Madewell three years ago - we think although our J. Crew products and our Madewell products, Crewcuts and factory unto themselves provide a really good assortment.

We cannot be the best at every category in the world. And there's some really highly respected businesses that have been authentic, been around for many years, and in fact really go well with our clothing and with our apparel or our accessories, so we kind of started to do this. I doubt that it'll ever be a big part of the company, but it is now a very important part of the company.

If you visited our new store - well, the Liquor Store you know - if you visited our 1035 Madison Avenue store, which is our collection store in women's, our new 484 Broadway men's store you'll see it's not just the expected, which there's nothing wrong with expected, but I think we're in the business of connecting emotionally, discovery, people getting excited. So at 1035 Madison we have special vintage pieces; we actually do a very nice vintage book business there. It's all very personal and, of course, driven by dedicated people running the store.

So I doubt if it'll ever be a big part, but for us the importance, the intelligence of what it says about J. Crew or Madewell, where we're embarking on the same program in its own well, I think it's just important for the overall mix of the company.

Our Timex watch business, we said gee, where can you buy a cool watch for less than whatever the number is? Love Rolexes and we sell them also, but love Timexes. They're original; they're authentic. It's our own style, just like Jack Purcell. You can't beat a classic. Don't try to.

So that's where we are in that. It's just been fun and I think our customers really like it a lot. And I also think it just lives well with the rest of our assortments.


Your next question comes from Jeff Black - Barclays Capital.

Jeff Black - Barclays Capital

Nice work on the inventory, and I guess a couple of questions related. On price, Mickey, do you think we're where we need to be or are there still areas where we think we need to make some adjustments into the back half?

And for Jim, how do we look at the adjustment as it relates to comp and the impact on comp and when do we really cycle the bulk of the price adjustments you've made over the past year?

Millard S. Drexler

In terms of price I assume, Jeff, you're talking downward, right?

Jeff Black - Barclays Capital

Yes, I'm talking about all the things you said about the lower-priced jeans, etc., for the past couple of quarters.

Millard S. Drexler

Okay. Now that's Madewell. There's a very important distinction between Madewell. This sounds funny because we look at our pricing and, you know, the world's a world of kind of overreactions; usually pendulums swing. We are looking at both - I think we've done on the opening price points I think we've done a pretty good job of that this first and second quarter and into the third quarter.

In fact - and I think any retailer would tell you this - it's a supply/demand issue. We have some categories that our customers themselves look at and say oh, my God, I don't want to say it's cheap but, you know, as we elevate J. Crew - and, you know, there's an important nuance here - all those big negatives from the better marketplaces we're looking at, to take advantage of that, the customers have not stopped buying clothes.

But I think we're benefiting, and whoever knows exactly, from a large piece of the business in a sense from people who - and I don't want to call it trading down because I'd never call us that option, but I would say people who are looking for high-quality, high-integrity, well-designed, well-made clothes. And pricing, like in housing over the last three years, like in clothes, like in art, has really gotten a little out of control. For us, it's never been because we kind of operate on a fair value relationship.

That being said, we do have opportunity now to adjust where appropriate. We're putting more make and detail to raise the level. For example, we've become very famous for our art Ts. They're unique, designed, and price points vary from about $34.50 up to $65 to $75. But within that, you know, pricing is a matter of merchandising. So where we compare value to us and our competitors, we might be adjusting somewhat upward. I think on the down side, you know, we have a $19.50 T-shirt now, our V-neck T-shirt. It's a great opening price. It's actually less than a lot of the market. But we've got a balance, so this is really a mix, Jeff, in terms of where we are.

But we keep looking at competitive. And pricing is kind of a science; it's a bit of an art. We just don't stop evaluating it.

James S. Scully

And with respect to the timing, Jeff, it's more of a second half on the cost side, so we would not comp that until next year, but we would see the benefit from the cost side starting in Q3 of this year.


Your next question comes from Michelle Tan - Goldman Sachs.

Michelle Tan - Goldman Sachs

I just wanted to follow up on a couple of things. First, you made the comment on traffic getting better. I was wondering if you could give us any color around conversion.

And then also how much more rational pricing out of the department stores has helped versus where we were in holiday and what you're seeing out of that group now?

And then also any color on particular categories and regions.

Millard S. Drexler

I would say, you know, Michelle, we don't really get into the overall metrics, but I would say the offset to traffic, I'd say everything was relatively up. Traffic was on the high end; AUR, just because of clearance of the inventory, probably was an offset to that, nowhere near what it was in Q4, but obviously that's working against you as we get through the inventory and you see it in the margin pressure, so that would be consistent.

In terms of categories of business that felt good in Q1, well, I think wedding, which has kind of always been good now and I don't think people are skimping on that. And by the way, we put wedding in four of our stores now; we're looking at that as an opportunity. Well, our T-shirt business has been fantastic, our feminine women's shirt business, which I think you see all over the streets, jackets, jewelry.

I don't want to say everything's good because everything's not good but, you know, I think what's happened in the last six or eight months is when things got as bad as they were - look, none of us were happy with fourth quarter - it was about nothing we do is necessarily going to be based on what we did unless it was mandatory to protect our franchise and our earnings. So it became that; it became newness.

And, you know, a kind of quarter like we had or any business gives you a lot of freedom you never before. You say gee, pretty horrible, we lost money, we're unhappy about it, but you know something? Take no prisoners and get it right, get it fixed. And it becomes much less of a negotiation in an organization. The management runs the company, partnering with the whole team. So I think we just had a new point of view here.

Plus I don’t want to say that the environment helped us, but in a very perverse way the bad environment was a big wakeup call and in fact we kind of like it to a degree because you just don't put the goods out anymore and expect them to sell. The customer has become so much more acute and educated about how they're buying goods, it just makes us all do our job better. They're discerning; they're comparing. And you know something? It's just not so cool to spend that much money anymore today.

And the last important thing for us is we were never broke and we were probably a little sloppy, a little too optimistic for third quarter, fourth quarter. We all got hit badly. But, you know, we're just continuing along and talking as much as we can about quality and design. And you've noticed introducing on an emotion level the personalities who work in our company. We don't have, you know, the fancy names sometimes that others might use but you know something? People always at the end of the day - and this is why we're here - recognize quality and value and that's a long-term commitment we've always had.

Jenna's picked, for example, among our bestselling pages in the catalog because we care about them, we edit them out, we pick them carefully, so that's what we're all about now. And she actually picks them, by the way. Jenna does the picking.

James S. Scully

And then, Michelle, just the last thing, the regions, we didn't really see anything that was dramatic, I would say, in terms of softness. Maybe a little bit in the broader New York metro area and a little bit in the Southeast maybe due to travel, but those are the only two areas where I would say that we saw anything of significance.


Your next question comes from Janet Kloppenburg - JJK Research.

Janet Kloppenburg - JJK Research

I was wondering, Mickey, if you could talk about a couple of things. First of all, do you think the consumer is feeling better and is more confident or do you think your improvement had largely to do with your better style/value equation?

And also I've been to your new men's store on Broadway. I think it's a fabulous prototype, that as well as the Liquor Store. I'm just wondering what you're thinking about in terms of men's and if there's a stand-alone concept expansion option there.

Millard S. Drexler

Well, you know, regarding the consumer feeling better, I'm not really sure. We kind of have blinders on to a degree, shop all the competitors all the time. We're probably a bit less, well, we are less promotional than what we see out there. There's less private and public deals that we have versus our competitors. But we feel better. I mean, we see it. We feel much better. We have less markdowns now and we're buying, I think, more shrewdly than we have before. I won't say more conservatively necessarily, but more shrewdly.

But I don't know. I don't know if they feel better. I think when you look at the numbers overall in the industry it ain't great; we're all going to be up against so many - I call them now easy numbers from fourth quarter. It might be a false positive to a lot of people because when you're up against the kind of nightmare numbers we've had for fourth, we've just got to remember we're not going to be that smart unless we are that smart because I think the bar is set as low as it's been.

So always relate it to style and quality. I think for us, again, just revisiting what we've done before. And the customer's so much more demanding. It's adversity that I think has forced us to be more creative. Not that creativity wasn't important, but you get a little lazy when things get great. You say well, let's go back to the well. And frankly, we didn't go back to the well. We went to where we think the well was going, whatever the hell that means, or they say the puck was going.

The men's store on 484, you know, we opened the Liquor Store and there's a branding thing here and then there's a business thing. The Liquor Store had a very reasonable landlord who we love - he'd charged us what the space was worth. We decided to go for the landmark building. We then thought that we were pleased with Madewell at that corner. Top Shop then fortunately came in after we did Madewell, which made us very happy. We said, you know, that real estate there is going to be maybe the AA plus block in SoHo. So we took I'd say a risk to put a men's store in there.

And we also had an opportunity - now, there's a lot of real estate stuff, so it's going to be a little long answer - we put men's in there because we felt in looking at the landscape there really are not many men's stores left around America. Freestanding men's stores are usually a rare term. There are many too many apparel selections everywhere. But we didn't see a lot of men's players who had, to be a broken record, style, quality, creativity, uniqueness, make, at affordable prices or value relationship.

We also felt really good about the men's assortments because men's is a different kind of business. We got a lot more consistent. We put a lot more detail in. And we started to feel a lot of credibility come, particularly from catalog and the Liquor Store. And that little Liquor Store - it's only 8,900 square feet - gave us a lot of confidence about what one could sell if in fact it's merchandised right in the right environment.

We said let's try this. Why did we do it? Number one, Prince was bursting at the seams. So, we said, we weren't doing justice to the women's store at Prince; it wasn't easy to shop, the kid's store was ridiculously tiny, and we felt it was a reasonably good investment because we had one store. And to loosen up Prince - which, by the way, in the two weeks now we couldn't be more delighted with Prince; the box is making its numbers, and that's very exciting, in women's and kid's - we took men's out and designed a men's store that we think reflects more so than Garden State the prototype of what a J. Crew men's store would look like.

And now what we're faced with is - because we're really pleased with the results; two weeks is only two weeks, but it's really been a really exciting response both financially - again, only two weeks - and from the consumers. And the guys are finding a place to shop. Plus, you know, a lot of the brands in that store clearly have been in the best stores worldwide, so we developed that relationship.

What happens now is we are looking for some men's stores, but the challenge for us is we don't want to take men's out of an existing store unless you're going to replace it with the same volume, which in our case would be women's usually and maybe kid's. Prince was kid's expanded downstairs, women's expanded. And we can't even recognize Prince if you walk in because it's not the most crowded little shop in the world; in fact, we spent very little money, but it was all aesthetic improvement.

So we will see. We're looking at some men's shops. I was in L.A. and San Francisco this week, and we're looking at some stores in the right location there for the right collection store in L.A. perhaps or in Chicago, very selective. And the rule in our company is no real estate for real estate's sake, but real estate that pencils and margins out with reasonably cautious volume forecasts.

But we like what's happening in men's. Again, really like it a lot. And I don't think men's will ever be clear what women's is, but I think we have an opportunity to expand women's when in fact we find some men's space in the same market.


Your next question comes from Jennifer Black - Jennifer Black & Associates.

Jennifer Black - Jennifer Black & Associates

My questions are on Madewell. You have lots of new looks this month versus last month and I wondered if there's a correlation with the conversion versus the number of looks.

And then what further opportunities do you have in accessories? Your scarves look great and I'm talking about Madewell.

And you've been getting a lot of press and I know one of your challenges is building brand awareness and I'm wondering if that's helping and if there's anything else you're doing at Madewell we don't know about?

Millard S. Drexler

You know, Madewell's an interesting thing. I think what happened, you know, everything's not always that great in terms of things we do everywhere. Our mistake this season in Madewell, by the way, is we under bought fashion and we're driving - a few of the stores are turning like crazy, but in fact we under bought novelty fashion and unique. And I think we probably did a little too much on basic knits; it's a disease of merchants, myself included.

So what you're seeing in Madewell - and it depends on what store you go into; for example, in New York and L.A. there's a lot of new things going on and we're very excited - there's not enough novelty in a lot of the stores. But I don't think - it's hard to say if it's driving conversion or not, Jennifer. I think what we're seeing is scarves, amazing, amazing growth and amazing franchise. Jewelry is starting there. And I might add J. Crew jewelry, which I don't know if I mentioned before, is becoming a business totally unto itself. But jewelry at Madewell we're rolling out now. Boots, we have a really nice business in the fall.

But I think if I had to grade us on Madewell this quarter, much too many basic knits and I don't think we responded to the pricing changes in jeans quickly enough. That being said, novelty selling, where we have it, there's not enough of it. And it's frankly not in enough stores as we're feeding the best stores on that.

We're also working on the 37s, which you'll see the new collection of Madewell 37s, vintage washes, etc. We also have a nice little vintage business we've started at Madewell on washed chambray and denim shirts that we buy through vintage sources of ours.

So we're moving forward there.


Your next question comes from Richard Jaffe - Stifel Nicolaus & Company, Inc..

Richard Jaffe - Stifel Nicolaus & Company, Inc.

A question which I guess is a bigger question regarding circulation, how are you guys going to think about circulation going forward in terms of ramping it up, rebuilding it in your kid, men, women, single catalog feedback?

And then dollar-wise how do you anticipate either increasing or keeping the spend down, either specifically dollar-wise or just how do you think about it?

Millard S. Drexler

Actually, I'll ask Tracy Gardner to respond to that.

Tracy Gardner

Really the way we think about it is the circulation we got out of wasn't doing anything, so I guess the best way to put it is our circulation strategy will continue based on the growth of our customer file, which continues to be healthy. But the circulation that we really got out of and tested out of was not doing anything for us.

And then also we're investing into search on the web, so that's another key driver of our business that is highly, highly efficient, so that circulation money, a portion of it goes to getting out there with affiliate marketing and search as well to grow.

But on the Crewcuts front we will start mailing more aggressively. We were really pleased with the results of our first Crewcuts mailing. We also really amped up search there as well. And now we see a path to really getting more in the mail and aggressively searching around our Crewcuts file.


Your next question comes from Christine Chen - Needham & Company, LLC.

Christine Chen - Needham & Company, LLC

Mickey, I was wondering how do you balance in this environment having to drive traffic with targeted promotions and really just training your customer to wait for the sale, which we don't really want to see that happen long term.

Millard S. Drexler

Well, you know, for us all this environment has done, other than give us a crappy fourth quarter and not meet last year's earnings, is that it just makes you get smarter.

I think, look, whatever you do is long term. We are not in the promotional lowest price business, never want to be and never will be, because we'll never win. I learned that in department stores. Anytime you carry something someone else can carry at a lower price your entire business is at risk. So we own what we sell. You cannot buy it anyplace else, and you cannot go online or go into the millions of little discounters around that, by the way, today are selling almost every brand you can find in any full-price store in America. So the discount business is almost anyone who carries products that are available anywhere else. Integrity in this industry is something that is [cared for].

We're not worried about that. Yes, we were scared about fourth quarter, promoting goods. Customers have a short memory; when they see something they love, they buy it. Clearly we weren't going to skew upwards our retail pricing. We adjusted very quickly our investments at high prices because we're not stupid and we figured let's not take the risk. In fact, if you look at our inventories we said going into third and fourth quarter this year and I hope it's a problem, we said we'd rather leave something on the table than be greedy about making bigger numbers. So we don't know what's going to happen to third quarter. I hope we run out of goods.

But we run this business for the long term. We report quarterly. Nothing we do is not done unless it makes sense to our customers without compromise. And, you know, the discounting is a really big issue in America today from our point of view. And, again, perversely we kind of like the environment. I shop online. Do I care if the box that I buy a brand in is shipped from Company A at, say, $74.99 or Company B at $100? It's in the same exact box and people understand that.

And so for us, we never want to be in the business where our product can be discounted. I was in a store in the city recently where I actually saw our product discounted. It was one of those stores that we sold to - I say past tense - our goods at giveaway prices so they can then, in the city where we traded, sell them. And they were, you know, worn, damages. We immediately shut down the business and said we can do this ourselves and do it outside our distribution centers.

So it's about the product and about the service. And I have utmost respect for customers today. That's how we run the business. And when they see something they like and they know you're an honest retailer with integrity and you stand behind your product and you take every phone call and you deal with every complaint, I think in an old-fashioned way it's what it's about. You know, it's the game of try to reach the bosses in most companies.

So that's what we're doing. That's what we've always done. And over the long term it's worked well for, I think, great companies and good companies.


Thank you. Ladies and gentlemen, in the interest of time we cannot field anymore questions.

I would now like to turn the floor back over to management for any closing comments.

Millard S. Drexler

Thanks everyone for joining us. We look forward to speaking to you when we report our second quarter results in August. Take care, everyone.


Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time. Thank you very much for your participation and enjoy the rest of your afternoon.

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