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Executives

Laura Foster – ICR, Inc.

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

Michael F. Buckley – President

Peter F. Collins – Chief Financial Officer

Analysts

Eric Beder – Brean Murray, Carret & Co.

Analyst for Todd Slater – Lazard Capital Markets

Ron Bookbinder – Global Hunter Securities

Jeff Mintz – Wedbush Morgan Securities

Christine Chen – Needham & Co.

Dorothy Lakner – Caris & Company

True Religion Apparel, Inc. (TRLG) Q2 2009 Earnings Call August 4, 2009 4:30 PM ET

Operator

Welcome to the True Religion Apparel, Inc. 2009 second quarter conference call. During today’s presentation all parties will be in a listen only mode. Following the presentation, the conference will be opened for questions. (Operator Instructions) This conference is being recorded today, Tuesday August 4, 2009. I would now like to turn the conference over to our host Laura Foster of ICR.

Laura Foster

Thank you for joining us today to discuss True Religion Apparel’s second quarter 2009 financial results. On the call today are Jeff Lubell, True Religion’s Chairman, Chief Executive Officer and Chief Merchant; Michael Buckley, the company’s President; Pete Collins, the company’s Chief Financial Officer.

By now everyone should have access to the second quarter 2009 earnings release which went out today at approximately 4 pm Eastern Time. If you have not received the release it is available on the investor relations portion of True Religion’s website at www.TrueReligionBrandJeans.com by clicking on the investor relations tab. This call is being webcast and the replay will be available and archived on the company’s website.

Please note that all of the information discussed on the call today is covered under the Safe Harbor provision of the Private Securities Litigation Reform Act. We caution listeners that during this call True Religion management will be providing financial guidance and making other forward-looking statements regarding expected future financial results and business opportunities. The company’s actual future results may be very different from our current expectations.

We encourage you to read the 2008 10K, the upcoming Q2 2009 10Q and other reports that we file periodically with the SEC. These documents contain a discussion of the risks facing our business including the factors that could cause these forward-looking statements to not come true. The company does not currently intend to update these forward-looking statements except as required by law.

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

Jeffrey Lubell

Thank you for joining us today as we discuss our second quarter and first half 2009 financial results. We are very pleased with our second quarter results which we believe reflect the strength of our brand and our ability to drive results in a challenging consumer environment. Net sales for the second quarter increased 12.4% to $72.1 million from $64.2 million in the second quarter of 2008. Operating income increased 16.5% to $17.9 million from $15.4 million in the second quarter of 2008 and net income grew 18.4% year-over-year to $11 million or $0.45 per share from $9.3 million or $0.39 per share in the prior year second quarter.

We also continued to strengthen our financial position. We ended the quarter with $78.8 million in cash and cash equivalents, a $5 million sequential increase and a $35.7 million increase versus last year and we continue to have no debt. Our solid financial position and profitable business model allows us to invest in our strategic growth opportunities. We believe that this represents a unique advantage as many companies in the apparel and retail space do not have the same flexibility.

For the first six months of 2009 we have sales of $135.7 million and net income of $18.6 million. This translates to year-over-year sales growth of 15.4% and a 14.7% increase in net income. We are pleased to report that this positive momentum has continued in to the back half of the year as measured by our third quarter forward order book. At June 30, 2009 our third quarter order book for both our US and international businesses was up 1% versus June 30, 2008.

We are on pace to open 27 stores in 2009 versus our prior target of 25 stores which will bring our total store count to 69 by the end of the year. Based on our year-to-date results and our improved visibility in to the third quarter of 2009, we are updating our 2009 sales and earnings guidance. We now expect net sales in the range of $293 million to $300 million and earnings per share of $1.76 to $1.84.

Pete will provide additional financial details for the second quarter and our 2009 guidance in his comments in a few moments. Michael will then provide an update on our operating performance by segment before we open up the call to take your questions. We believe that our solid financial performance demonstrates our ongoing efforts to maintain brand leadership and operational performance in the second quarter. We continue to position our company for long term growth while exceeding our internal financial goals.

We expanded our retail platform, improved our sales trends with the majors and increased our worldwide penetration. This broad based approach of growth marks a continuation of our operation strategy and is enabling us to mitigate the broader economic challenges. All of this depends upon our ability to present innovative trend setting merchandise. You have heard me say it before, it’s all about the products.

Key to our brand building efforts is reaching more consumers through the expansion of our owned retail stores. In the second quarter we opened 10 new stores, bringing our total store count at June 30th to 59 stores. We have also signed two more leases for 2009 so we’re on pace for a total of 69 retail stores by year end. Given our retail stores strong economics and brand building benefits, we are committed to expanding this segment. Importantly, we are gaining access to locations that have not been previously available at very attractive rents.

We continue to compliment the expansion of our retail platform with initiatives that are intended to build sales growth among our wholesale retail partners including major department stores and specialty store boutiques. Coordinating between True Religion and our premium wholesale partners is critical to supporting the growth of our brand. As such, we are committed to working closely alongside our wholesale partners to deliver operational excellence across our sales and marketing, forecasting, production, allocation and distribution discipline.

As part of this effort, we are now beginning to present our collection to majors earlier ensuring that in addition to bringing innovative jeans and related sportswear to the market place we fulfill their specific product needs and requests in a timely fashion. Our made in the US production is a key advantage for True Religion on this front. This grants us the ability to meet on demand needs to our wholesale partners for shorter orders to receive cycle times. We have also invested in key personnel within our production team who have made tremendous strides in ensuring that we deliver against our commitments throughout the order to ship cycles.

These investments have paid dividends in terms of improving our reliability for shipping on time, reducing excess or obsolete inventory and benefitting margins. In addition to expanding our presence in the United States, we continue to build our presence in key international markets to take full advantage of the global opportunity for the brand. Despite the weakening consumer environment in many international markets, we experienced stronger demand for True Religion brand jeans across regions of North America, Europe and Asia.

We view this as a testament of the True Religion brand being a very young and underpenetrated brand. As such, we will continue to employ our measured approach to build upon our position as a global apparel brand. In summary, we are pleased with our year-to-date performance. We continue to deliver against our operational strategy and build upon our historical track record of delivering profitable growth. We are especially pleased that this growth continues to be recognized within the apparel industry.

Just last month we were highlighted by Apparel Magazine, a leading publication serving the apparel and retail industry as the number one most profitably publically traded apparel company as defined by our 2008 profit margin marking our second consecutive year of delivering this tremendous accomplishment, it is truly a testament of the strength of the True Religion brand the dedication of the entire True Religion team. We intend to build upon our positive brand momentum in the back half of 2009 and beyond to position True Religion as the leading global apparel brand.

That concludes my comments today. I would now like to turn the call over to Pete to discuss our second quarter results in more details.

Peter F. Collins

I’ll start with a detailed discussion of our second quarter and first half financial results followed by updates to our full year 2009 guidance. Net sales for the second quarter increased 12.4% to $72.1 million from $64.2 million in the second quarter of 2008. Growth within our consumer direct and international businesses was partially offset by a decline in our US wholesale business. Gross profit for the quarter grew 21.4% to $44.8 million or 62.1% of net sales from $36.9 million or 57.5% of net sales in the second quarter of 2008.

Our gross margin benefitted from the ongoing segment mix shift towards our higher margin consumer direct business, a decrease in sales discounts within our international segment and production and sourcing process improvements. Partially offsetting these margin improvements were the reduction in our higher margin US wholesale sales boutiques and the anticipated decline in our outlet stores gross margin as we have fewer higher margin irregulars in the current merchandise mix.

Selling, general and administrative expenses for the quarter increased 25.0% to $26.9 million or 37.3% of net sales from $21.5 million or 33.5% of net sales in the prior year period. The year-over-year growth in SG&A expenses were driven by the increased investment in infrastructure to support the company’s growth plan including the expansion of our consumer direct business. Operating income for the second quarter increased 16.5% to $17.9 million or 24.9% of net sales compared to $15.4 million or 24.0% of net sales in the prior year period. The year-over-year increase in our operating margin was primarily driven by the increase in our consolidated gross margin partially offset in the decline in our consumer direct segment’s operating margin.

Turning now to our segment information, within our US wholesale segment, sales for the second quarter decreased 19.8% to $30.8 million versus $38.4 million in the prior year period. The decrease in this segment’s net sales was driven by a sharp decline in sales to boutiques and a low single digit decline in sales to the majors. This was partially offset by a mid single digit increase in sales to off priced retailers.

Year-to-date our US wholesale sales reflect a $4.5 million increase in off price sales versus the prior year period. However, for the full year 2009 we continue to expect sales to off priced retailers to decrease in the mid single digits as compared to 2008. I will elaborate on this comment momentarily. International sales in the second quarter increased 53.8% to $12.1 million from $7.8 million in the prior year period. The year-over-year increase is primarily due to increased sales to Asia and Europe. Our international segment also benefited from the planned sales increase to Japan as a result of our 2008 transition from a third party distributor to a company owned subsidiary.

Consumer direct sales which include our branded retail stores and ecommerce site, increased 59.8% during the second quarter to $28.2 million from $17.7 million in the prior year period. The growth in our consumer direct segment is attributable to the expansion of our retail stores which totaled 59 at the end of the second quarter 2009 compared to 30 retail stores at the end of the second quarter of 2008. Our total square footage at the end of the second quarter was 109,000 square feet compared to 52,200 total square feet at the end of the second quarter in 2008.

Second quarter net sales also included $1.0 million of licensing revenue which is included in our other segment. In the second quarter our licensing revenues exceeded our expectation by approximately $500,000 due to our fragrance and headwear licenses surpassing their net sales goals. Operating income by segment is as follows, within our US wholesale business our operating income decreased 29.3% to $8.4 million or 27.2% of sales from $11.8 million or 30.8% of sales in the prior year period.

The decline in operating margin for this segment was primarily due to the deleveraging of this segment’s fixed costs and the addition of resources of the past year to support the company’s overall sales growth which are classified as the US wholesale segment. This is partially offset by the increase in our US wholesale gross margin due to improvements in our sourcing and production processes and a reduction in bad debt expense.

Our international operating income increased 82.1% to $5.8 million or 48.3% of sales from $3.2 million or 40.8% of sales in the prior year period. Our international operating margin benefitted from an increase of direct sales in select Asian markets which carry a higher gross margin than sales through distributors. Operating income within our consumer direct segment increased to 45.5% to $9.1 million or 32.2% of sales from $6.2 million or 35.4% of sales in the prior year period. The year-over-year decline in our consumer direct operating margin was due to the combination of the planned decreased in our outlet stores gross margin and a decline in store sales productivity.

Our effective tax rate for the second quarter 2009 was 38.8% compared to 41.1% in the second quarter of 2008. The lower effective tax rate is due to a larger portion of our 2009 earnings being generated in states that have lower tax rates. Additionally, embedded in our 2008 effective tax rate is some executive compensation that was non-deductible for income tax purposes. Net income for the 2009 second quarter was $11.0 million or $0.45 per diluted share based on weighted average shares outstanding and 24.1 million shares compared to net income of $9.3 million or $0.39 per diluted share based on weighted average sales outstanding of 23.9 million shares in the second quarter 2008.

As it relates to the three primary components of our business, 56% of our net sales came from women’s merchandise, 40% from men’s and 4% from kids. We are pleased that our men’s expanded from the 37% sales contribution in the prior year period. For the second quarter 74% of the sales in our retail store were jeans and 26% were sportswear. This compares to 73% jeans and 27% sportswear in the prior year period. In the second quarter 2009 the average selling price for women’s jeans in our full price stores was $256 and for men’s jeans it was $282. Compared to the prior year period the average price for jeans increased $14 in the women’s category and $4 in the men’s category demonstrating we believe that consumers are willing to pay a premium for merchandise that is unique to the market place.

Turning to our balance sheet, we ended the second quarter with $78.8 million in cash and cash equivalents representing a $21.5 million increase from December 31, 2008 and a $35.7 million increase from June 30, 2008. The increase in our cash balance is driven by the cash flow from operations generated in the first six months of 2009. Over that first six months in 2009 we generated cash flow from operations of $30.1 million compared to $24.7 million in the prior year period. Our strong liquidity position demonstrates the significant cash generating potential of our business model.

Operating cash flow was used to fund the expansion of our retail stores, build corporate and international infrastructure and for other financing activities with a net increase invested in a US Treasury only mutual fund. Accounts receivable for the second quarter decreased by $5.8 million from December 31, 2008 and decreased by $500,000 from June 30, 2008. We continue to manage our DSOs by maintaining a conservative posture with our credit sales. Inventory at the end of the second quarter increased by $5.4 million from year end and by $1.6 million from June 30, 2008.

Our additional inventory investment supports the growth of our retail stores. We are pleased with the content of our inventory which we believe provides the flexibility to manage the growth of our consumer direct and wholesale businesses. I am pleased to say that we carry no debt and we continue to fund our growth from internally generated cash reserves and current operations.

Turning briefly to our year-to-date results, for the six months ended June 30, 2009 net sales increased 15.4% to $135.7 million from $117.6 million in the prior year period. The net sales increase for the period was primarily due to the continued expansion of our consumer direct segment. Gross profit as a percentage of net sales increased 420 basis points to 61.5% in the first six months of 2009 from 57.3% in the prior year period primarily due to the increase in the higher margin consumer direct segment’s net sales.

Operating income for the first six months of 2009 increased 15.9% to $31.0 million or 22.8% of net sales from $26.7 million or 22.7% of net sales in the prior year period. This slight increase in our operating margins is primarily due to the increase in our higher margin consumer direct segment’s net sales partially offset by a decline in that segments operating margin. Net income for the six months ended June 30, 2009 increased 14.7% to $18.6 million or $0.77 per diluted share from $16.2 million or $0.67 per diluted share in the prior year period.

Now, before I turn to our 2009 guidance, I wanted to update you on how we are dealing with credit on our US wholesale sales. Last month we initiated the process of moving away from our collections factoring arrangement. Over the past year the collections factoring arrangement had been an effective hedge against credit risk due to the liquidity challenges facing many of our US wholesale customers. However, with the recent developments at CIT and our belief that the majority of the attrition among wholesale accounts has occurred, we decided to diversify our collections risk across many accounts.

As such, we are no longer selling our receivables to our prior factor Merchant Factors. We expect that over the next 60 days Merchant Factors will continue to pay us for the receivables that they purchased from us prior to mid July. As part of our transition agreement, we will pay Merchant Factors a commission on the US wholesale sales that would have been eligible for the collection factor process through most of September. We do not expect that this transition will impact our 2009 plans.

With that, let me now turn to our financial guidance for 2009. We are updating our full year guidance as follows, net sales for fiscal 2009 are now expected to be in the range of $293 million to $300 million representing a net sales increase of 9% to 11% compared to 2008 net sales of $270 million. Our updated 2009 sales guidance relies on the following assumption, we continue to expect our US consumer direct business to increase 60% to 65% over 2008 led by the growth in our retail store base. Net sales with our US wholesale segment are now expected to decline by 18% to 20% over 2008 versus our prior estimate of a net sales decline in the range of 17% to 19%%.

The revised guidance reflects a greater than anticipated decline in sales to boutique customers. Boutiques have been the softest wholesale channel year-to-date and quarter-to-date have trended below our expectations. Michael will expand upon this trend in his comments. We continue to expect a mid single digit decline in sales to majors and off priced retailers. As discussed, on a year-to-date basis, our off price sales have increased $4.5 million as compared to the prior year period. We expect sales to these customers to decline by over $5 million in the third quarter of 2009 as compared to the third quarter of 2008.

In the third quarter of 2008 we experienced a surge in sales to the off price channel which we don’t expect to repeat in the 2009 third quarter. As a result, we expect the decline in our US wholesale sales in the third quarter will be greater than the 2009 annual sales expected for this segment. With respect to our international business, we now expect net sales growth of more than 20% over 2008 versus our prior guidance of net sales growth in the low single digits. This segment has outperformed our expectations this year as forward currency fluctuations have not restrained our sales growth.

We are pleased with our brand’s positive momentum in international markets however, we do recognize that we face tougher comparables in the fourth quarter as our international sales increased 31% in Q4 of 2008. Our 2009 net sales guidance now includes $4.0 million in licensing revenues versus our prior estimate of $3.1 million. The increase in our 2009 forecasted licensing revenues reflects certain of our licenses exceeding their net sales minimums, a portion of which was booked in the second quarter. The increase in our net sales guidance reflects our better than anticipated performance year-to-date as well as our visibility in to the forward order book for the third quarter.

While we are expecting a slightly greater than anticipated decline in US wholesale sales due to the challenges facing our boutique customers, we expect this to be offset by our strong momentum in the international business. Earnings per share are now expected to be in the range of $1.76 to $1.84 compared to our 2008 EPS of $1.83. Of note, in the third quarter of 2008 we implemented a tax planning strategy that reduced our tax provision in the quarter and increased our earnings per share by $0.06. We also finalized our 2007 tax returns which reduced our income tax provision in the third quarter of 2008 and increased our EPS by $0.03.

These items will impact our quarter-over-quarter EPS comparison in the third quarter of 2009. Embedded in our earnings per share guidance, our fully diluted weighted average shares outstanding of approximately 24.6 million and an effective tax rate in the range of 38.8% to 39.5%. Our full year effective tax rate exceeds our previously anticipated tax rate of 38.5% due to updates to our estimated state income tax expense.

With that, I would like to turn the call over to Michael to take us through a review of our operating performance.

Michael F. Buckley

Our performance in the second quarter demonstrates the strength and breadth of our multi segment business model. Net sales for the second quarter increased 12.4% with approximately 43% of the business coming from US wholesale, 39% from consumer direct, 17% from international and 1% from licensing. This compares to sales contributions for the prior year period of approximately 60% from US wholesale, 28% from consumer direct, 12% from international and less than 1% from licensing.

With respect to our US wholesale business, in the second quarter net sales to majors declined 2% year-over-year which was better than the shortfall we experienced in the first quarter. With majors identifying that inventory levels had been cut too lean, we saw a pickup in net sales trends as majors sought to restock their inventory position with better performing brands. The response from majors to our merchandise collections has been overwhelmingly positive and demonstrated strong sell through in the second quarter.

Despite this, we see opportunities to increase our sales penetration and grow sales to majors by partnering with our key accounts and proactively driving our merchandise in to this channel. As Jeff mentioned, we are presenting our merchandise to majors earlier and incorporating their feedback where appropriate in to our collection. We recently identified consumer preferences towards cleaner style washes and as such we are now incorporating some of our original washes in to our collection. These washes are less expensive and they retail in a price range of $172 to $200 which is our historical entry level price point. We believe that there is a terrific opportunity at this price level.

As we have said before, our wholesale pricing strategy aims to produce consistent gross margins and these original washes are no exception. Also, production and forecasting improvements ensures that we deliver our product in a timely fashion to drive our core replenishment program in response to customer requests of greater speed to market than that of our competitors. Along those lines, we are working hard to identify top performers within our collections early on to build available inventory to drive our replenishment business.

Lastly, in conjunction with our key retail partners we are coordinating on the marketing and advertising front through coop advertising dollars, product display and product education. In addition to building awareness about jeans and related sportswear products, this effort helps ensure that we are providing our retail partners with the appropriate knowledge and resources that the need to properly support the brand.

With respect to specialty boutiques, these customers continue to feel the impact of the challenged economic climate and as such net sales decreased sharply in the second quarter as compared to the prior year period. Cash conversion remains a challenge for these customers as they remain constrained by past season and slow moving merchandise. As a result, we experienced a decline in reorder business among the existing accounts. Additionally, we continue to see some rationalization among our customer base as smaller boutiques are going out of business.

To date in our third quarter we have seen sales to these customers deteriorate in advance of our expectations. With limit access to credit and inventory constraints we expect business conditions to remain challenged for these customers and we do not expect a meaningful near term improvement in this business. However, it must be noted that we do believe a portion of the lost business within boutique accounts has shifted to major as well as our own retail stores as consumer seek out and identify the retail sources for the freshest in season merchandise collection.

Turning to our off price channel, sales to these customers increased 6.8% year-over-year. We continue to expect sales to this channel to remain relatively consistent quarter-to-quarter in 2009. During the first quarter we made the deliberate operating decision to restrict sales within this channel to our preferred off price retailers including Nordstrom Rack, Sacks Off Fifth and Neiman’s Last Call. Going forward, we plan to offer our merchandise to other off price retailers in markets where we have no full price distribution.

Continued forecasting and production improvements I spoke of earlier are expected to limit the volume of merchandise available for future distribution through this channel. We do however continue to view our off price distribution as a strategic channel for True Religion. In conjunction with our outlet stores we utilized our preferred off price retailers to maintain a clean inventory position. In addition, the off price channel exposes True Religion to a broader customer base expanding our reach to consumers seeking more basic value oriented jeans and related sportswear merchandise at the same time limiting our exposure within the off price channel to our preferred accounts is consistent with our objective to maintain brand integrity and protect our full price distribution.

Turning to our international business, in the second quarter we experienced strong demand for our product across key North America, European and Asian markets. Our positive momentum in international markets is a true testament to True Religion being a young and growing brand around the world. With respect to Japan, our business in the second quarter continues to perform ahead of plan led by increased sales of our jeans and sportswear products in existing wholesale accounts. In addition to the two outlet stores we currently operate in Japan, in July we opened a third outlet store in the Army Center operated by Simons Property Group’s joint venture with Chelsea Japan Company.

The high profile center is located approximately 50 miles outside of Tokyo and is home to over 100 global domestic brand and restaurants. We are actively seeking full priced store locations in Japan. We continue to view the opportunity within Asia and in particular Japan, South Korea, China, Hong Kong and Macau as significant. As such, we are in the process of hiring a senior level international executive to direct the expansion of our wholesale and retail presence in Asia. Our Vice President of Human Resources and I recently returned from Hong Kong where we spoke with a number of talented candidates and we expect to announce positive news on this front in the next few months.

We’re also looking to establish a direct presence through our retail stores in select markets outside of Asia including the UK. We are currently scouting a full price store location and expect to have one branded store opened in London in 2010. In the second quarter we established a legal entity in the UK to prepare for this retail expansion. With respect to other international markets, we continue to explore opportunities to drive long term growth by increasing our presence. We expect that the form of our investments for long term international growth may vary country by country depending upon each country’s unique heritage.

In some markets where we are working with distributors we may seek franchise or joint venture arrangements to compliment the wholesale business by presenting our full collection. Also, we are exploring alliances with new distributors and new markets. Last month we hired a director of international business operations who will be dedicated to leveraging these opportunities. With respect to the wholesale business for the third quarter, our wholesale order book which includes both our US and our international orders was up 1% as of June 30, 2009 as compared to June 30, 2008.

Turning to our consumer direct business, the increase in net sales for the quarter was driven by the increase in the number of stores we operated at the end of the second quarter of 2009 as compared to the prior year period. We added 29 net new stores year-over-year ending June 30, 2009 with 59 stores. This is comprised of 45 full price stores and 14 outlets which is consistent with our target of three to four full priced stores for every outlet stores. In July we opened one additional full price store bringing our total store count as of August 1st to 60 stores.

On a consolidated basis we are pleased to report that our stores have performed in line with our 2009 plan. For the second quarter of 2009 gross margins in the consumer direct segment was 73.4% compared to 76.3% in the prior year. The decline in gross margin was due to an increase in the percentage of consumer direct sales from our outlets as well as the merchandise mix shift within the outlet as they now have fewer high margin irregulars in their assortment.

To sum up the first quarter, we continue to experience a decline in store sales productivity albeit at a reduced rate. Despite this decline, on a consolidated basis we delivered an operating margin in excess of our target of 30%. Importantly though we saw a pickup in traffic trends during the quarter as compared to the first quarter particularly with our outlet stores. We suspect that our outlets benefited from a change in consumer spending as consumers sought value from their retail purchases.

Our consumer direct platform has been a key area of investment for us particularly in terms of adding key personnel and strategic position to support our growth. Our investment in merchandising, planning and allocation has paid dividends in improved conversion at our full price and outlet stores. As such, while traffic continues to be down on a year-over-year basis, we experienced an increase in conversion at the vast majority of our stores owing to improved merchandise planning allocation effort as well as our ongoing store training, selling and clienteling effort.

This was particularly evident in our outlet stores which performed ahead of our expectations for the quarter. With the investments made in our consumer direct platform we’re addressing our outlet stores with greater focus. Improvements in planning and allocation have created better visibility in to our inventory within this channel ensuring that we stock our outlets with a more comprehensive selection of bodies and sizes. We continue to view outlets as a strategic channel for us and we are pleased with the initial results of our efforts.

Turning to the back half of 2009, as Jeff mentioned, we signed two additional leases for 2009 which will bring our year end store count to 69 total stores. We expect to open six additional stores in the third quarter with the remaining three stores in the fourth quarter with the remaining three stores in the fourth quarter. New True Religion stores in Tampa, Newport Beach and Scottsdale are our remaining 2009 store additions.

Our average capital expenditures for each store has been reduced over the past year by approximately 20% to $400,000 per store due to improvements in our design and sourcing process. We are also beginning to sign leases for our 2010 slate of new stores. We currently expect to open 20 to 25 new stores in 2010 in both new and existing markets. Our ability to secure leases in top performing centers at attractive lease rates confirms our belief that there are terrific retail opportunities in today’s market place. We will continue to leverage our strong financial position to increase brand awareness and grow our market share through the expansion of our consumer direct platform.

Turning to our licensing business, our licensing strategy continues to be a core component of our growth strategy as it provides the opportunity to diversify our product mix with minimal infrastructure build. As our highest margin category it also represents and opportunity to drive growth in sales and profitability. We ended the quarter with six licenses including headwear, footwear, swimwear, fragrance, eyewear and leg wear. As Pete mentioned we exceeded our licensing revenue forecast for the quarter as the fragrances and headwear licenses exceeded their net sales minimums. We expect that growth in current categories in addition to the introduction of new categories will contribute to the future growth in licensing income.

That concludes our remarks for today. Operator please open up the call for questions.

Question-and-Answer Session

Operator

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

Eric Beder – Brean Murray, Carret & Co.

Could you talk a little bit about what we’re going to see in terms of what we should think about in terms of non-denim product for fall in terms of maybe percentages and maybe some of the items?

Michael F. Buckley

Well, I think as we talked about the mix that’s in our own retail, we’re buying it to be anywhere between 30% and 40% of our initial buys for the season. So, you’re going to see more wovens in there, more knits, a little bit more of a balanced range, there will be some more jackets as well as down going back in to some of the stores. So on the retail side we expect it to be hopefully north of 30% overall net sales wise. On the wholesale side it’s still challenging for us to get the placement that we want so we don’t have any huge expectations in terms of fall and holiday in terms of a big increase in sportswear product.

Eric Beder – Brean Murray, Carret & Co.

In terms of store productivity, is that a function really of the newer stores or is that a function throughout in terms of a way to look at comps and other pieces? How should we think about store productivity versus new stores versus older stores?

Peter F. Collins

Eric, as far as how the stores performed, we talked on the call about how conversion rates continue to improve and that’s the area that Michael talked about, about how we’re making improvements in our planning allocation as well as in the clienteling and training of our store associates. So, while traffic has been down our conversion rates have been up to temper the impact of the decline of traffic.

In the second quarter, basically across the board, remember coming in here we kind of segmented the stores in to three groups, the ’07, ’08 and ’09 stores. The ’07 stores performed better than planned from a sales perspective in Q2 and even a little bit better than they did in Q1. The ’08 stores improved nicely on a trend from Q1 in to Q2 so Q2 was better across the board for those ’08 stores. Then, the ’09 stores did well, they were basically on plan. When I talk about the ’09 stores, I’m referring to the ones that were open the whole quarter in the second quarter of ’09 so those would be the stores we opened in the first quarter of ’09.

So, we did see some good pick up. Some of it is probably some seasonality but also we’d like to think that some of it has to do with the improvements we’re making in the selling environment as well as planning allocation.

Eric Beder – Brean Murray, Carret & Co.

Finally, now that the store brands have become more aggressive and landlords are kind of really getting in to this, are you maintaining or are you raising the returns that you require from new stores?

Michael F. Buckley

We still have a target, if we’re going to do a deal that deal has to pencil for us at at least a 30% operating income hurdle. That continues to be our target. Obviously with better rent deals than there were a year ago makes it a little easier to get to those kind of numbers.

Operator

Your next question comes from Analyst for Todd Slater – Lazard Capital Markets.

Analyst for Todd Slater – Lazard Capital Markets

Can you discuss a customer in the wholesale channel that you are targeting with a cleaner style washes in the $172 to $200 range? Is this for a different customer age? And, will you also be offering this range within your owned stores?

Michael F. Buckley

We don’t want it to sound like this is something new to us, I mean I think for the last few seasons there’s been a lot of our product in the market place that has had a lot of embellishment. Obviously, we want to make sure that we have a completely balanced product range so that we can meet the needs of the customer that maybe doesn’t want to wear bling so to speak as well as meet the needs of the customer that wants a little more fashion. Clearly, we’re going after the entry level price customer who wants the basic. No different than what some of our competition is going after.

Analyst for Todd Slater – Lazard Capital Markets

Then on the international wholesale operating margins, they were fantastic. You mentioned that it was an increase in direct sales there so should we attribute these margins mainly to Japan and should we be expecting similar strength going forward?

Michael F. Buckley

Well, I think it’s a combination of Japan and some sales to other markets in Asia where we deal directly with the retailer as compared to the past where we had distributors involved that were getting a distributor whereas these customers are paying full US wholesale.

Analyst for Todd Slater – Lazard Capital Markets

Lastly, on trailing 12 months your international sales are about 16% of the top line. Any sort of guidance as to where you see this growing over the long term?

Michael F. Buckley

Well, quite frankly we’ve always said over the long term that we expect to brand to be larger outside the US than within the US. So, we would expect year-over-year to see that percentage continuing to increase.

Operator

Your next question comes from Ron Bookbinder – Global Hunter Securities.

Ron Bookbinder – Global Hunter Securities

A little bit further on the international, it was up dramatically especially compared to what I was modeling. Was that just because – was there sort of a onetime blip there in that you basically weren’t selling much at all to Japan in Q2 last year but we shouldn’t look to such a dramatic increase in Q3 and Q4?

Michael F. Buckley

Well, I think there was a little bit of that relates to Japan but there are also other markets where the brand is or has been very underpenetrated. Obviously, when you’re working off a small base it’s easier to throw up bigger percent increases. A portion was related to Japan but not a significant portion.

Ron Bookbinder – Global Hunter Securities

Wasn’t your distributor in Japan selling, I guess it was without your authorization but your former distributor wasn’t he selling to the market on the side of Asia like Korea and had you guys been selling in to those markets or is this new manager walking in to a situation where there’s a lot of potential that you haven’t been tapping in places like Korea?

Michael F. Buckley

Well, I just think across the board, across the entire Asia Pacific rim we see that as an enormous opportunity for us. There’s definitely a lot of momentum in terms of the product that they want in the market place. So, it’s a very small base within each market place so we see that as a low hanging fruit for us to really be able to drive the business between Japan, between greater China and between Korea.

Ron Bookbinder – Global Hunter Securities

When you talk about this entry level price point which you’ve carried for years, it does seem like the department stores have drifted away from the entry level price points to I think your average price point for the quarter was up another $14 for women’s, was that correct? How did things drift away, was that the department stores doing, or what was behind that?

Jeffrey Lubell

Ron, just to answer your question it seems like washes are getting a lot more focus in to simple washes and the simple washes are less expensive to produce and it really goes back to that entry level price point of that $172 to $200 price point which is very clean looking jeans. People are not buying as much destroyed per say even though it’s still a strong trend for us but the clean simple washes, you may find more for clubbing and more for formal affair where something that is really vintage and unique is something that is more casual and more weekend wear.

Ron Bookbinder – Global Hunter Securities

But the average units sold with the women’s up 256 I think it was, you’re not seeing any price pushback though, you’re just seeing it as another area?

Jeffrey Lubell

[Inaudible] added a lot of very unique novelty product to the line. We just want to meet the full spectrum for all of our customers where the majors usually buy the entry level prices and some of the bling and some of the novelty and more the specialty stores are buying more of the real novel type of product because they run a reorder business in the major department stores so they want that entry level price point. The simple washes that they started with are just becoming more and more attractive in today’s line above the product that we offer to the consumer.

Ron Bookbinder – Global Hunter Securities

Just lastly, given the weakness in the boutiques and independent retailers, could you give us some more color on the diversification plan from Merchant Factors?

Jeffrey Lubell

Well, you read what I read basically in the trades today with the problems that CIT is facing. Pete can elaborate for you.

Peter F. Collins

Basically Ron we’re just not going to work through the factor, we’re going to handle the credit ourselves. We’ve implemented credit limits on a customer by customer basis and historically one way that we’ve effectively managed the credit risk on accounts that are small if we don’t have a record with them or a good record with them is we ask them to pay us with either credit card or COD. We’ve got a lot of kind of tools at our disposal to handle the credit and we just felt it was the right time for us to take on the more direct ownership of that and really spread our risk around a little bit. But, I don’t anticipate us taking a significantly different credit posture as we move forward.

Operator

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

Jeff Mintz – Wedbush Morgan Securities

You gave a number for backlog of up 1% and I guess just doing the quick math it looks like you’re kind of guiding the wholesale business is down about 8% in the back half, is that more just conservatism or is there something that concerns you about potential reorders as we go in to the back half?

Michael F. Buckley

Well, I think the one thing we mentioned in terms of the off price business was how we plan to bring that down about $5 million versus what we did in the third quarter of last year. So, a lot of it is being driven from that.

Jeff Mintz – Wedbush Morgan Securities

Is the off price business mostly preorder or is it mostly in season orders?

Michael F. Buckley

It’s a combination. We have items that we know we want to off price but we don’t want them going in to the market place that there’s been a certain amount of time that they’ve been at a full price distribution. So, we’ll lock the orders up but we won’t ship them for a couple of months.

Jeff Mintz – Wedbush Morgan Securities

Secondly, on the wholesale gross margin it was actually up nicely in the quarter which was great, I’m just trying to get a sense because my understanding was, or I kind of felt that the gross margin would be declining with less boutique business more major business. Is that also being driven by the off price and should we expect it to moderate a little?

Peter F. Collins

No, there’s a couple of things going on there Jeff. In the comments, we talked about the improvements that we made from a sourcing and production perspective so that’s things like a year ago we had miss forecast our demand for a certain fabric and we had to air it in from Italy so that impacted the margin in the prior year. If you remember ’08’s gross margin I think pretty consistently throughout the year on a wholesale side, at least for US wholesale was down year-over-year. So, we’re recapturing some of that with the improvements that we’ve made in the sourcing and production process.

Another element of that is also working more closely with our contractors in advance so that when we set wholesale prices for the line sheet, we have a really good understanding of what our costs are going to be and that helps to make sure that we are working on the initial margin that we expected so there are just kind of some fundamental things that with the improvements in our team it allows us in 12 to 18 months that they’re really coming in to their own for the first half of this year and hopefully will continue on. Those are offsetting the mix shift you’re talking about where we’ve kind of seen the big decline in our higher margin boutique business.

Jeff Mintz – Wedbush Morgan Securities

So Pete do you think longer term you can get back to kind of a 53% to 54% margin in that business?

Peter F. Collins

I think the margin that we’re at right now, I think we’ve done what we can do on the sourcing and production. I mean, we’re always trying to do better but I don’t think there’s a lot of easy things to get there. In fact, our goal is really to work on a consistent initial margin, we’re not trying to take anything out of the product but leave the price really where they are. So, I think we’re back in a range that feels good for us but the mix, the boutique business grew at a percentage of the overall pie, that would help the margins.

Jeff Mintz – Wedbush Morgan Securities

Can you just talk about on the consumer direct side in terms of inventory, have you made any kind of inventory adjustments to your stores given lower foot traffic and declines in sales per square foot or are you kind of still keeping the same inventory levels?

Michael F. Buckley

We look at the inventory levels store-by-store based on our adjusted sales plan. We flex it up or down depending on how the store is trending.

Jeff Mintz – Wedbush Morgan Securities

Michael would you say overall that inventory has been coming down a little bit then as things have just been a little soft across the economy?

Michael F. Buckley

Maybe slightly. We still want to make sure we have a full product range in there but with a whole new buying planning allocation team we are very much focused on looking at inventory levels store-by-store and making sure that we’re turning the goods.

Jeff Mintz – Wedbush Morgan Securities

Then finally, with this move it sounds like a little bit more on a trends basis towards a more basic jean or a less embellished, does that concern you at all that that could lead to business lost to competitors because obviously the embellishments is something you guys obviously do exceptionally well. Are you concerned that as you move to a more basic jean that that might put you in a slightly weaker competitive position?

Michael F. Buckley

We’re not moving to it, we’re still going to do a tremendous amount of embellishment as we always have, it’s just a matter of we were missing the sale to the customer who wanted a cleaner basic product. Now, we look at that as we’ve got to get a piece of that business that we’re walking now because they don’t want a super T or they don’t want a crystal, or they don’t want a stud, or they don’t want some other embellishment, they just want to have an amazing fitting product and they just want to have it in a different wash.

Peter F. Collins

We really see it Jeff as being incremental.

Operator

Your next question comes from Christine Chen – Needham & Co.

Christine Chen – Needham & Co.

I just wanted to ask, you mentioned that traffic improved from Q1 at your owned stores, I’m just wondering if you could comment on trends within the quarter? Did it continue to build during the quarter or was it pretty consistent?

Michael F. Buckley

I think as the quarter continued to move on it got better.

Christine Chen – Needham & Co.

Then just from our checks, I know that in the second quarter at some of your major customers who shall remain nameless, it felt like inventory was almost a little too light because they were being conservative in their planning and things were selling out. Do you feel like that has righted itself for fall?

Michael F. Buckley

We were out there as well walking the stores at the different department stores and it was concerning to us to see that there wasn’t enough product on the floor. So, we’ve taken a little more active role really sitting down with the majors and putting more product on replenishment and pushing to put more product on the floor which they’ve been very open too.

We’ve met with the majors on the men’s side three weeks earlier than we normally do in New York a few weeks ago where I was there myself and they’re very open to taking more product on QR with us. We also wanted them to take some of the basic product because we felt that clearly they’re missing the opportunity for True Religion really on the cleaner washes. It’s been very positive for us.

Christine Chen – Needham & Co.

Then could you just remind us what the percentage overlap is between your owned stores versus the majors? It’s very small right?

Michael F. Buckley

Well, you might have 400 or 500 different style wash combinations on the floor and if you go into probably the best representation we have on the department store side you’re probably looking at a dozen.

Operator

Your next question comes from Dorothy Lakner – Caris & Company.

Dorothy Lakner – Caris & Company

Not to beat a dead horse but I just wanted to clarify because I’ve seen some of the cleaner product in it seems some of the majors already so this is really just a question of adding more of that product in there not necessarily taking out the more embellished products so you have a more complete range to offer their customers, is that correct?

Michael F. Buckley

That was the message that we were trying to get across. This is incremental to what we are doing and we’re still going to do plenty of embellishment, we just want to make sure that we have the basic product in there to service the needs of that customer who is looking for something cleaner.

Dorothy Lakner – Caris & Company

So it seems as if you’ve already got, I’ve seen a clean grey jean, a clean black one, a clean white one, it seems like that product is already kind of making its way out there.

Michael F. Buckley

Absolutely.

Dorothy Lakner – Caris & Company

Then if you could give a little more color on what’s going on in Europe and sort of country by country what kind of trends you’re seeing over there?

Jeffrey Lubell

Just like it is over here, the skinny jean seems to have kind of revived itself, we have many models in our line both men’s and women’s that fit the skinny jean style. Europe is all about skinny jeans, they don’t really wear flares or bell bottoms over there on both the men’s and women’s side. We’ve seen those same type of look become important in the United States, it has been for a while now.

Dorothy Lakner – Caris & Company

And sort of the move towards clean as well?

Jeffrey Lubell

You know we started the trend with the really vintage look many years ago and we were very successful with that for several years and then a lot of our competition started getting in to the destroyed and it became like overkill so to speak. When I first started the brand we had very simple washes to light hand sands and light whiskers, dark stones and rinses and then I progressed in to more novelty type of finishes.

Now, people are starting to want more of the cleaner finishes. I don’t see it really much of a price point change but just really of a trend going more towards clean washes on denim as well as something that they can wear to clubbing or a nice restaurant. You don’t really want a vintage jean with a lot of holes in it when you may be entertaining somebody or going out to a club.

Dorothy Lakner – Caris & Company

Just one last question, given the success of the retail stores, admittedly it’s tough out there but obviously your stores are prized in terms of being in a particular center. I imagine you’re getting a lot better rents today than you were a couple of years ago. Is there any opportunity to go back and renegotiate some of those rents as things have gotten tougher out there for the landlords?

Jeffrey Lubell

It’s really hard to renegotiate a deal once you’ve done it but we are looking for better deals in today’s market. I’d like to also add that one thing that we have noticed with our stores is that the customer service within our stores I think is very unique in today’s market as opposed to the other retailers out there in this world today. They’re very personalized, they know what their customer needs are, we’re constantly calling our customers, getting them in to the stores, telling we have new product and I get a lot of emails from people who take the time out to address and say, “I’m really so pleased with your customer service.”

I don’t want to mention the other retailers that they don’t feel they’re getting this kind of service in but I’m very proud of the staff in our retail channel and how they are servicing the consumer whether they buy a product from us or not in our stores because we don’t go on sale in our own stores so the fight is fighting with the department stores who last year in September were all at tremendous mark downs. We stood strong in our owned retail environment and we were very successful.

Basically, I want to thank our retail team and in our stores you get all the new product as well as all the basics. You get the full breadth of the brand, all the sportswear, all the t-shirts, all the hoodies, all the leather, everything that we do as a brand, all the licensed product and what I’m trying to portray to the other department stores and other specialty stores if you can survive in this market place if you have a good array of our product in your stores.

Operator

Your next question comes from Ron Bookbinder – Global Hunter Securities.

Ron Bookbinder – Global Hunter Securities

On the license business, didn’t fragrance only launch last fall? How has it been that they have been able to achieve such success so quickly.

Jeffrey Lubell

It’s the scent Ron.

Peter F. Collins

Actually, the first contract year ended June 30th of this year. So, they’ve had product out there for a couple of seasons now.

Jeffrey Lubell

But Ron the scent on both the men’s and women’s side took approximately six to seven months to develop before we even launched it and they go through many tests and many scenters and department stores and regional areas both domestically and abroad. I think True Religion right now on the men’s side runs number two in department stores and three and four on the women’s side. That’s very, very strong progress in our first year of business.

Ron Bookbinder – Global Hunter Securities

When looking at some of the other licenses footwear, swim, how are they progressing and is do you expect to see some ramp up there as the True Religion brand continues to grow?

Jeffrey Lubell

Depending on whichever market you may go in to and compete against other players in that market, you have to have better product, better fits, better quality, better sewing, more speed to market, being able to create trends. I just came back from the swimwear show in Miami, actually in this week’s Women’s Wear Daily, there was a whole page on True Religion talking about the swimwear. Footwear is doing great, we have some really novelty styles that will be hitting the market place for fall so the fall shipping period is coming up very shortly.

You’ll see a lot of newness from our brand both in the product category as well as the license category. I think that the market will react favorably towards that. We’ll have to take a wait and see approach but I know the footwear line is amazing and I think it’s going to do very, very well. It takes times for these guys to get traction in the market place and steal footage away from the competition. I know we have the start of a new season, we’re just finishing up holiday, we’re launching spring and summer at the project show coming up on the first of September and then we have the biggest show the of year for women’s which is the [inaudible] in New York on September 21st I think is the date.

We’re really starting our new season now for spring, summer in to fall of next year. The product I can tell you keeps getting better year, after year, season after season. We’re not sitting here saying, “Hey, we’ve got a great business let’s just relax and have a good time here.” We’re always looking forward trying to be very innovative and know that it’s a very tough market place out there and we have to always have that fresh unique product that separates us from the rest of the market.

Operator

We have run out of time. I would like to turn the call back over to management for any closing remarks.

Jeffrey Lubell

Thank you everybody for your time today. We greatly appreciate your continued support and interest in True Religion brand jeans. As always, if you have any follow up questions, please do not hesitate to contact Mr. Pete Collins, our CFO or Laura at ICR. Thank you very much.

Operator

Ladies and gentlemen this concludes the True Religion Apparel, Inc. 2009 second earnings conference call. This conference will be available for replay today through September 4, 2009 at Midnight. You may dial 1-800-406-7325 or 303-590-3030 followed by pass code 4118222. Thank you for your participation. You may now disconnect.

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Source: True Religion Apparel, Inc. Q2 2009 Earnings Call Transcript
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