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The TJX Companies, Inc. (TJX)
Q2 2007 Earnings Conference Call
August 15, 2006 11:00 am ET

Executives

Ben Cammarata - Chairman and Acting Chief Executive Officer
Carol Meyrowitz - President
Jeff Naylor - Senior Executive Vice President and Chief Financial Officer
Sherry Lang - Vice President, Investor and Public Relations

Analysts

Mark Montagna
Jeff Black
Richard Jaffe
Todd Slater
Kimberly Greenberger
Evren Kopelman
Paul Ezroy
Stacy Pak
Dana Telsey
Margaret Mager
Marni Shapiro
David Mann
John Morris
David Glick

Presentation

Operator

Ladies and gentlemen, thank you for standing by. Welcome to The TJX Companies Second Quarter Financial Results Conference Call. At this time all participants are in a listen-only mode. Later we will conduct a question-and-answer session. [Operator Instructions]. As a reminder, this conference call is being recorded Tuesday, August 15, 2006.

I would like to turn the conference call over to Mr. Ben Cammarata, Chairman and Acting CEO for The TJX Companies Incorporated. Please go ahead, sir.

Ben Cammarata

Thank you very much. Before I begin my comments, I will introduce to Sherry Lang, who has a comment.

Sherry Lang

Thanks. Good morning, everyone. The forward-looking statements we make today about the company's results and plans are subject to risks and uncertainties that could cause the actual results and the implementation of the company's plans to vary materially. These risks are discussed in the company's SEC filings, including without limitation, the Form 10-K filed March 29, 2006. Further, these comments in the Q&A that follows are copyrighted today by The TJX Companies. Reconciliations of non-GAAP measure to our GAAP numbers, are available on our website, www.tjx.com, in our press release dated today. Any recording, rebroadcast, reproduction, or other use of the same for profit or otherwise without prior consent of TJX is prohibited and a violation of United States copyright laws.

Ben Cammarata

Thank you, Sherry. Good morning. Joining me on the call today are Carol Meyrowitz, Jeff Naylor and Sherry Lang.

Let me begin by saying that overall our second quarter performance was very strong, and there are a lot of positives to talk about. With the 26% increase in EPS and above-plan comp sales, we delivered the strongest second quarter in the company's history. Further, this was the third consecutive quarter in which EPS growth has exceeded 20%, pre-tax margins have expanded, and results have been above our plans.

Finally, with the exception of A.J. Wright, all of our smaller divisions had significant year-over-year bottom line improvement and performed above plan.

While I am pleased with the overall progress we are making, there are still several areas where I believe we can do better. Specifically, we are focused on improving results at A.J. Wright, as well as the performance of certain merchandise categories within Marmaxx. We also continue to focus on improving the effectiveness of our marketing efforts throughout the company. I will talk about these points more specifically in my comments.

First to recap the numbers. For the second quarter, consolidated sales grew to $4 billion above plan and up 9% over last year. Consolidated comp store sales increased 4% over the prior year, which again was above our plan. Currency exchange rates benefited comp sales by about 1 percentage point, which was what we had expected. Our consolidated pre-tax profit margin in the second quarter increased 90 basis points to 5.8%, primarily due to significant improvement in the profitability of our smaller divisions.

The gross profit margin was up over the prior year, coming from merchandise margins improving slightly over last year's strong performance, as well as buying and occupancy leverage. The SG&A rate also improved with our continued focus on cost management.

Net income for the second quarter was $138 million, a strong 25% increase over last year's $111 million. Diluted earnings per share were $0.29, a 26% increase over last year's $0.23 per share and $0.03 above the high end of our original expectations.

Moving on to divisional performance, beginning with The Marmaxx Group, Marmaxx segment profit was $208 million, slightly above our plan. Comp sales at Marmaxx increased 2%, which was in line with our plan for the second quarter. Marmaxx's segment profit was at the high end of our planned range. As expected, this margin declined slightly from last year, as we anniversaried very strong merchandise margins from a year ago.

Mrs. sportswear made good progress since the first quarter and posted 6% comp sales increase. This came as a result of better execution, which included tweaking the average ticket upward in this important category. Staying on Mrs. sportswear for a moment, on last quarter's call, I mentioned that we will be testing a designer department in T.J. Maxx this fall. We are planning on opening 25 of these departments initially.

Men's continued to do well, coming in line with the -- comping in line with the chain. Also our jewelry, accessories and footwear categories, combined, increased by 3% on top of very strong comp sales increases for the last several years. With jewelry and accessories, we're more or less -- we've more or less completed the rollout of expansions throughout the T.J. Maxx chain.

At Marshalls, we still have opportunity to expand more footwear departments. We'll talk in a moment about additional opportunities in these categories at the other divisions.

Although home fashions in total comped up 2% in the quarter, hard home categories comped up 7%. It's in the hard home categories that we really differentiate ourselves and they have been driving the business in our home fashions areas. Soft home has continued to be challenging for the most part across all divisions. Given all of the discussion we hear about -- hear out there about weakness in the home category on a macro basis, we believe that our unique home decor offerings are helping us do better than most.

I mentioned earlier that there are certain categories at Marmaxx that provide significant opportunities for us, namely, junior sportswear and children's. Also as I just mentioned, soft home has not been doing well. These three categories combined, contribute about 20% to Marmaxx sales. So, softness in these categories had an adverse impact on Marmaxx comps in the quarter.

To provide some regional color, the Northeast and Southwest were the strongest areas of the country. The West Coast was in line with the chain, and probably would have done better, were it not for the severe heat waves. The Midwest continued to trail the chain.

Moving to Winners and HomeSense; this division had an outstanding second quarter. Segment profit more than doubled over last year to $41 million, with about a third of this increase due to favorable exchange rates. Segment profit margin reached 10.4%, well above last year in our expectations and the highest level in the past six years.

In US dollars, comp sales increased 17%. In local currency, which we believe more closely reflects our operating performance, comps increased by an above plan 6%. This division continues to do a good job of maintaining inventory liquidity, buying into current trends and flowing fresh exciting fashion to our stores.

Additionally at Winners, we have opportunities to expand merchandise categories. We are testing Marshalls like footwear departments and plan to have expanded jewelry and accessories in about half of the Winners' chain this year.

HomeSense, our Canadian home fashions concept, has really hit its stride. After struggling to get flow right for quite a while now, this organization has done a much better job keeping merchandise flow steady and featuring the right product. Again, we believe the uniqueness of our home decor offerings differentiates us in the home arena.

HomeGoods continued to perform well in the second quarter. Segment profit was $4 million, which exceeded our expectations. Segment profit margin was 1.4% more than the 3 percentage point improvement over the prior year. Comp sales increased by an above plan 4%. I feel really good about the progress we are making at HomeGoods. I will say it again -- it's about execution, execution, execution. The HomeGoods organization has really responded to this message. We consistently flow the right product to our stores at the right time, so the stores look very exciting. As I mentioned, hard home categories are driving our solid performance in home fashions. In addition to owning the treasure hunt, the unique home product, we are experimenting with a variety of ways to improve our soft home categories to make HomeGoods a destination for every day's basics.

Moving to the UK, T.K. Maxx had a great second quarter. Segment profit doubled over the prior year to $18 million and segment profit margin was 4.4%, significantly above both planned and the prior year. Comp stores sales increased 13% in US dollars and comps in local currency, which we again believe is a better indicator of our business, were up well above plan to 10%.

T.K. Maxx continued to do an excellent job of maintaining liquid inventories, buying the right brands and featuring them in our stores. Additionally, our home, children's and accessories businesses continued to outperform in the second quarter. We also continue to have expansion opportunities within home and the accessories categories at T.K. Maxx. While we are hearing about some recovery in the UK retail environment, we attribute T.K. Maxx's strong performance to the solid execution of our off-price strategies.

At A.J. Wright -- excuse me; I am dried up here a little bit, so excited about this quarter -- at A.J. Wright, our second quarter results were below our expectations. Comp sales increased 1%, which was below plan and bottom line results were also below plan. A.J. Wright's segment loss was entirely due to the sales miss and related markdowns. We continue to work on finding the right formula for A.J. Wright. We are still working to find the right level of advertising and the right marketing message for this business.

We have an ethnically diverse customer base at A.J. Wright and we are doing a lot to market and merchandise more strategically to reach all of our customers. We also continue to address underperforming stores and are analyzing how they differ from our groups of A.J. Wright stores that are doing well. I want to emphasize that we think it's the right thing for us to continue to work on the A.J. Wright model. The moderate-income target customer demographic is huge, much larger than our core customer, and could support a 1000 A.J. Wright stores. We are doing a lot of analysis and testing to determine what works for this concept and what doesn't. I remind you that this business will be cash flow positive this year as it was last year.

Finally, Bob's Stores had a very solid second quarter. Comp sales increased 6% at the high end of the plan and we reduced our segment loss by more than half, which was better than we had expected. At the halfway mark of the year, bottom line performance at Bob's has exceeded our expectations. We have increased the level of price promotions, which we believe is helping to drive customer traffic. At the same time we are buying opportunistically, which has led to improve margins. This is significant as it tells us we can profitably drive traffic to the stores. Also our women's casual sportswear business, which we expanded earlier this year, continues to outperform. As we transition into fall, I am excited about the product we have at Bob's. As I have said, we will make a decision on Bob's Stores by the end of the fiscal year, but we are certainly encouraged by the performance we are seeing. As a reminder, we continue to expect this business to be cash flow neutral this year.

In terms of inventories, consolidated TJX inventories on a per store basis were down 4% at the end of the quarter. We enter the back half of the year with significant liquidity in our inventories, which positions us well to continue to buy into current market trends.

Before I move on, I want to spend a moment on marketing. As I mentioned earlier, this is an area we continue to address. We need to be spending more in this area and we did. In fact, we spent 17% more on marketing in the second quarter this year than we did last year. That said, finding the advertising dollars continues to be a challenge. We also need to improve our creative campaigns to communicate more effectively with our customers. Marketing is a major focus for us, as we continue to seek ways to address the fragmented marketplace.

Now briefly on our stock buyback program. During the second quarter, we spent a total of $204 million in repurchases of TJX stock retiring 8.7 million shares. Through the second quarter this year, we've spent a total of $381 million in share repurchases and bought back 15.9 million shares, that's 15.9 million shares. It remains our plan to repurchase a total of $650 million of TJX stock in fiscal 2007.

As for guidance going forward, with our EPS results for the first half of the year coming in above plan, we are raising our outlook for the full fiscal 2007 year. We now expect full year earnings per share to be in the range of $1.49 to $1.53 over $1.41 in the prior year, which included a net benefit last year of $0.12 per share primarily from non-recurring tax items.

Excluding these one-time items from last year that translates to growth of 16% to 19% over the adjusted $1.29 per share earned in fiscal 2006.

Moving to third quarter guidance, we expect earnings per share to be in the range of $0.39 to $0.41, a 22% to 28% increase over $0.32 per share in fiscal 2006. As a reminder we had several one-time items that combined, reduce last year's third quarter earnings by a net $0.02, which we've detailed in our SEC filings. Adjusting for these items, our expected third quarter earnings per share represents a 15% to 21% increase over the adjusted $0.34 earned last year, and Jeff will get into more detail in a moment.

I am going to sum up by saying, as we move into the back half of the year, driving profitable sales remains our top priority. We continue to drive comp sales through improved execution, merchandise initiatives and marketing. Also we remain focused on effective expense management across the entire company, and finally our liquid inventories position us well for the fall selling season.

With three consecutive strong quarters under our belts, Carol and I feel very good about the business overall and our future opportunities.

Finally it's important to note, while the market is very skittish about the consumer, we really haven't seen it. We have shown over many years that when we execute well, our business holds up as well or better than most in tougher retail environments. We have typically attracted more customers when the consumer gets squeezed and have kept them with us once things get better. Our recent results indicate that we are continuing this trend.

So, with that I will turn it over to Jeff now.

Jeff Naylor

Thanks, Ben. Good morning, everyone. What I will do is just give you a little bit more retail on our third quarter guidance, and then we'll -- little more detail on our third quarter guidance, and then we will open it up to questions. First, we were assuming a third quarter top line of about $4.4 billion, with a 3 to 4% comp sales increase on a consolidated basis and a 2 to 3% comp sales increase at The Marmaxx Group.

As to the monthly comps on a consolidated basis, we expect comp sales increases in the range of 2 to 3% in August, 3 to 4% in September, and 4 to 5% in October. That's for total TJX. For Marmaxx, we're planning on comp sales increases in the range of 1 to 2% in August and then about 3% in September and October.

We're anticipating third quarter gross margin in the 24.2% to 24.3% range, and we are also anticipating SG&A as a percentage of sales to be in the 16.9 to 17.1% range. Segment profit margins for the third quarter are planned in the range of 7.8% to 8.1% and that compares to 7.7% in last year's third quarter, so we have 10 to 40 basis points of bottom-line margin improvement built into the model.

For modeling purposes, we've planned third quarter corporate expense in the 31 to $32 million range, interest expense we've planned at 8 to 9 million and we've assumed an average share count of 473 million shares. The tax rate for the third quarter we've assumed to be 38.8%. So, that's it for some of the details behind the third quarter guidance.

To keep the call on schedule, we ask that you please limit your questions to one per person. So, thanks and we'll take questions at this time.

Question-and-Answer Session

Operator

Our first question comes from Mark Montagna. Your line is open.

Mark Montagna

Hi, just a question about your average ticket. It sounds like it went up during the second quarter. So, did you finish the second quarter at your average ticket on plan with where you had expected it to be at Marmaxx, so, I guess, equal to last year?

Ben Cammarata

Yeah, pretty much flat with last year, we were very close.

Mark Montagna

All right. So, do you expect that to go up further in the third quarter and to potentially exceed where the second quarter ended?

Ben Cammarata

When we look at our on order, it probably goes up slightly.

Mark Montagna

Okay.

Ben Cammarata

Yes, and we are adding -- I mentioned, we're adding a better sportswear department. So, those types of activities helped the ticket somewhat.

Mark Montagna

Okay. And then, how many stores did you finish with as far as the jewelry and accessories within the T.J. Maxx division?

Ben Cammarata

Pretty much the entire chain. We finished -- footwear was about 280 -- not about, with 283 stores, and so we've got a lot of upside in footwear at Marshalls, but accessories and jewelry are practically done now.

Mark Montagna

Okay, all right. Thank you.

Ben Cammarata

Thank you, Mark.

Operator

Our next question comes from Jeff Black.

Jeff Black

Hi, good afternoon and a great quarter, congrats.

Ben Cammarata

Thanks.

Jeff Black

Ben, can you just fill us in on the efforts across the organization in terms of talent and [that to] the Marmaxx organization? And are there people that are new in the juniors and children's and the soft home areas? Are those areas where we would expect to see future benefits? Then I guess, as we look at the whole picture, is the Marmaxx business a story that really begin to get better traction in '07, or do you see an opportunity in the back half of this year to really get some better results there? Thanks.

Ben Cammarata

Well, let's start with the last question first. In terms of Marmaxx improvement this year, we are looking at 2 to 3% comps; I believe, that's the number for the third quarter, Jeff?

Jeff Naylor

That's right, and slight margin improvement.

Ben Cammarata

And slight margin improvement. We feel comfortable with those numbers, and hopefully, we can do better, but we have a comfort level there. In terms of talent, we have a major focus on talent throughout the entire company. This isn't solely a Marmaxx related effort or initiative. We are especially focused on improving merchandise talent throughout the organization, because that's what we do. We are all about merchandising, and I will tell you that it's not an easy task finding individuals in the merchandising area outside of the company that we would like to bring into TJX. It is a difficult process, but we are very intense on accomplishing this. We have added two senior merchants for the company. This is Marmaxx specifically, who start October 1st. We do have searches going on in other areas. We are searching for two divisional Presidents as we speak, one for HomeGoods and one for A.J. Wright. So, there is a lot of work and focus being done in the talent area.

In terms of juniors specifically, we did make an organizational change there recently. I thinks, it's within the last four or five months, and I am pleased to say, whether it's the new organization or somewhat related to some of the work the older organization did. We are starting to see some improvement in juniors, and we are excited about that. We are becoming more fashion right. We felt, we weren't as good in -- at areas we should have been, and so perhaps the new organization or the changes in the organization are helping in that area.

In terms of soft home, we haven't really made any changes to the organization, but there is a definite focus on improving home -- soft home throughout the corporation. One of the areas is in the top-of-bed we call it our fashion bedding area. We feel that, we have lots of opportunity there. We are making some strides, but we still have a lot of work to do there. Carol has initiated, what we call, a towel wall, which is a program, towel business that we are testing in about 50 stores within HomeGoods actually. I think, it is 50 stores, right. And so, what we are trying to do with soft home in all the divisions is, improve the towel and top-of-bed area to get customers to think more about us, rather than strictly a treasure hunt area become more aware of us as being a great place to find basic merchandise. Carol, did you want to add anything?

Carol Meyrowitz

We also have a tremendous opportunity in sheets and just to flow them, and I think starting from October, I think, we are going to see some benefit there. The other key step is we have really beefed up our California and New York office, which is very positive to the junior business, because a lot of the trends are coming out from California. So, I think that we are going to benefit from that tremendously, and that's quick turn, great fashion goods. So, I think we are in a very good place in terms of being setup to go forward and see some positive things in junior.

Jeff Black

Great, thanks for the color. Good luck.

Ben Cammarata

Thank you, Jeff.

Operator

Our next question comes from Richard Jaffe. Your line is open.

Richard Jaffe

Thanks very much. Ben, just a quick question. Last year in the fall you had the benefits from store closings at the department store level, particularly the May Stores. Looking ahead to this year's third and fourth quarter, what do you think about the environment and the opportunity for product, we have some of the windfalls you realized last year, will they come from different sources?

Ben Cammarata

Well, certainly, there are -- I am sure I am being a little redundant on this, but I will repeat it, because I think it's worth repeating. I felt at that time and I still believe that there were three major benefits derived from these store closings and consolidation. One is, the availability of merchandise with the number of doors that closed, is hundreds of millions of dollars, that won't be brought by department stores, and I certainly believe that it provides opportunity. And I think, we are proving that, because when you walk into our stores today, I think you will find a much better brand mix than you saw at the same time last year.

Number two, I think the advertising or promotional environment will slow down. I think it has slowed down, it certainly hasn't stopped. But I don't think it's going to be as severe as last year was, and I think that will be helpful to us. And although, I've mentioned this before and we haven't been as fortunate in this area as I would like to be, I think there will be certain talent available that may not have been available without the store closings and we continue to pursue talent out of the department store industry.

Richard Jaffe

Thanks very much.

Ben Cammarata

Got you.

Operator

Our next question comes from Todd Slater. Your line is open.

Todd Slater

Thanks very much. I was wondering if you guys would just mind refreshing us about the degree of the change in the way that you are buying, your opportunistic buy versus the upfront buys, and what's sort of the IMU benefit of this strategy you think in the back half of the year? I mean is it like 50 basis points, is it 5%? And what's the prognosis for getting Marmaxx back to peak margins, and maybe even surpassing peak margins given that your systems, your technology, the execution enhancements you have made over the last 5 years put you in a position to perhaps surpass the profitability levels of the past?

Ben Cammarata

I will turn it over to Carol?

Carol Meyrowitz

Hi, Todd. First of all, on the off-price we are pretty much trending the same, which is about 10 points. We continue through the back half.

Todd Slater

Meaning 10% more opportunistic?

Carol Meyrowitz

Right.

Ben Cammarata

Yes.

Carol Meyrowitz

Right.

Todd Slater

Okay.

Carol Meyrowitz

But in terms of the margin, you have to be careful here, because, we always talk about the two buckets and the two buckets are your off-price bucket and then what we do upfront, and we are working very hard to make a combination of what is upfront, very special, raising the bar. So, we try to balance on margin. I mean last year second quarter, we had very strong margins in Marmaxx. We went up against those strong margins. I think we feel pretty good where we are. So, I want to be very careful in saying that we are going to go after raising our markup. I think it's really about that combination of mix. And I think we're in a very good place to execute what we need to do. We are continuing on our cost cutting. We are very, very conscious of it. We are really being tight in terms of controlling every aspect and every penny that we spend, and as you can see we certainly put some of that towards marketing which we think is very important. We will continue on that mission, and we have some things in place in the back half that, they won't happen overnight but I think over the long haul we will see some positive things.

Todd Slater

In terms of either you getting back to the peak or surpassing peak margins?

Jeff Naylor

Yeah, I think over the last -- if you look over the last 4 years, this is Jeff, Todd, as you look over the last years, we've run 9% to 9.5%, recognizes about 50 basis point hit that came from stock options. So that's -- all those numbers are after the stock option expense. The guidance for the current year applies a 9%, a 9.0% margin for Marmaxx for the full year.

I think to do better, it's really a function of two things -- it's driving higher levels of comps. The breakeven comp level right now for us is about 2.5%, so to the extent we can drive higher levels of comps we will get flow through, and at the same time focus on cost. So, those are the two things we are focused on. To the extent that we can drive comps above that leverage point and reduce expenses, we can get the margins back up. But it really requires those two things. It's not -- a lot of specialty retailers you look at and they have a bad season and there is a high level of mark down and the bottom line margin bounces back very quickly. In our case, we've had really solid merchandise margins, there has been no issues there, so the growth has to come through comps and through continued focus on cost containment.

Ben Cammarata

Right. To address the comp issue for a second, which is something that we are all focused on, we'd certainly much prefer an above 2% to 3% performance. We have many, many initiatives that we are considering, some of which we're testing, some of which we've already embarked upon or will shortly. So, there is lots of activity here to try to drive comp sales which will in turn drive the operating margin. So, that's how it [thrusts], initiatives plus staying focused on execution and so far it's working and we're hopeful that it even gets better.

Todd Slater

Thanks a lot.

Ben Cammarata

Okay.

Operator

Our next question comes from Kimberly Greenberger. Your line is open.

Kimberly Greenberger

Great, thank you, and I will add my congratulations on a fine quarter as well.

Ben Cammarata

Thank you.

Kimberly Greenberger

Ben, I was wondering if you could talk about what are your comp expectations in A.J. Wright and how are you managing inventory relative to your comp plan, if you don't want to quantify it specifically? And then Carol, if you could just expand on how you see the category opportunity in kids, that would be helpful? Thanks.

Ben Cammarata

In terms of A.J. Wright comps, we normally don't--

Jeff Naylor

We are sort of out of the business. We will provide an overall model for the quarter. I think if you think sort of Kimberly, sort of just below a mid single digit would be roughly where we have got the business positioned right now; I think we can say that.

Ben Cammarata

Below mid single digit.

Jeff Naylor

Yes, just below mid single digit for the third and the fourth quarter.

Ben Cammarata

Okay.

Jeff Naylor

And, go ahead.

Ben Cammarata

Alright. No, I was just going to say in terms of the inventory, I mean the levels are generally similar to last year, there is not too much of a change there. We are battling a lower average ticket. I will tell you that and we are trying to find the solution to driving that average ticket up without scaring the customers off in terms of the average retail. But in terms of overall inventory levels we're practically similar to last year.

Jeff Naylor

[Stop to] mention, Ben, that is our most liquid business, because [of its size and single], it will be able to buy the closest to [inaudible].

Ben Cammarata

Yeah, they could move goods very, very quickly. So we are very nimble in that arena.

Kimberly Greenberger

Okay, Ben. So you are still battling the AUR challenge at A.J., but you have essentially fixed it at the Marmaxx division at this point?

Ben Cammarata

That's it. That's absolutely correctly.

Kimberly Greenberger

Okay. Thanks.

Operator

Our next question --.

Carol Meyrowitz

Kimberly, I'll answer your question on kids pretty quickly. Our basic business is very strong, on top, so we are really trying to focus again to get back to being real fashion and real excitement. We are also seeing huge opportunities in accessories and we have a couple of tests down the pipe that I have to be quiet on for now, but we will see what happens with them and we will let you know in the near future. Denim right now is a little bit slower, but we are starting to see it day-by-day getting slightly better.

Kimberly Greenberger

Thanks Carol.

Operator

Our next question comes from Brian Tunick. Your line is open.

Evren Kopelman

Hi. Its Evren Kopelman, Brian's associate for Brian. I had a question -- the strength in the operating margins at Winners and T.K and HomeGoods has been really impressive over the last few quarters. If you could talk a little bit about where you see the sales productivity and the operating margins going at those three divisions and what would be driving that margin growth going forward?

Ben Cammarata

One is T.K. Maxx and which other one did you say?

Evren Kopelman

HomeGoods.

Ben Cammarata

HomeGoods, I am sorry.

Jeff Naylor

One is T.K, and HomeGoods --.

Ben Cammarata

And HomeGoods. Do you want to give us --

Jeff Naylor

Yeah, I mean obviously at all those divisions we've seen strong comps over the last several quarters and that's helping drive this. As we look at the profit growth, it's really coming from a nice balance of merchandise margin improvement and expense leverage, and expense leverage is really coming from two places -- leverage on the -- as our comp gets north of 3%, we get natural leverage and then at the same time we've been taking costs out or containing costs. So, we are seeing a really, really nice balance in the growth of the profitability in those businesses.

In terms of, as we look forward, our guidance and our thinking on the margin potential of those businesses really hasn't changed. Winners just came off a quarter in which it put up, I think as Ben mentioned, its best margins in the last 6 years. We have very strong margins also forecast into Q3. What is helping Winners' margins is the performance of HomeSense and the base Winners business is a business that's actually a little bit higher than Marmaxx; it tends to be around 10% to 11% and at the same time we are seeing growth in the Winners margin.

So that's helping Winners and we think overall that's a business that's probably a 10% to 11% potential overtime and that's going to be pretty close to the low end of that this year. HomeGoods continues to make progress and T.K. continue to make progress. We didn't mention it in our prepared comments but the second quarter segment profit margin for T.K. was the best margin that we've had ever in the second quarter for T.K. Maxx. So we feel comfortable that those businesses are making solid progress towards their goal. Just to reiterate those, we would see in the case of T.K. the potential there being about 8% and in the case of HomeGoods, that margin potential being roughly around 8% as well.

Evren Kopelman

Thank you very much.

Jeff Naylor

You're very welcome.

Operator

Our next question comes from [Paul Ezroy] your line is open.

Paul Ezroy

Hey guys. [Paul Ezroy].

Ben Cammarata

Hey, Paul.

Paul Ezroy

Hi. Can you talk a little bit about -- little bit more about the 25 sportswear, better sportswear departments within T.J.? Is that T.J. Maxx, all T.J. Maxx, or with some Marshalls, as well?

Ben Cammarata

They are all T.J. Maxx.

Paul Ezroy

Right. So when….

Ben Cammarata

We are always looking to replace initiatives that run out on us and we think this is an opportunity to replace some of the jewelry and accessory initiatives. We are going to just test it in 25 stores. We are really excited about it. I am not really sure how many stores we will end up with in terms of availability of high-end designer goods, but we think there is a couple of 100 stores that might materialize for us. But, we are just going to test it early, I mean, we don't know what the markdown experience will be, but we hope to maybe end up with a few more by year end. We are opening our first 25 in September, and we are all excited about it.

Paul Ezroy

So, do you expect to feel to see the benefits immediately in September or is it more of an October timeframe?

Ben Cammarata

With 25 stores on the base of 700 and -- we're almost close to 800, I don't really expect a big impact, Paul, to be perfectly frank with you, not initially, but we are going to learn an awful lot from this test in terms of the infrequent shopper increasing their shopping frequency with us, as well as can we generate gross margins that are acceptable. I think it's an interesting test, it's an important test, but I don't see any immediate impact.

Paul Ezroy

Will there be any specific item or classification that is the focused product? And I am also wondering, how you plan on advertising within those stores?

Ben Cammarata

It's primarily sportswear, all categories of sportswear. There will be some accessories, there will be some dresses, handbags, etcetera, shoes, but primarily sportswear and the advertising will probably take the form of mailings, rather than ROP, television or radio, because of the fragmentation of the stores that we are opening or departments that we are opening.

Paul Ezroy

Got you. And just one other quick one. A.J. Wright last year, you had a strong fourth quarter, can you just remind us what drove that business and how do you plan on anniversarying, what you did in the fourth quarter that led to some success there?

Ben Cammarata

Yes. Well, two things come to mind, may be you guys can help me, but one thing was the toy business.

Carol Meyrowitz

Right.

Ben Cammarata

We had phenomenal toy business; and second, we had a promotion, an insert, a major insert just around Thanksgiving.

Jeff Naylor

Black Friday.

Ben Cammarata

That was what?

Jeff Naylor

I think, it was Black Friday.

Ben Cammarata

It was Black Friday; that was very, very strong for us. Those two come to mind. Anything else?.

Carol Meyrowitz

Yes. Paul, we are going to anniversary some of things we did last yea, obviously, we talk about raising it to a whole another level, so we are working on that. We have some other categories that we are going to be going after that we are seeing some really, really positive results, and we will be expanding those for fourth quarter also.

Paul Ezroy

Will you anniversary the same insert on Black Friday?

Carol Meyrowitz

Never the same.

Ben Cammarata

It's never the same [inaudible], but…

Carol Meyrowitz

New and more exciting.

Paul Ezroy

That sounds good, good luck.

Operator

Stacy Pak, your line is open.

Stacy Pak

Hi, thanks.

Ben Cammarata

Hi Stacy.

Stacy Pak

Couple of things, one is just on Winners. Doing over a 10% operating margin in Q2, can you just revisit that again? There wasn't -- was there anything unusual in there, because -- I mean, why wouldn't it be higher than that in Q3 and Q4 if those are higher sales volume quarters, unless there was something unusual? And then, can you also -- Carol, can you talk about the key opportunities for Marmaxx in fall, sort of, similar to the Wear Now opportunity they had in July and August, is there anything you want to speak to there? On the designer departments, will you stop at 25 or will you roll from there? And then finally, can you talk about the number of new brands you've added across Marmaxx in the last several months? Thanks.

Carol Meyrowitz

Okay, when …

Jeff Naylor

Okay, you take the Wear Now question, I will just chip in around here just to make sure you get all the numbers right.

Carol Meyrowitz

Okay. Let's see, Marmaxx. As Ben said before, Stacy, we probably have 15 to 20 types of things going on and we are always testing, but I think we are really excited about a number of things and a number of ideas that are on our plate. So I am really -- for competitive reasons, I am not going to go into complete detail on them. Ben talked about our best brands department, but along with that again we are raising the bar generally on our brands across the board. We feel very, very good about our on order in this category. So, we feel pretty good about the back half.

Some of the other things we are doing is we are introducing costume jewelry into Marshalls. We are, again, seeing very positive results there. I think, we have a lot of opportunity in soft homes, which has been a weak area. And then, I would just tell you generally in all the mixes, we are trying to be much more fashion right and we are focusing on that. And that is what comes back to pure execution, and that's what we are trying to do everyday. Our open-to-buy is in terrific shape. We've had good Decembers many years in a row, and I think we take that fourth quarter and we say, how can we make it better, and that's what we work on everyday and we are doing that.

In terms of number of brands, yeah, we have added many, many new brands. As I said before we have additional number of people that have been added to our California Buying office. There is a lot coming out of California. There is a lot of contemporary brands coming out of there, both in men's, kids, juniors and [Mrs.]. So, I think the numbers are certainly going to increase.

Ben Cammarata

Let me just interject just one second.

Carol Meyrowitz

Yeah.

Ben Cammarata

It's not only that we are adding brands, we are doing more business with a lot of the brands…

Carol Meyrowitz

Right, right.

Ben Cammarata

Which is I think is as significant…

Carol Meyrowitz

Right.

Ben Cammarata

As adding new brands …

Carol Meyrowitz

The key brands.

Ben Cammarata

The key brands, right.

Carol Meyrowitz

A very good point.

Stacy Pak

Great.

Jeff Naylor

In terms of the numbers, Stacy, when we had 10.4% pre-tax margin, I am sorry, segment profit margin at Winners in the second quarter, third quarter guidance right now is about 11.5 to 12. So, it is a higher level of margin that we would expect in the third quarter. In terms of the year-over-year comparisons, as I look at the second quarter, we had a segment profit margin improvement of 450 basis points. You know, piece of that is the comp of 6. Obviously, when you comp 6, you are driving improved expense leverage. And, in fact, of that 450 basis points, expenses represents about 200 points of it. We had about 100 basis point improvement in merchandise margins. Those comparisons candidly get a little bit tougher in the third quarter. Winners had a pretty strong merchandise margin last year in the third quarter. That was sequentially up in the second quarter last year.

There were really two one-time items, I would say. If I look, last year we had -- in the second quarter, we had some store closings. So, the year-over-year comparisons benefit by about 50 basis points, and the fact that we had some charges that we took for some store closings last year in the second quarter. The other piece is, we had a favorable impact from a mark-to-market on one of our inventory hedges, which was about 100 basis points. If you look at it in terms of stripping out some of the one-time stuff, it's about 300 to 350 basis points of improvement year-over-year, a big chunk of that from the high comp and another chunk from merchandise margins. As we move into the third quarter, we've got that 11.5 to 12, which is really in line with where our overall profit has been over the last four or five years, so --

Stacy Pak

Okay. And then just a follow-up, one more question on the corporate expense line, Jeff.

Jeff Naylor

Yeah.

Stacy Pak

Do you care to throw out just over whatever period of time, three years, whatever, how much -- what the possible basis point reduction is in that line?

Jeff Naylor

Yes. No, I really don't. I think for modeling purposes, we assumed inflationary growth. But, obviously, we are looking at ways to get some leverage there, but we haven't quantified that.

Stacy Pak

Okay. All right, thanks.

Ben Cammarata

Thank you, Stacy.

Operator

Our next question comes from Dana Telsey.

Dana Telsey

Good morning, everyone. Congratulations on an excellent quarter.

Ben Cammarata

Thanks, Dana.

Dana Telsey

And can you talk a little bit about, when you talked about fashion content and the improvement that we see in the fashion content, where are you in terms of where you want to be? Are you 50% underway there and how does it differ by brand? And lastly as you look at A.J. Wright, is there something that makes one type of store different than another and what are you seeing that makes one store whether its location, whether its size, whether its adjacencies, that makes one different than another? Thank you.

Ben Cammarata

Thank you. You want to answer this question?

Carol Meyrowitz

You know, what, Dana, I'll answer you by saying that you always seek to do better, so I could not even come near throwing out a percentage. I think there is always room for improvement and I think we keep working on that.

Ben Cammarata

In terms of A.J. Wright, we have a number of very good stores at A.J. Wright and it, sort of, falls through the cracks when we look at the overall performance, but we have a lot of its stores that are doing upwards of $6, $7, $8 million. The problem is we don't have enough of them and when we really get into the details and the study of these stores, which we do constantly, we are not -- what we do see is high density and urban or near-urban type stores being the best performers, but that isn't always the case, but it certainly is predominantly the case. So, we are still trying to find ways of identifying what separates a good store from a bad store, and until we do, we are probably not going to draw this chain at a great rate, Dana, till we identify what makes the model work. So, we are getting closer, we are doing a better job of servicing the urban customers, Hispanic, African, American etcetera, but we are still not there yet.

Dana Telsey

Thank you.

Ben Cammarata

Thank you.

Operator

Our next question comes from Margaret Mager.

Margaret Mager

Hi. I just wanted to ask you, Ben, about your comment on the consumer and that you are not seeing any skittishness. Is that a broad statement or is it there is a skittish consumer and that T.J. Maxx benefits from that? And then on your incremental marketing, your ability to raise the marketing spend, 17%, just wondering where those savings came from to fund that and what was the incremental spend on, like what are you doing within the marketing to shift things around or the strategy there? Thanks.

Ben Cammarata

Okay. Starting with the marketing question first, it's really coming from reducing costs. We have major initiatives going on throughout the company to find ways of reducing costs and putting those savings into marketing dollars and we did a pretty good job, I think, in the second quarter by increasing marketing by 17%. In terms of how we are spending it, it's primarily increasing media, our media spend. It's not really increasing our creative spend, it's really in the form of media, spending more media dollars, getting more exposure, more communication with the customer and we hope to continue that into the second half of the year. In terms of the skittish customer, I mean, you know, you read stuff, I mean, people are concerned about gas prices and everything else that's going on out there, terrorism and all of that. But certainly when we execute we don't seem to feel that there is skittishness out there. And I don't know if folks are trading down at this point as they have when we have had downturning economies, I am not sensing that yet, but if we did have a downturning economy, it does play favorably for us as we've experienced in the past, and I think it would continue to. But right now we don't feel what others may be preaching or expressing, not when we execute properly.

Margaret Mager

Do you see any inflation in your business that you would call out in wages, either at the retail associate level or at the professional level in your business. If you could just speak to inflation of any kind given that's a key concern in the fed?

Jeff Naylor

Yeah, we're not seeing wage inflation, that really has been -- that's sort of in line with plans and aligns with the historical experience with that, Margaret. I think the one area of inflation that we are experiencing is in the area of fuel and energy costs. So some of the cost reduction initiatives we have are helping to offset that. It's collectively, probably has about a 10 basis point impact on our merchandise margin, but we are finding ways to offset that. That's the only area I think of inflation. Medical continues to be inflationary, but again we're finding productivity elsewhere in our business to offset those and I suspect others are doing that as well.

Margaret Mager

Okay. And then on just a close loop on the marketing question, at the end -- for the full year you would expect it to be up about 15% to 20% range in terms of spend and what would that translate to for as a percentage of revenue?

Ben Cammarata

Yeah, I don't think we're in a position at this point to even know that and a lot of it is -- most of it is generated through cost-cutting procedures and implementations. So, until we discover those and learn what those are, it's tough to predict what it will be unless you have any other [procedure].

Jeff Naylor

I was just -- I am assuming year-to-date were up about 10 basis points, Margaret. I really can't -- we don't want to comment on the back half, but year-to-date it's 10 basis points and we're running, year-to-date in that [13 to 14] range.

Margaret Mager

Okay, I just --

Jeff Naylor

Historically we have been around [11 and 12], so we've kind of moved that up over the last year, year and a half.

Margaret Mager

Okay, good luck. Thanks.

Jeff Naylor

Okay, thank you.

Ben Cammarata

Thank you, Margaret.

Operator

Our next question comes from Marni Shapiro.

Marni Shapiro

Hi guys, congratulations on a great quarter.

Ben Cammarata

Thank you, Marni.

Marni Shapiro

Can you just talk about in hard home versus soft home, where does lighting and switching and tabletop fall, and have you increased the assortment of furnitures in those stores to sort of feed the hard home business? And then can you also talk about the marketing; which efforts have worked best for your guys? Was it direct mail or advertisements, I noticed you guys in front of may be the teen magazines and on television? If you could just talk a little bit more in depth about what you did and what you feel really worked?

Ben Cammarata

Let me take the marketing question first, and then I will hand the another one over to Carol. Marketing from my perspective is not -- you don't judge performance of an event as a way of determining that marketing is working because it will vary from time-to-time. Marketing has to be a complete approach, which includes television, mailings, ROP, magazines, radio etcetera. It's not a matter of saying, "Oh, radio isn't working, so let's cut it out or that ad didn't work, let's cut it out". You have got to be out there constantly communicating with the customer through various vehicles because of the major fragmentation today. When years ago, you would advertise on ABC, NBC, CBS and you would be done with it, today you have got to get them from so many different angles and that's how we are spending our money. We are spreading it. I mean, certainly there are certain events that we know through analysis that ROP may work better for this event versus radio but generally speaking we are spending it on all cylinders, Marni.

Marni Shapiro

Okay. Good.

Ben Cammarata

In terms of hard home versus soft, Carol?

Carol Meyrowitz

Marni, all those categories, they are basically in hard home and they are all pretty strong categories for us.

Marni Shapiro

Have you guys built up the furniture assortment, I feel like the stores have had a lot of --

Carol Meyrowitz

Yes. Small furniture, accent furniture, we haven't expanded. Yes.

Marni Shapiro

Great. Thanks guys. Good luck [inaudible].

Ben Cammarata

Thank you.

Operator

David Mann, you may ask your question.

David Mann

Yes. Thank you very much. My question goes back to the A.J. Wright metrics, you talked about what some of the better stores were doing? Can you just give us a sense on what the sales productivity would be on some of your weaker stores and how many of those would be losing money on an overall basis?

Ben Cammarata

Well, I am not sure how many are losing money overall.

Carol Meyrowitz

Very few--

Ben Cammarata

Yes, right.

Jeff Naylor

Very, very few. Dave, it's not an issue of them losing money, it's not generating --

Ben Cammarata

Not generating --

Jeff Naylor

The contribution margins.

Ben Cammarata

Right.

Jeff Naylor

I mean, we really look for A.J. to be in -- it needs to be sort of mid-teens contribution margin to support the model. We have a large chunk of stores that are actually at that level and then we have many that aren't -- generally if a store opens 4 to 4.5 and grows to about $6 million store it's generally a good store for us. If it is 3.5 or even less to 4 and it grows to 5, it's a tougher store for us. So, we have identified some of the factors that has been -- has been mentioned here. We've looked at the -- you look at sort of tranches of stores from best performing to worst performing, you can find some general things, about ethnicity, about urban, about income levels, etcetera. But, there is lots of exception within each of those bands. So, there is really no clear answer that this is absolutely the formula in terms of demography, density and income level that works.

In terms of -- there is a pretty widespread -- A.J. Wright stores are going to average, I am just double checking as they talk here, about 25,000 square feet selling, I believe. I'll quickly check that. Yes, it's going to average about 25 -- I am sorry, about 25,000 gross and about 20 at sale. The average right now for the chain runs about $225 to $230, you can do your own math, and as Ben mentioned we have had stores that are 7-$8 million, and we have also got some stores that are 2.5 to 3, so --

David Mann

Okay. And then, in terms of the skittishness of the customer, can you drill down on the A.J. Wright customer? Are you seeing something harsh in that customer, the deterioration, if you will, that is different than we are seeing at Marmaxx?

Ben Cammarata

It's really -- I don't want to avoid answering your question, but the answer is, we don't know. I mean, it really depends on how we execute it seems. When we are executing the events well, we are doing business. I mean, one would guess based on the income level, the average income of our A.J. Wright customer that they are effected by energy prices and gas prices, but some months are up and some months are down. It's very inconsistent and very difficult for us at this point to believe that their customer is skittish and not shopping. We just have to execute better and we have to identify the right demographic profile for our customer better and we've got to find ways of leveraging advertising better, and until we do that, we are going to struggle.

David Mann

Thank you.

Operator

[John Morris], you may ask your question.

John Morris

Thanks, good afternoon guys now. So, Jeff, quick question regarding the SG&A expense line. Look like you came in a little bit better than we would have expected, and you guys mentioned in your prepared remarks, cost management. Can you just elaborate on that a little bit more, and the implications go forward? And then, Ben, just a quick follow-up on A.J. Wright in much the same way you have talked about Bob's time sensitivity, do you think to make a decision or making a decision by the end of the year, you have the same kind of sensitivity, when you look at A.J. Wright? Thanks.

Jeff Naylor

On cost reduction, I mean, we really started in the fourth quarter of last year and, John, in terms of how we set the plans for this year. And generally what we did is, as a planning philosophy, is we asked the divisions to plan to a lower comp than they might otherwise have, looked at a similar profit target, really kind of put, from a planning standpoint, the onus on the divisions to look to ways to reduce costs. I mean, obviously, the biggest and most visible thing we did was the reduction in force. But, there is a lot of [fund] singles out there, what I refer to as [fund] singles worth of $1 million here, 2 million there that add up to a significant amount of money across the corporation. We are seeing that across all aspects of our business. We see it in the distribution centers, we see it in the stores, we see it in our home offices and our corporate overhead functions.

So, it's really been spread out. We have some a specific focus in-house. Carol has a meeting weekly with all the presidents and the group had some senior people in. And one of the things we talk about every week is, cost reduction and we continue to look at new opportunities. So, it's hard for me to quantify for the back half or for next year, because that's something that we have to continue to look at and continue to look for areas, the more you find, the harder it gets to find new -- harder it becomes to find new areas. But, we continue to work on it, and we think it's an important part of the model going forward. But, at this point, very, very much a work in process, and I think one of which you are never really done.

Ben Cammarata

Regarding the A.J. Wright question. First of all, I'd like to reiterate that the business is cash flow positive. So, we start on that premise. We have a lot of work going on, on organizational development. We're spending lots of time on getting the right people into the right positions. We're seeing some positives in terms of merchandising or merchandise performance. Our junior plus business, for instance, is very strong and there is others. We are testing lots of new marketing ideas, tests are going on constantly. We are really trying to improve our performance in the diverse marketplaces, lots of stuff going on. So, to give you a simple answer to your question is not easy. We are going to need at least this year and next year to make a determine on A.J. Wright. I mean, you might see some changes on an interim basis in terms of the direction that we take with the business. I mean, that's certainly a possibility, but I still believe that A.J. Wright is -- we can develop an A.J. Wright model that works for us, we just have to do a better job of identifying it.

John Morris

Thanks, Ben. Thanks.

Ben Cammarata

You are welcome. We are going to take one more question.

Operator

Our last question for today's call is David Glick.

David Glick

Good afternoon and congratulations to everyone.

Ben Cammarata

Thanks.

David Glick

I was just wondering quickly you could clarify why the level of higher comp guidance for September and October, is that just a function of easier comparisons or are there marketing and merchandise related opportunities in September and October that at least would be more optimistic relative to August?

Ben Cammarata

Yes and yes.

Jeff Naylor

Yes, if you look at the -- I will talk to the comparisons. I think if you look, the comparisons of last year August was at 2, September was flat and October was minus 2. These fell -- I think that's why when you look at our guidance, we have strongest comps in October and the weakest comps in August. It's really a function of the comparisons. And, if you do the math, kind of, on the two-year comps, it's pretty flat on two-year basis.

Ben Cammarata

And in addition, we do have lots of initiatives going on, some tested, some in final form. So, the answer really is, yes to both questions, David.

David Glick

Okay, terrific. Thanks a lot and congrats.

Ben Cammarata

Thank you all. We appreciate your time and we look forward to chatting with you again soon. Bye, bye.

Operator

Ladies and gentlemen, that concludes your conference call for today. You may all disconnect. Thank you for your participation.

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Source: The TJX Companies Q2 2007 Earnings Conference Call Transcript (TJX).