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Hot Topic Inc. (NASDAQ:HOTT)

Q2 2009 Earnings Call

August 19, 2009; 04:30 pm ET

Executives

Betsy McLaughlin - Chief Executive Officer

Jim McGinty - Chief Financial Officer

Jerry Cook - Chief Operating Officer

Chris Daniel - President - Torrid

Analysts

Jeff Klinefelter - Piper Jaffray

Janet Kloppenburg - JJK Research

Adrienne Tennant - FBR

Jennifer Black - Jennifer Black & Associates

David Berman - Berman Capital

Kimberly Greenberger - Citigroup

Dana Telsey - Telsey Advisory Group

Holly Guthrie - Boenning & Scattergood

Sharon Zackfia - William Blair

Jeff Van Sinderen - B. Riley

Operator

Good afternoon, ladies and gentlemen and welcome to the Hot Topic second quarter 2009 earnings release conference call. At this time all participants have been placed on a listen-only mode and the floor will be open for your questions following the presentation. This call will be limited to one hour.

Before we begin, I would like to remind you that during the course of the conference call the company will be making certain forward-looking statements, such as statements relating to financial results, guidance and future financial performance, merchandise assortment, new initiatives and related matters and statements relating to key personnel and operational issues.

These statements as well as related information posted on the Hot Topics Investor Relations website involve risks and uncertainties that may cause actual results to differ materially from those projected in the forward-looking statements. These risks and uncertainties are discussed from time-to-time by the company and are more fully set forth in the periodic reports that Hot Topic files with the Securities and Exchange Commission including the most recent Annual Report on From 10-K and Quarterly Report on Form 10-Q.

All forward-looking statements made on this call speak only as of the time they are made and Hot Topics undertakes no obligation to update these statements to reflect subsequent events or circumstances. To more effectively disseminate the information discussed this afternoon, this call is being webcast on the company’s Investor Relations website at http://investorrelations.hottopic.com and a replay will be available on that site. The telephone number is 888-286-8010 and the passcode is 16121790 for approximately two weeks.

Now I’ll turn the call over to Hot Topic’s Chief Financial Officer, Jim McGinty. Please proceed.

Jim McGinty

This is Jim and welcome to the call. While on hold you’ve been listening to Panic Switch from Silversun Pickups. My partners on the call today are Betsy McLaughlin; Jerry Cook; and Chris Daniel. For competitive reasons, we will not be discussing any specific forward-looking product information during this call.

I will begin by discussing the second quarter results and then comment on the balance sheet and cash flow. Following these details, I will turn it over to Betsy, who’ll provide you with additional color on the quarter followed by third quarter guidance.

First, results from the second quarter, all comparisons discussed are to the same period from a year ago unless otherwise noted. Overall, total company net sales during the quarter decreased $9 million due to an $8.7 million sales reduction related to the Hot Topic comparable store sales decline of 7.5%, a $2.7 million sales reduction related to the Torrid comparable stores sales decline of 8.4% or $1.5 million sales reduction from closed stores, a $200,000 sales gain from new and non-comparable Hot Topic stores and $900,000 sales gain from new and non-comparable Torrid stores and a $2.8 million increased in internet sales.

For the quarter, the total company comp decline was the result of 4% decrease in the consolidated average transactions value and a 4% decrease in the average number of transactions in comparable stores. At Hot Topic, apparel was 54% of the total sales in the second quarter versus 59% last year. At Torrid, apparel was 79% of the sales in the second quarter compared to 82% last year.

Gross margin was 31.5% of sales compared to 33.3% last year. The 180 basis point decrease breaks down into the following categories. Merchandise margin declined 80 basis points due to higher mark downs partially offset by higher realized markup. Store occupancy expenses increased 50 basis points due to deleverging store costs over a lower comparable store sales base.

Store depreciation expenses increased 30 basis points due to deleverging from lower comparable store sales. Distribution cost and buying cost increased by 20 basis points due to deleverging of higher depreciation and payroll cost over the lower comparable store sales.

In the second quarter selling, general and administration expenses were 34.9% of net sales compared to 34.0% last year. SG&A expenses in the second quarter of fiscal 2009 include approximately $400,000 in charges associated with store impairment and asset write-off. Impairment in the second quarter a year ago was approximately $200,000. Excluding these charges for both this year and last, SG&A expenses were $1.8 million lower though 80 basis points higher as a result of the deleverage in the lower sales volume.

This breaks down into the following categories. Store payroll dollars decreased compared to last year, but increased 80 basis points due to deleveraging of lower comparable store sales partially offset by lower store performance based bonuses. Other store expenses increased 30 basis points due to deleveraging on lower comparable store sales and higher repairs and maintenance partially offset by a decrease in store supply costs.

Other G&A declined 10 basis points due to decrease and non-store performance based bonuses. In addition lower depreciation in computer and software was offset by an increase in marketing as a percentage of sales. Preopening expenses declined 20 basis points as a result of fewer new, relocated and remodeled stores as well as the pre-launch expenses for ShockHound last year.

For the second quarter, the resulting operating loss was $5.2 million versus the loss of $740,000 last year. Our effective tax rate was 39.4% for the second quarter versus 39.3% a year ago. During the quarter we opened one new Torrid store and closed three Torrid stores. We also relocated five Hot Topic stores during the quarter.

Cash, cash equivalents and short term investments were $82 million. We had $5 million long term investments of which $3 million of AAA rated auction rate securities. $6.4 million of auction rate securities were redeemed at par in the second quarter. Total inventory of cost was just over $90 million. On a per square foot basis, inventory was flat at the end of the second quarter compared to last year.

Excluding our websites for both this year and year ago, inventory was down 3% on a per square foot basis. Capital expenditures were $7.9 million in the quarter primarily related to various IT infrastructure projects for stores and websites, five Hot Topic relocation and one Torrid new store, as well as the additional stores scheduled to be opened, remodeled to relocated in the third quarter of 2009.

Now, I’ll turn the call over to Betsy.

Betsy McLaughlin

Thanks Jim. I’ll begin with comments on the second quarter. At Hot Topic, we experienced a 7.5% decline in the comp sales. The average number of transactions per store per day was down approximately 4%, but the remainder of the decline coming from a lower average transaction amount. We knew at the start of ‘09 that due to the weak line up of music and licensing catalyst and the back-to-school calendar, the months of June and July and therefore the full second will be challenging.

We did not however, anticipate the sharp deceleration of traffic and the corresponding continents across all categories and geographies as we move to the quarter. Hottopic.com however, achieved a 34% increase in sales. A result of higher traffic and improved conversion, these results also represent a deceleration from the first quarter. Geographically, all regions were down for the second quarter. The Midwest and Mid Atlantic regions posted the best performances, while the northwest and southeast were the weakest.

Here are the details of the Hot Topics comps by major category. Our best performing category men’s declined by 2%. Both men’s novelty tees and men’s bottoms were close to flat, but men’s fashion tops declined in a low double digit. Accessories was down 3%, fashion accessories was down in the high single digits, partially offset by license accessories that produced double digit positive comps.

Music, which includes both music apparel and CDs, comps down 9%. In music, we were most surprised by the disappointing traffic and volume in May generated from three major releases, Green Day, M&M and Marilyn Manson

Women’s was down 16% for the quarter. The falloff in brightly color denim was the most significant reason for the decline. Throughout the quarter, we continued our efforts to offer live in store music events. The average store hosted six live performances during the quarter. We also hosted 55 center core performances for those bands whose fan draw was larger than could be accommodated in a store. We believe in a power of live music to drive traffic and offer a unique in store experience. Monetizing that traffic is a focus as we further evolve the program.

The Hot Topic division ended the quarter with in store inventory, which excludes the dot com, down approximately 3%, versus the 5% increase in inventory with which we began the quarter. Receipts were down 9% of cost, and good news aged inventory at quarter end was 26% lower than a year ago.

During the back half of this year, we expect to launch our customer loyalty program at Hot Topic. While we have had a manual frequent buyer punch card in place for many years, we have lack the technology to gather selling data on our frequent customers and market to their individual preferences. Talking to each customer directly about what they believe to be important presents a great opportunity for us inform, engage and connect.

At ShockHound, we’ve remained focused on driving traffic to the site. During the quarter, we successfully partnered with MySpace to offer exclusive tees for a test group of artists. During the back half, we will work on the further development of this program along with establishing additional partnerships with high traffic sites.

Torrid was down 8.4% comps for the quarter. The comp decline was due to a high single digit decrease in transaction and a low single digit decrease in the average transaction amount. Torrid.com continued to product consistent sales gains generating a 22% increase over our live.

By category, apparel comp down 11% and the accessories classification comp up 2%. The Torrid division also generated a record high second quarter merchandize margin rate. The improved rate was due to higher initial markup and lower shrinkage. Also during the quarter, we opened an additional 11,000 credit card accounts that generated average purchases that were 68% higher than the average Torrid purchase.

Including in today’s press release, is our initial public guidance for the third quarter. On a consolidated basis, August month-to-date comps are down between 7% and 8%. Hot Topic is running down 8% comp. Both the later Labor Day and the shift to sales tax events in many states have contributed to these results.

Torrid is lesser affect back-to-school and has seen a slight trend improvement with their August month-to-date comp at down 4%. On a consolidated basis, until we see a true apples-to-apples comparison, we believe it’s prudent to assume that our underlying comp trend remains down a mid single digit. Our initial guidance for Q3 reflects the sales assumptions.

Also presenting a challenge in the third quarter is our anniversary of the launch of Twilight. Products from New Moon is the second movie in the Twilight series, is scheduled to land in stores in early October, two months later than last year. We very much believe in the strength of New Moon, but are also realistic in our sales forecast given the later start and the wider distribution of product.

One piece of good news for the third quarter is the Halloween falls on a Saturday, this year. The calendar affords our customers two party opportunity, which should affect our Halloween sales positive. All-in-all we remain cautious, 17 days into the quarter with shift between weeks and months. It’s difficult to gauge where the quarter’s business will finally shakeout. We’ll continue to control inventories and expenses and look to position ourselves as a destination seeking both internal and external catalyst to drive traffic across all three concepts.

Now back to Jim, with some additional information on the third quarter.

Jim McGinty

Based on our current expectations, we’re issuing the following guidance for the third quarter of 2009 ending October 31, 2009. The range of total sales for the third quarter is $188 million to $193 million based on a mid single digit comp decline. As discussed in our press release, we expect to incur additional cost approximately $0.02 per share for expenses related to ShockHound.

A year ago in Q3, ShockHound reduced earnings per share by approximately a penny. This translates into third quarter earnings in the range of $0.11 to $0.13 per diluted share. Including in the guidance is an assumed share count of approximately $45 million. Inventory at the end of the third quarter is expect it to be flat and down in the low single digit range on a per square foot basis. We anticipate opening one Hot Topic store and remodeling and relocating five to 10 Hot Topic stores during the quarter.

At this time, we will take questions relating to the results and outlook. Please hold while we contact the conference operator, who will give you further instructions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Jeff Klinefelter - Piper Jaffray

Jeff Klinefelter - Piper Jaffray

Betsy, as you were talking about a Hot Topic among today comps are down eight. The months can you share again that how you expect the shift the benefit of the month? The begin of the month should have started off little bit better, then you’ll miss some towards the end with the Labor Day shift out is that the right way to interpret it.

Betsy McLaughlin

Actually, I’ll let Jim do it, because he’s done a lot of work on the calendar.

Jim McGinty

At the very beginning end of the first week there was a little bit of a benefit from those states that would have had a year ago tax free period in the last week of July, and then followed by that, we had Texas in the second week one of the biggest states that shifted to the end of the third week, of course the weekend coming up.

In addition to that, the fourth week of the month now which really is like the third week a year ago will benefit just because it’s naturally a higher volume week. So, we expect that from here forward there to be a little bit benefit to those current numbers.

Jeff Klinefelter - Piper Jaffray

So that the actual Labor Day push us some volume in to fiscal September, correct?

Jim McGinty

Absolutely

Jeff Klinefelter - Piper Jaffray

Then Betsy in term of the new moon product to this landing a couple of months later, but I’m sure you’ve given a lot of thought obviously to how these assortment are going to impact your sales, can you give us a sense for the breadth, depth of product comparing to the new moon to the twilight launch do you have any sense for that the type of distribution that you are going to be facing in terms of competitive pressure anyway that we can get our arms around what sort of a potential impact it will have to your sales.

Betsy McLaughlin

Yes I think that the as far as our own assortment is concerned the apparel breadth is fairly similar to last year. Accessories we did not bring in until very late in the third quarter. So we will have accessories at the launch this time around versus flowing it in after the apparel and the last year we were still waiting to see how the apparel was going to do.

In that sense we actually I think will go out as soon as with our initial presentation with a stronger presentation of product. The difference between this year and last year is that we were pretty much on your own last year as far as carrying twilight in most of the other retailers and many consumers did not catch onto the twilight craze until we moved through certainly the movie and then peeking at the DVD release as well.

So, I think some has done a fairly good job in differentiating product and working with the license fees to do that. However, there will be other retailers that are carrying product, it maybe differentiated. I think we are foolish to think it isn’t going to take some piece of our business given we were the only game in town of last year along with boarders who had completely separate product, but I think we are trying to be conservative about whether we are going to be able to better last year’s numbers.

In my head, I’m looking at it and saying listen I think that when we look at new moon versus twilight we should be able to do the same amount of business I just don’t know what is going to happen as we move through the end of the Q3 and into Q4, but right now for the initial launch, we are positioned as best as I think we can position yourselves.

Jeff Klinefelter - Piper Jaffray

Just to clarify did you say California as a geography for you had improved here in the last month or two?

Betsy McLaughlin

We did not mention the Southwest at all.

Jim McGinty

More or less fall into the middle of the region.

Betsy McLaughlin

We have not seen an improvement or decline in the Southwest. It stayed fairly neutral to where it was.

Operator

Your next question comes from Janet Kloppenburg - JJK Research.

Janet Kloppenburg - JJK Research

The gross margin Jim was a little better than I expected it to be and I’m wondering if you could talk about the merchandise margin trends and if you’re accessing better cost on product, I’m helping you to avoid some markdown pressure or what exactly is going on there and if we could look for that to continue.

Betsy, if you could talk a little bit about the New Moon product that’s coming in, and the strength of the line that’s coming in and sort of your assessment of whether or not the second time around can be a stronger or perhaps less strong than it was last year? Thanks.

Jim McGinty

As far as your margin questions go…

Janet Kloppenburg - JJK Research

It’s a merchandise margin I’m talking abut not the gross margin results.

Jim McGinty

Okay.

Betsy McLaughlin

The merchandise margin was better than I expected it to be.

Jim McGinty

The merchandise margin of course was down.

Betsy McLaughlin

80 basis points.

Jim McGinty

80 basis points and a substantial part of that is, because we are getting a better markup on our goods both at Hot Topic and Torrid. In fact, Torrid had the highest realized markup that we’ve been able to achieve for a quarterly period.

So we’re pleased with that and some of the costing that we’re getting. I believe that the markup will continue to trend above last year for the remainder of the year. Of course, a lot of that will depend on some continuation of how accessories performs, because as accessories increases or decreases is an element of the mix, so goes the realized mark up.

Janet Kloppenburg - JJK Research

Are you comfortable within the in-store inventories right now in terms of content i.e., markdown levels versus was in last year?

Jim McGinty

In terms of the overall inventory levels on markdowns, yes we are comfortable.

Janet Kloppenburg - JJK Research

Cleaner than last year, how are they?

Jim McGinty

Yes, in fact, I think when Betsy called out the change from the end of the first quarter, which was up 5%, in total, to end of the second quarter down 3% that represented really significant swing particularly in light of the fact that sales were down between 7% and 8%.

Betsy McLaughlin

That’s why we also actually called out the aging, decline in aging as well. Just to get perspective that the inventory shifts or the reduction in inventory is not, because we’re holding on to old goods.

As far as Twilight is concerns, I think the line is pretty good. I think that everybody learned from last year what the product is that sells, what it is with that particular customer wants. There is great interest in Jacob who is the other guy, with the guy in Twilight, Jacob is the guy in New Moon. We’re starting to see that ramp up quite a bit. So I think we’re very encouraged by certainly the buzz that’s happen about New Moon.

I also see that just historically the second movie of a series is always stronger than the first. The third and the fourth, not so good, but I think that a lot of teens and their mothers didn’t catch the Twilight fever until very late in the season. Perhaps they caught it either right before the movie came out or they caught it after the movie came out when the press was going crazy about it. So, I actually think more people are keyed up to jump on this at the very beginning and then throughout the season. So I feel good about that.

Janet Kloppenburg - JJK Research

What about the music category, Betsy. Is there any prospect for that to improve as we move through the back half?

Betsy McLaughlin

I hope so. Music has been tough and we’ve certainly have made some inroads in widening this on roads there has been some success there. We rotated the assortment to include more of the mid-tier bands instead of the larger bands.

I think, we finally after the Green Day MM, Marilyn Manson disappointment, we said it multiple times, how low could it really go on these major releases it can go pretty low. I think we do understand that. I don’t know, we’ll have to see how it easily move to the quarter. I do know that there’s a lot of excitement with music.

I know that it’s a great catalyst for getting people in the door from a performance standpoint. So, I mean I wish I could give you a little bit more clarity, but I think that the other thing that’s partly worth mentioning is that, we do a Rock Tee promo every year. We did it in August this year and early part of August it has very, very good reception to Rock Tees.

So it’s not as if the category is not working, I just think there’s been a slowness and there hasn’t been a well reason for them to buy music tee shirts. I mean, still worth about 25% of our business, so it’s important to us, but that’s about all I can offer at this point.

Operator

Your next question comes from Adrienne Tennant - FBR.

Adrienne Tennant - FBR

Can you talk about the anniversary of twilight tour and what you have lined up there should we expect to see a similar type of kind of nationwide tour of this year?

Betsy McLaughlin

We’re working on that right now. We don’t have anything to announce, but obviously the caste will be out on the road they will be doing it internationally this year as well, last year was really domestic, but this is an international phenomenon, now so it will be split between both domestic tour dates and international tour dates. So, right now we’re in the process of figuring out that calendar, how we are going to play there and we certainly hope to be major part of what ever have to see in the U.S.

Adrienne Tennant - FBR

Can you remind us which month it was the second week in November last year.

Betsy McLaughlin

Yes, it was November.

Adrienne Tennant - FBR

As we get in to Halloween, because this calendar only comes up once every six years or so, on that Saturday, is there any kind of special marketing or extra marketing dollars, how much more are you investing in Halloween merchandise and are you setting it earlier, changes to that affect?

Betsy McLaughlin

I think actually it was 11 years ago that Halloween fell on a Saturday, which is more than two thirds of the life of most of our customers. They were five and six years old dressing as fairy princesses and pirates. We don’t have any comparison, and actually a 11 years ago at Hot Topic Halloween wasn’t as big as it was certainly grown over the past decade some were nearly working with new assurance.

Adrienne Tennant - FBR

How do we think about that I think that when ever there is an opportunity for a extra party, that’s a good thing for us.

Betsy McLaughlin

As I said, in my earlier comments, this gives customers the ability to dress on Friday night and Saturday night. Now will that mean by one costume and it twice or two costumes, that name to be seem, but we do Halloween we know it is a huge party event.

As far as plan is concerned we are not going to set earlier this year. We feel very strongly about new moon, and obviously that will have priority in our stores for the initial part of October. We have found that even when Halloween as move from a Wednesday to Thursday or Thursday to Friday, some compacted the sales during that last week it does not be us to set Halloween earlier on the floors. There is no change to our Halloween calendar.

Adrienne Tennant - FBR

Do you think that the assortment is positioned better this year?

Betsy McLaughlin

I think big merchants done a very good job crafting it and making sure that separates and packaged goods have the right mix, that we got some new of the moment types of costumes I think that will be good, but other than that I think we are just looking for the incremental sales and always end Halloween with having to liquidate on the Sunday and Monday afterwards. So, I think we have a higher sell through and probably turn the merchandise better more so than increasing promotions.

Adrienne Tennant - FBR

My last question is for the third quarter, are there any in the pipeline of new licenses I know Alice in Wonderland is pretty key one for the back half or primed through the fourth quarter, but anything else that we should be thinking about as being a key driver that incremental to last year.

Betsy McLaughlin

Yes. We are not going to mention it on the call. We are not going to mention any forward licensing at all, because we just, there are a couple of things that are doubling up that look like they could be very interesting for us but we prefer that our competitors don’t get news of it yet.

Adrienne Tennant - FBR

Any impact or are you doing research on phase 21?

Betsy McLaughlin

They’ve been rolling it out I think a little bit faster than earlier anticipated the plus size that they are doing.

Chris Daniel

Absolutely, we’ve been tracking performance since they opened in stores where we share the retail playing field. It’s too soon to tell what the impact is going to be. Our position has been anything that brings more fashion is not always a bad thing, so we will see what happens.

Operator

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

Jennifer Black - Jennifer Black & Associates

My first is on Torrid, I wondered if that show more the less has had an impact on Torrid business and if you have any connection with this, it seems like it’s been on the spotlight as of rate and if there’s a lot of fashion and if you don’t, do you have future plans and then also relating to the show to dance-off as of which received high ratings.

Jim McGinty

It shows specifically about plus size customers are tricky, because we don’t know until the show airs exactly, how the customer is going to be portrayed, what the point of the view of the show is. I will tell you that on more to live, I watched it last night and there’s lots of great Torrid fashion on that show. I mean it was a hit parade of all our best sellers.

So I would say we are interested in what’s going on in the show. We’re very interested in the girls that are on it. Some of are Torrid customers that we know quite well as Torrid customers. So we’ll see what happens with that. In terms of dance-off, although I think it’s too soon to make the call on that one. We’re not necessarily making the connection between that and fashion and Torrid fashion brands.

Jennifer Black - Jennifer Black & Associates

My next question is, I saw you sent of tree today about the preordering of New Moon, the soundtrack that comes out October 13, and I wondered if you had events planned around the soundtrack release as well as the DVD down the road.

Betsy McLaughlin

We do have plans to support the soundtrack release. I don’t want to give you specifics, but yes we do and we will also have plans in the Q1 to support the New Moon to DVD release.

Jennifer Black - Jennifer Black & Associates

I just have one last one and that is, I know you’re using Twitter and Facebook. I just wondered what kind of plans you have to make these venues extremely interactive, seems like that would be very beneficial to take.

Betsy McLaughlin

I think across the company, I mean all three concepts are actively using Facebook, MySpace, Twitter, as well as blogs, and user sites, and wherever we can get our hands in to where the customer is reading especially if it’s specialized it seems to work well. So I mean we will amp up, we are certainly developing some good followers and set a fan base is growing everyday across all three concepts.

We are constantly testing to see what kinds of things, what kinds messages are important to getting consumers in the store or can it drive them to the website or what kind of reaction, what kind of discount, is it discount or is it just knowledge oriented, but we are in the process of veraciously going after any kind of social networking marketing.

Operator

Your next question comes from David Berman - Berman Capital.

David Berman - Berman Capital

Just two questions, the first one is just currency related, which is on your accounts payable was down about 30%, and inglasies were obviously they were flattish down 1%. So that kind of just tells me that lower inventory that you having there was bullish few months ago. So just even you answered the question about the project inventory, I just wondering if you could explain the script and aging of it.

The second question has to do with your buyers, which is obviously a critical part of your business, more than most because you have to keep up the lady’s trends. One of the things that must impressed us many years ago, when we kind of see you was that Bose, or young, enthusiastic and as time goes on they’re not see young anymore, unfortunately like me we aged and I’m just wondering how you go with that from the buying point of view internally to keep them young inspired excite, so that the buying, your business is sort of keeping on track with expectations.

Betsy McLaughlin

David, I’ll take the balance sheet question first and you answered part of it, but in terms of the lower payables relative to last year, that as you said is because of timing of inventory receipts was lower in the latter part of the second quarter, we’re in that 30 in terms of their vendors.

I think your follow-up was how do you reconcile that with lower aging, there’s two sides to the inventory and the quality of it and aging is something that we consider to be goods we haven’t had receipts on for the last six months. So now it’s aged out and whereas freshness or currency of inventory would be something that we would receive within the last couple of months, so obviously the aging piece we would got a good handle on.

We wanted to manage inventories tightly in the second quarter, we knew sales trends were down and thus a part of that is the flow of inventory when we cut that back prudently as we went through the second quarter.

Jim McGinty

Even though some of it or a lot of it was board more than a month ago you’re say three days ago you’re seeing it’s still very current and it’s nothing to worry about that.

Betsy McLaughlin

Interesting question, Dave, somebody just asked me this just about a month ago. So on the average age of our buyers and interestingly and also it’s actually down from where it was.

David Berman - Berman Capital

Is that right?

Betsy McLaughlin

Yes. Although maybe I was the one who brought the age up. I wasn’t a buyer so it doesn’t count. Actually, we are positioned quite well and I think that it’s important to understand that and this has been the case all the way back through the late ‘90s and early 2000s, that it’s not just the buyers it’s the associate buyers and the assistant buyers, because buyers get their information from a lot of different places. They absolutely have to be out in the scene and they do that now as they did 10 years ago, but a lot of the new ideas come from the younger assistant buyers.

David Berman - Berman Capital

How have you dealt with the career path of those people? I mean, there has been a lot of turnover? Where do they go? I mean you have done so many buyers you meet than the assistant buyers. How do you keep that going?

Betsy McLaughlin

I think with your career path everybody appropriately, there is lots of movement that can happen. We’ve also had Torrid and we’ve had some buyers move from assistant buyers, or buyers move from Hot Topic to Torrid. We had some opportunities in ShockHound and we’d had some movement there, but we have not seen any issue. I mean, we have lots of new buyers coming in, we have some of them as they get into their late-20s and early-30s, decide that they want to do something else other than retail.

So I mean, we have some turnover, but for the most part, I think that the career path is actually easier on the buying side, because you can see your career path we also have P&A. There is a career path into planning and allocation or out of planning and allocation into buying. Pretty healthy development program where there is opportunities for the buying staff to further their career.

David Berman - Berman Capital

How much of a better job do you think you do on the buying side, because that’s so important with you guys?

Betsy McLaughlin

I think there are areas that could use improvement and there are some areas that I think are going full speed ahead. I mean, every year is a new year, and we do have some newly promoted people and there are mistakes that get made. They will learn from that and be better in the future.

So you can always be better, I mean buying is the easy target, because you can always stay well, say sales are down in this area. Therefore, let’s look at the merchandising staff, but I think like I said, I think there are some areas that do very well and some that still need to learn, but that’s all part of the process.

Some of the areas that are having a tough time, it’s the same people who were there a year ago. I’ll say you don’t turn dumb or smart overnight. So if you’re keeping with it in understanding what the current [Inaudible] and understanding how to react.

David Berman - Berman Capital

Can I sneak in a quick one, when you look at numbers for August, versus July and even before that, you really should be doing better than mid single-digits down for the July, or for the quarter, I’m wondering, if I may have missed it in the conference call, no I don’t want to be short term thinking how is August going, but why do you so conservative in this quarter compared to the run rate before?

Betsy McLaughlin

I think our rate during the second quarter, if you take out that last week of July, was about down five for Hot Topic. I think that until we see some proof that it’s changed from that, we’re just not willing to step out. Like I said, I think I said it in my comments, and we were 17 days into the quarter, we have all these shifts that were happening, the media is going nuts with there.

This is the worst back-to-school in history. People are holding back from buying, and then we just don’t know. Rather than go out and say, okay we think things were going to get substantially better, and here is the sales and here is the guidance, we felt that better to say here is where we stand now. We’re going to assume that’s the way it stays, if it improves through the quarter we’ll let you know.

David Berman - Berman Capital

Its impressive guidance given the low comp expectation, I think.

Betsy McLaughlin

We worked hard. I mean, I said this before we have too much experience doing that. We are fast to control our inventories. I mean, we went from all the sudden sales slowed down in the second quarter. We were able to get our inventories in control. Our finance group was able to get expenses along with the other support divisions of the company.

So we’re quick to react and I think that we don’t believe. We believe now when you look at retail, everything is very, very short term. So you have to react quickly. There’s no betting on the next quarter to make things better. So I think it makes us a healthier company, it certainly helps us in being able to maintain some of the earnings.

Operator

Your next question comes from Kimberly Greenberger - Citigroup.

Kimberly Greenberger - Citigroup

Betsy, I was hoping you could just talk about strategies to work on improvement in the women’s business and the music category and in particular in the women’s business obviously, the brightly colored denim was just strong last year, what are the opportunities to sort of replace that bottoms business, and are you seeing any traction in your denim presentation for back-to-school and then in music just any sort of bigger picture strategies that you think might drive some improvement there?

Betsy McLaughlin

In women’s bottoms, I mean we think of women’s bottoms as an item business, lastly we think of all bottoms as an items business, because we are never going to be the store that carries the full assortment in five different cuts and all the different washes. So we’re not embarking on trying to offset last year’s women’s bottoms business. So women’s bottoms will be down, and it will be down for a period of time.

I think that how we look at the business is that women’s bottoms do not interested in women’s bottoms from us, they might be interested in accessory category, they might be interested in something else and so we’re shifting out of categories and we’re shifting inventory out of categories. So it’s not to say that we don’t feel good about our bottoms offering right now, but we are expectation is not that we are going to offset it.

So I think that the novelty tees certainly on a women’s side is the highest volume category amongst the three departments within women’s and New Moon can certainly help that, some of the other licenses coming in can certainly help that. So I think from a novelty tees standpoint that can certainly help the women’s category, but as far as women’s fashion is concerned, women’s fashion will be negative.

On the music side, I answered a little bit, when Janet asked the question. I think we’re continuing to look at the assortment, continuing to bring in more of those mid-tier bands, we have had very good success in take some of the local static bands that performed in our stores that are now selling nationally with their products.

So I think more on that development there is also helpful. We’re also expanding genres and have had some pretty good test there. So we’ll see that rollout over the third quarter. So I think we’re testing a lot of things to see what will ignite the customer as far as music is concerned.

Kimberly Greenberger - Citigroup

Betsy, just in terms of the brightly colored denim, as I recall that was actually strong until like maybe March of 2009 is that when the comparisons start to get a bit easier?

Betsy McLaughlin

Yes, through spring of this year, through first quarter.

Operator

Your next question comes from Dana Telsey - Telsey Advisory Group.

Dana Telsey - Telsey Advisory Group

Betsy, I’ve heard very good things about the events you’re hosting and then how it’s helping to drive traffic in the malls. How do you partner with the developers in those events and the costs analysis of that, do they help pay for that, and how do you see that going forward? Lastly, you mentioned new genres, martial arts and things like that. If you think of your store three years from now, how do you think it involves category wise?

Betsy McLaughlin

As far as the events are concerned, developers are happy with us. They’ve gone from being suspicious to asking us what else they can do to help us, so that has worked well. The mall security has been a great help to us. They have offered to host some of the larger performances in the center court and actually many of the other retailers have been helpful as well, as they support anything that will bring traffic in to the malls, it’s not costing us money. We’re actually able to do it at neutral.

So that’s been great news, and we will do, I mean you can do the math, but we’ve done little over 6000 individual performances in stores year-to-date and so at a neutral cost. So I think as I said our job is we got to figure out with all of those feats coming into the doors, I mean, how do we monetize that? How do we track it, we’ve got certainly some areas that do a better job of it depending on how into the music scene they are.

It’s worked out really well and I think that it has helped us as we sponsored some of these licensing stores, whether it was Twilight last year, whether it will be New Moon, whether it’s another particular movie or television property. It certainly has opened the doors for us to be able to bring some critical mass in the malls to expose them and connect the customer to what they love. So I think it’s great for the brand, it’s neutral to the P&L; we just need to it help top line sales a bit more. Dana, what was your second question?

Dana Telsey - Telsey Advisory Group

As you think about just the evolution of the store and the different categories of the store I know you are looking at some different categories martial arts and things like that. Do you that’s the business in the future? How do you look at the breakdown of the store categories?

Betsy McLaughlin

We are very closed in and it changes on a regular basis I think that we will always play with accessories and apparel will always have music and licenses, and fashion, I mean I think that’s a part of the concept, but as we move from year-to-year they tend to shift.

A lot it is dependant on whether there is a strong license and or if there’s strong music trend. I do think the whole experiential part of it becomes really important in how we connect with that customer. One of the things that we are doing that you will see this year, in addition to loyalty program, which I think will be a game changer for us.

We got so many customers who are loyal to us, who use these I call them yogurt cards, they look like the punch cards, and we’ve never been able to market to them, they are fanatics, the fanatics about hot topics, and their fanatics about bands or fanatics about licenses and so. I think that was very interesting what we’ve learned there. We also by the end of the third quarter will be begin to have Hot Topic.com in the store downloads in the store.

ShockHound will be available to every person who walks in to a Hot Topic store. I think that will change a bit about how we do the music category, how much of physical CD’s, how much our MP3 downloads. We also have new listing stations right now that now expand everybody’s capacity in what they offer as far as listening to new music.

So I think there are experiential things that are part of this strategy that will that I can see it right now clearly move through the next three years, but as far as actual product categories I don’t know how that will manifest itself. I know they’re going to change, I just don’t know how yet.

Operator

Your next question comes from Holly Guthrie - Boenning & Scattergood.

Holly Guthrie - Boenning & Scattergood

If I could get some clarification on the comp projection that you gave. I think it was just for the quarterly of down mid-single digit, but I wanted to understand your comments regarding August and I know you said it was done 7% to 8%, but are you thinking that August will also be down mid single digit or I’m trying to understand that the monthly contribution to get to that quarterly comp and if it’s a lumpy or you think it will be pretty even.

Jim McGinty

We certainly hope August will improve, because of some of the shifts we were talking about. In addition to that, you got September where now you’ve got Labor Day in week two versus week one, September just based on the calendar should be stronger. As Betsy mentioned, that Halloween on a Saturday should also be good for the month of October. So, the fact that we’re running down high singles now, when you consider all those factors in, leads us to the down mid-single for the quarter.

Betsy McLaughlin

I’ll add to that Holly, the way I think about it, if you just look at the calendar shifts, you’d say you’ve got sales moving out of August in to Septembers so you got some also September should be better trend wise, and October Halloween on a Saturday, but then I have lay a rand. With the absence of Twilight merchandise, and in fact the Twilight was a good license and worth a piece of our business in September, that is moving out of September altogether, because it will not be available for sale until October.

So you’ve got that offset to whatever happens that first week extra or week and half in September. In October, October might be better or it might be neutral, it just depends whether or not the product gets out there, exactly when it gets out there and how long it takes the customers know that it’s there. So we’ve got two things going on. We’ve got a straight calendar shift, but we also have some headwind as it relates to the New Moon product.

Holly Guthrie - Boenning & Scattergood

Did you just say downloads will be available in the stores at the end of Q3 this year?

Betsy McLaughlin

Yes.

Holly Guthrie - Boenning & Scattergood

Then any thoughts on the cost for ShockHound, do you think that the negative impact on EPS might end and do you think it will continue into the fourth quarter? Do you think it will be neutral for Q4?

Jim McGinty

No, I certainly don’t think it will be neutral for Q4 it maybe more neutral on a relative basis. However, I don’t think it will be neutral from a strait EPS charge and so we are able to expand on some of those partnerships that Betsy talked about in her scripted comments, because that’s what allows us to drive more traffic, more volume, and potentially reduce that impact.

Betsy McLaughlin

Holly, when we launched ShockHound last year in November, I think like longer than last November, but it’s only been about 8 months, 9 months. We said that we hoped that buyers three, we would be neutral and so we knew that it would involve three years of investing in testing partnerships and investing in the technology investing in driving traffic. So this is about where we thought from the earnings standpoint we would be this year.

Holly Guthrie - Boenning & Scattergood

Then on one last question on monetizing of the events, I guess this is two part question. First, Twilight event last year, besides the sales that you got from the kids that were in the store, was the event itself were there bracelets sold or was there anything that actually you monetized on the event and then if you could talk about have you done any tests recently with how to monetize these event?

Betsy McLaughlin

Twilight, we really don’t have to worry about, because the way that it work is most of these customers had four or five hours the stand in the mall waiting for their beloved Edward or whomever to show up, so they were shopping, and their moms were shopping.

So Twilight or New Moon are not events that we believe we have to figure out new ways to monetize, because we saw we were successful doing that last year. I was really talking about the music events and with over 6000 light music performances in stores and 55 growing probably to double or triple that mall center core events, how do you monetize that traffic. Yes, there are tests, and yes we’re making progress.

Operator

Your next question comes from Sharon Zackfia - William Blair.

Sharon Zackfia - William Blair

A couple of questions, I guess first when you look back at rock tees, what you did in the genres, I think you got a little broader and then went into hip hop and did some more retro earlier this year and in retrospect do you think that was the way to go or do you think there was in a pushback from your consumer base on that?

Betsy McLaughlin

I don’t think the customer pushback. I think we went after hip hop at the expense of some other genres and swung the pendulum a bit too fast. So I don’t believe that I mean we’re testing hip hop, we always test wide and reorder a bit more narrow.

So there’s certainly are artists that if we knew then what we knew now, we wouldn’t have tested ones that didn’t sell, but unfortunately as retailers don’t get that opportunity, but I think as far as going broader by genre, I think that’s the right think to do and we certainly are not feeling any kind of rehash from our customers. It just how do we make sure we keep the right balance amongst all of the genres.

Sharon Zackfia - William Blair

I mean are you testing things right now that would make you more optimistic on music? I know there have been tough releases and so on, but just trying to kind of figure out how you get that core back in to positive territory?

Betsy McLaughlin

I think we have two problems in music. One is their problem, the two issues in music. One is getting the assortment rotated correctly to as we are testing these different kinds of genres, and yes there are light therapy end of the tunnel that I think we feel encouraged by, so absolutely it just going to take a while to figure out, exactly how those play as far as the total assortment.

The second is we’ve had some execution issues in music and we have to fix that and make sure that we are supporting, we agreed that the strategy was going to be the support mid tier bands and as we were testing some of these other things. Forgot about our mid tier bands strategy and did not reorder appropriately and became too deep in some of the larger bands and we just can’t do that.

So execution fix is I think an easier fix, because we know didn’t happen and we know aids to happen the team as well aware of what has to happen. I think the figuring out what the right balance by genera is, it will certainly take us sometime. If you are going to add in hip hop, or we’re going to add in ND and we’re going to add in some of the other genera is that you can see tested on the floor right now. It takes a good while to figure out, what it’s a tradeoff business or is it truly incremental business.

Sharon Zackfia - William Blair

When you were at ICR early this year, you were talking about some of the research you were doing with the younger customer base and how they viewed Hot Topic versus 18 or 19 year olds were graduating from high school and that was giving you some optimism.

I guess, I’m just kind of curious, does the younger customer base did they associate Hot Topic as much with music as those I mean, you were saying that I’ll think we’re got it or I’ll think we’re this, but I was wondering they’ve been think Hot Topic is music? If it makes sense to be as deep in music now as you were I don’t know five years ago.

Betsy McLaughlin

I think they do associate Hot Topic with music and partially it’s because, we had so many young customers come in, because of Twilight and New Moon, which has a great music track, the sound track which is very much Hot Topic music. I mean, if you look at our selling on the Twilight sound track, we were one of the best sellers. So I do think there is association there. We look at related selling and when these younger customers come in the store what is it they buy?

There is quite a bit of music tees and CD’s that are sold along with the product that they are purchasing. We are led to believe or leading ourselves to believe I suppose, that they still think about us as being whatever is important in pop culture. As long as music remains a folk to point that pop culture, which I think it has for 50 years and probably will for ever. I think the customer sees us as that.

I hear more about we have whatever is cool, whether it’s in music, whether it’s in TVs, or whether it’s in movies or whether it’s in fashion, I hear more about that than I hear about somebody saying I don’t understand why they have music or why all this stuff is in the store.

Sharon Zackfia - William Blair

In women’s, I think fashion is kind of moving more into your playing ground if you will, than it has been quite sometime and I guess, just wondering how much of an opportunity due you think there will be there although I’m going to count it out with that the fact that everybody is going to go into the 80s punk look, so I don’t know that.

So that needs some more difficulty and then, maybe a tangent to that, I think the lead actress from Twilight is doing a Joan Jet movie. I don’t know if you’re going to have tie-ins with that, so just, if you could kind of talk about both of those?

Betsy McLaughlin

I won’t comment on the new Christian Stewart movie, but as far as some of the fashion trends that are happening, I mean we think we saw that I think the 80s look was played right into why we did so well on color denim, especially bright color denim last year we tend to be ahead of everybody else on that. So I think that brings chill whether it’s that or Gothic well legal look or whether it is the fashion that’s going to be inspired by Alice in Wonderland, I think all of that plays well for hot topics.

Operator

Your last question comes from Jeff Van Sinderen - B. Riley.

Jeff Van Sinderen - B. Riley

Just to clarify part of the IMU opportunities in New Moon versus last year, is that correct?

Betsy McLaughlin

For one month I think.

Jim McGinty

Maybe just the fact that early on in the Twilight, assortment last year we had little accessories there maybe a little opportunity, but outside of that I think the mix should come out fairly consistent for the fourth quarter.

Jeff Van Sinderen - B. Riley

I guess maybe if you can say anything else in terms of how you are thinking about or approaching exploiting the New Moon traffic. As you guys get a lot of traffic in your stores around the Twilight properties for the other segments of your business. Maybe if you’re approaching it differently this year versus last year. Just how do you get that customer that comes into buy something that’s New Moon to buy something else that’s not really related?

Betsy McLaughlin

We have been measuring related to selling on Twilight and New Moon since last August actually, and I think I mentioned on one of the conference calls, might have been the Q4 call that when we initially embarked on this Twilight adventure.

We had people coming to the store and buying one or two items of Twilight only, with basically zero-related selling and our objective at that point became, how do we get them to buy more than just Twilight. So, we put many different initiatives in place to attempt to get what we’d call related selling, something that is purchased with twilight that has nothing to do with twilight, but is part of the sale, so related to twilight selling.

As we moved through the fourth quarter and the first quarter and the second quarter, we saw the percentage of related selling increase and to the point where whatever twilight sales were related sell was at or very close to the actual twilight product. I think we done a good job in finding ways to have that customer purchase more than just twilight and I think she will do the same thing when she comes for a new moon product.

That sort, we revamp every year, and there are new ways that we are going to merchandise it and things we are going to do on line. We learned a lot last year, we will be better this year. I don’t want to share specifics with you but it’s certainly its been a priority for all of us to figure out how do we get something new and fresh in front of the customer’s eyes.

Operator

Ladies and gentlemen, that does conclude the time that we have for Q-and-A. I would like to turn the call back over to Mrs. McLaughlin for closing remarks. Please proceed ma’am

Betsy McLaughlin

Thanks for participating in the call. We’ll talk to you next quarter. Bye, bye.

Operator

Ladies and gentlemen that does conclude our presentation for today. Thank you for your participation. You may now disconnect. Have a wonderful day.

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Source: Hot Topic Inc. Q2 2009 Earnings Call Transcript
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