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Cabela's Incorporated (NYSE:CAB)

Q3 2009 Earnings Call Transcript

October 27, 2009 11:00 am ET

Executives

Chris Gay – Treasurer and IR Manager

Tommy Millner – President and CEO

Ralph Castner – VP and CFO, and Chairman of World’s Foremost Bank

Analysts

Tracy Kogan – Credit Suisse

Reed Anderson – D.A. Davidson

Chris Horvers – J.P. Morgan

David Magee – SunTrust Robinson Humphrey

Peter Keith – Piper Jaffray

Jim Duffy – Thomas Weisel Partners

Mark Smith – Feltl and Company

Kristine Koerber – JMP Securities

Derek Leckow – Barrington Research

Operator

Good morning, ladies and gentlemen, and thank you for standing by. Welcome to the Cabela's Incorporated third quarter fiscal 2009 earnings call. At this time, all participants are in a listen-only mode. Following the presentation, we will conduct a question-and-answer session. Instructions will be provided at that time for you to queue up for questions. (Operator instructions) I would now like to remind everyone that today’s conference is being recorded.

At this time, for opening remarks and introductions, I’ll turn the conference over to Mr. Chris Gay, Treasurer and Investor Relations Manager. Please go ahead.

Chris Gay

Good morning. I welcome everyone listening today, both on the conference call and by webcast. A replay of today's call will be archived on our website at www.cabelas.com. With me on today's call are Tommy Millner, Cabela's Chief Executive Officer, and Ralph Castner, Cabela's Vice President and Chief Financial Officer. Tommy and Ralph, each had prepared comments related to third quarter operating results. Also joining us on the call today are Pat Snyder, Senior Vice President of Merchandising and Marketing, and Brian Linneman, Senior Vice President of Global Supply Chain and Operations.

This conference call will include forward-looking statements. These statements are made on the basis of our views and assumptions as of this time and are not guarantees of future performance. Actual events or results may differ materially from those statements. For information about certain factors that could cause such differences, investors should consult our annual report on Form 10-K and quarterly reports on Form 10-Q filed with the Securities and Exchange Commission and available on our website, including the information set forth under the captions Risk Factors and special note regarding forward-looking statements.

Now on to the financial results. For the quarter, consolidated revenues increased 2% to $624 million. Retail revenue increased 6.1% to $348 million that’s compared to $328 million in the year-ago quarter. The increase in retail revenue was primarily due to a comparable store sales increase of 3.5%. Direct revenue decreased 6.2% to $226 million as compared to $241 million in the year-ago quarter.

As you know, we measure the growth in direct sales relative to direct marketing costs. During the quarter, we reduced direct marketing costs 15.1%. Direct marketing costs as a percent of direct revenue decreased to 13.6% as compared to 15.1% in the year-ago quarter. Financial services revenue increased 15% to $48 million as compared to $42 million in the year-ago quarter. The increase in financial services revenue was due to higher interest and other fee income.

For the quarter, consolidated operating income increased 53.1% to $32 million as compared to $21 million in the year-ago quarter. (inaudible) consolidated operating income were a result of improvements in direct marketing expenditures, better utilization of labor and improved advertising performance. When compared to the prior year quarter, these three items combined accounted for $13 million of expense savings in the quarter. Diluted earnings per share for the quarter increased 86.7% to $0.28 as compared to $0.15 in the year-ago quarter.

Now I'll turn the call over to Tommy Millner, Cabela's Chief Executive Officer.

Tommy Millner

Thank you, Chris. And good morning, everyone. We are pleased to report record third quarter results, which reflect the progress we are making in our areas of strategic focus. These areas of strategic focus are, first, improve retail profitability; second, increase returns on capital through increased profitability and a keen focus on improving our balance sheet; and finally, increase profitability at World’s Foremost Bank while preserving brand loyalty of our cardholders.

We are encouraged with the improvements we realized in these initiatives during the quarter. It is important to note we will have many more opportunities to streamline our operations and better manage our balance sheet to further improve results for years to come. With regard to improving retail profitability, we are pleased with our comp store sales increase of 3.5%. This is our fourth consecutive quarter of positive comparable store sales. For the quarter, average ticket increased 3.4% in our comp stores.

Operating margins in our retail segment increased 240 basis points to 11.6% as compared to 9.2% in the same quarter a year ago, as we improved labor utilization and advertising efficiency. Improvements in labor productivity are due to more streamlined flow of goods to our retail stores and better management of retail staffing levels among other things. These enhancements have allowed us to better allocate labor in our stores.

Our percentage of non-selling labor to selling labor continued its favorable trend, and we have been improving our full-time to part-time labor mix as well. The result is that labor as a percent of retail revenue decreased 120 basis points in the quarter. Improvements in advertising were due to better targeting of ad flyer distribution and increased advertising efficiency. Retail advertising as a percent of retail revenue improved 110 basis points as we significantly improved advertising sales lift.

Now turning to return on invested capital. A key focus of ours throughout 2009 has been improving our operating efficiencies and improving our balance sheet in an effort to improve return on invested capital. I’m pleased to report that on a rolling four quarter basis, return on invested capital improved 90 basis points in the quarter. Ultimately, our long-term goal is to improve return on invested capital to achieve a 12% to 14% return on capital over the next several years. We are confident we have sufficient opportunities to streamline operations and better manage our balance sheet to achieve this goal.

The improvements noted above give us confidence to move forward with opening a new store in Grand Junction, Colorado, in the spring of 2010. This store will be one of our next generation stores and will be 75,000 square feet as compared to our more traditional stores, which average 150,000 square feet.

Rich in outdoor heritage, Colorado’s Western Slope is a prime location for a variety of outdoor activities, including world-class hunting, fishing and camping. It is the western gateway for everything Colorado offers outdoor enthusiasts. Not only is it home to active affluent outdoorsmen and women, it draws similar minded visitors virtually year round. Yet, it is relatively underserved competitively.

Now, let’s look at World’s Foremost Bank. We are encouraged with the improvement in profitability at WFB. Pricing adjustments have helped mitigate the financial impact of increased bad debts, and as a result, excess spread has continued to improve, a trend we have seen all year. As reported in our earnings release, we now expect average net charge-offs for the year to be at the low end of our previous guidance.

As we have previously discussed, the FASB has approved changes to securitization accounting, requiring consolidation of credit card trust in the first quarter of 2010. As a result of these changes, WFB will be subject to additional capital requirements of roughly $200 million. During 2009, we strengthened our balance sheet and significantly reduced debt levels.

Given our historical cash generation, in the fourth quarter, we expect to have sufficient access to capital at the end of the year to meet WFB’s capital need. We are pleased that we will not be required to raise any capital through the equity or long-term debt markets to meet this capital need.

Cabela’s credit facility currently limits capital contributions into WFB to $75 million, of which we have already contributed $25 million. Therefore, in order to inject the additional capital into WFB, we intend to amend our credit agreement. We expect to amend our facility in the fourth quarter of 2009 without materially impacting future borrowing cost.

Another key area of strategic focus is expanding merchandise gross margin. For the quarter, merchandise gross margin was impacted by the ongoing mix shift to lower margin hard good categories as well as our efforts to liquidate on productive inventory. For the quarter, merchandise gross margin declined 100 basis points. This will be a focus for us, as we look forward to 2010 and beyond.

Now, let’s talk about our direct segment. Operating margins in our direct segment increased 120 basis points to 15.1% compared to 13.9% in the same quarter a year ago. The biggest contributor of operating margin improvement in our direct segment is the improved efficiency of direct marketing expenditures, which include both catalog costs and Internet marketing costs.

We continue to deliver a more focused offering to our customers based on their buying patterns and behaviors. The result was a 150 basis point decrease in direct marketing costs as a percent of direct revenue. For the quarter, direct marketing costs were 13.6% of direct revenue as compared to 15.1% of direct revenue in the year-ago quarter.

As we look forward to 2010, we do not expect to be as aggressive in reducing catalog pages as we were in 2009. We will, however, continue to see a shift in spending from traditional paper catalogs to more electronic means as the Internet continues to become a bigger piece of our direct business. During the third quarter, traffic to cabelas.com increased 14.9%, and we expect to continue to increase traffic to cabelas.com for the foreseeable future.

In addition to the improvements we have seen in both our retail and direct segment, we also continue to benefit from improved distribution efficiencies. Improvements in distribution are being led by improvements in vendor compliance, better utilization of freight carriers, SKU reductions, and better use of existing systems and automation. For the quarter, distribution cost decreased 10%.

From a merchandise standpoint, we know many of you are concerned as we anniversary the strength we have seen in firearms and ammunition over the last year. During the third quarter, we continued to see growth rates in firearm sales slow sequentially. As we expected and have previously discussed, our historical experience is that customers have shifted their spend to these categories at the expense of other categories, mostly soft goods.

As demand for ammunition and firearms moderates, we expect customer spend to shift back to a more normalized merchandise mix. And we are pleased we have already started to see this. During the quarter, all four of our other categories improved sequentially at an accelerating rate. And this trend has continued into the fourth quarter.

Before turning the call over to Ralph, I want to thank all Cabela’s employees who have really taken to heart our strategic initiatives to improve operations and efficiencies. I sincerely thank them for all they do everyday to cherish and please our customers.

Now, I’ll turn the call over to Ralph Castner to review in more detail our balance sheet and performance at World’s Foremost Bank.

Ralph Castner

Thanks, Tommy. We are very pleased with our third quarter financial results and, as Tommy mentioned, the significant progress we have made in areas of strategic focus. I’d like to spend a majority of my time focused on our balance sheet, cash flows, and World’s Foremost Bank.

For the quarter, we again reduced inventory levels. Reduction in inventory levels has been a focus for the past 12 months and results have exceeded our expectations. The improvements in the inventory levels -- the improvement in inventory levels is due to our enhanced planning process, SKU reduction, and our focus on core SKUs. Inventory levels decreased 12% to $572 million as compared to $649 million at the end of the third quarter of 2008. We will continue to focus on tightly managed inventory levels throughout the remainder of the year and expect year-end inventory levels to be below last year’s levels.

In addition to improved inventory levels, we’ve had success managing other areas of our balance sheet as well. Accounts receivable decreased $10 million year-over-year. Others assets are down slightly. We have standardized payment terms of domestic vendors and have recently implemented a 30-day terms in our trade loads of credit. Cash and cash equivalents at the end of the quarter were $418 million as compared to $207 million at the end of the year-ago quarter. Virtually all of this cash is held at World’s Foremost Bank as a result of our certificate of deposit program and can be used upon credit card receivables.

Now let’s review our outstanding debt levels, which improved significantly in the quarter. We ended the third quarter with $201 million less debt as compared to the year-ago quarter. Total debt at quarter-end was $386 million compared to $587 million in the year-ago period. Total outstandings on a revolving line of credit at quarter-end were just $29 million as compared to $199 million in the year-ago period. For the year-to-date period, we generated a positive $24 million of cash flow from operations compared to a negative $33 million of cash flow from operations in the same period a year ago.

Now turning to World’s Foremost Bank. During the quarter, average managed credit card loans increased 8.7% and average active accounts grew the same amount. And that’s with us already opening one store in 2009, both compared to the same quarter a year ago. For the quarter, the average account balance was flat. Net charge-offs at World’s Foremost Bank decreased sequentially to 5.02% from 5.24% in the second quarter. This was our first quarterly sequential decline in charge-offs since the second quarter of 2007.

Managed financial services revenue as a percent of average managed credit card loans was 8.2% as compared to 7.8% in the prior year quarter. This is the second consecutive quarter we have increased managed financial services revenue as a percentage of average managed credit card loans. The increase is due to the pricing adjustments implemented over the past 12 months as well as the introduction of our new Visa Signature card, which has helped increase interchange income.

Based on current delinquency trends, we now expect net charge-offs for the year to be between 5.1% and 5.3% as compared to our previous guidance of 5.1% to 5.5%. With respect to liquidity, in September we renewed our $350 million commercial paper cargo with JP Morgan. We expect this renewal along with our current cash balance, existing term securitizations, and a roughly $200 million capital contribution from Cabela’s to provide sufficient liquidity to World’s Foremost Bank through October 2010.

As we look forward, we expect to complete another term securitization as early as the first quarter of 2010. We feel very comfortable with our liquidity position and have been encouraged with what we are seeing in the term securitizations market. As you may know, the TALP program was extended through March 31, 2010 and securitization deals are getting done with tighter spreads, the way [ph] we experienced in April. As a result, we now expect lower spreads when we complete our next securitization.

Now let me turn the call back over to Tommy for some closing comments.

Tommy Millner

Thanks, Ralph. Again, we are very pleased with the significant improvements we realized in the third quarter as a result of our strategic focus on improving retail profitability, improving return on invested capital, and improving profitability at World’s Foremost Bank, while preserving the brand loyalty of our cardholders.

For the full year 2009, we continue to expect direct revenue to decline at low-to-mid single-digit rates. Due to favorable trends that we have seen in our business, we now expect full year 2009 total revenue growth and comparable store sales to increase at a mid-single digit percentage rate. Additionally, we now expect net charge-offs at World’s Foremost Bank to be between 5.1% and 5.3%. As a result, we now expect full year earnings per diluted share to increase at a mid-single digit percentage rate with an opportunity to exceed these results, should the strength we have seen in October continue for the remainder of the year.

With that, operator, let’s open the call up for questions.

Question-and-Answer Session

Operator

(Operator instructions) We’ll have our first question from Paul Lejuez from Credit Suisse.

Tracy Kogan – Credit Suisse

Thanks. It’s Tracy Kogan filling in for Paul. Just a couple questions. First on the gross margin, if you could talk a little bit more about the components there. I was surprised given that you said there was a slowdown in firearms, surprised to see that the gross margin wasn’t there. So maybe can you give us more color on those other categories with some of that more promotionally driven than you expected in those higher margin categories? And the second question is on SG&A. Can you just talk about what the big areas -- I know you’ve talked about some of them. What are the big areas remaining that you can take expenses out? And what’s that looking like for the fourth quarter as you go up against the big decrease last year? Thanks.

Tommy Millner

Well, great. Good morning. First, your question on merchandise margins, as you know, for well over a year, as we recognized strength in guns and ammunitions, those are lower margin categories, which naturally had a suppressing effect on margin and we saw that continue into the third quarter. We were also a little more promotional in the third quarter in our efforts to improve the quality of our inventory. And that was also an impact on gross margin in the quarter, as we noted.

Tracy Kogan – Credit Suisse

Could you say which categories you were more promotional in? Was it one specific category or was it across the board?

Tommy Millner

In soft goods.

Tracy Kogan – Credit Suisse

Okay.

Tommy Millner

To your question on SG&A, as I said in our prior call, I’m a believer in continuous improvement as is our organization. So, as a matter of philosophy, I never accept the fact that you find all the savings in a company. I continue to believe that we have opportunities to improve direct marketing cost, improve labor utilization, do more with less, and be more efficient in advertising and promotions. So, as I look across the enterprise, I think we have a long runway ahead of us for continuous improvement to lower cost.

Tracy Kogan – Credit Suisse

And one last question. What was the impairment charge? You had a small impairment charge. What was that related to?

Ralph Castner

Well, it was just -- we actually had a contract to sell our plane in the quarter. It’s the loss in the sale of a plane.

Tracy Kogan – Credit Suisse

Thank you. Good luck.

Tommy Millner

Thanks.

Operator

We’ll go next to Reed Anderson with D.A. Davidson.

Reed Anderson – D.A. Davidson

Good morning. Nice quarter.

Tommy Millner

Thanks, Reed.

Reed Anderson – D.A. Davidson

I guess just to follow up first back on the gross margin question. I mean, so -- is it a way to look at -- I mean, obviously it’s an ongoing process, but clearly in the third quarter you’ve been looking at where inventory was, you took that as an opportunity to clean things up. And so maybe it’s not as too early to say things -- go year-over-year up in the fourth quarter, but are we saying that we are clean now and going forward we should start to gradually see some improvement? I mean, what will be the timing to see some gross margin gains, I guess, is kind of what I’m trying to get at.

Tommy Millner

Well, Reed, as you noted, we definitely used the opportunity with a returning consumer to soft goods categories to impact the reduction in those categories of unproductive inventory. So we absolutely did that. We would expect that -- our inventories are definitely in better shape than they have ever been. We probably still have a little bit of work ahead of us, but I’m pretty pleased that we’ve made good progress. I think the lift in margins, as we look forward, is going to be the function of if this continued acceleration that we saw come into October in soft goods categories can continue. And as we see the sequential decline in guns and ammunition, there is a natural lift that occurs.

Reed Anderson – D.A. Davidson

That makes sense. That’s what I figured. Thank you. That’s helpful. Then, a couple of other questions. One is, you talked about average ticket in retail. I was just curious just order of magnitude, what -- what was the direction or magnitude of the ticket change you might have seen in your direct business? Would it have been similar to that, better, worse?

Tommy Millner

It was down slightly.

Reed Anderson – D.A. Davidson

Okay. Okay. And would that have been a function of a little bit lower ticket in the -- I guess it’s all mixed in, but I think catalog a little lower, Internet ticking up a little bit?

Tommy Millner

Ralph, do you have any color on that? We will get back to you on that, Reed.

Reed Anderson – D.A. Davidson

That’s fine. That’s fine. That’s fine. And then also on direct, you’ve had a lot of productivity gains from an advertising standpoint. And so my question is, your comment, Tommy, about basically going forward we kind of reached a point where we are not going to tweak circulation too much more. Is that really what we see when we look at the results this quarter where direct was down a little bit more than we might have thought, but really that’s just you were pushing kind of the envelope by circulation? We’ve kind of reached that now, and so going forward we more normalize. Is that the right way to look at that?

Tommy Millner

Yes. As I noted in the script, Reed, we don’t intend to be as aggressive in circ or page cuts going forward. However, recognizing that, we will still monitor the shift from catalog to the Internet going forward.

Reed Anderson – D.A. Davidson

Okay, good. And then just a couple other quick ones. Tommy, I know it’s your old business, but I was in your stores over the weekend stocking up for this hunting season. It looks like ammo is starting to get replenished a little bit better. Is that your sense or is that just a reflection of where you guys are?

Tommy Millner

Reed, last quarter’s call we talked about this, if I remember correctly. It depends on the category. There is definite improvement, and in fact, we’ve been able to clear a little bit of backlog in the direct business in ammunition. But it’s very spotty. There are some components of calibers of hand gun ammunition that are still in critical shortage. Some areas in rimfire, still very short. But I think our ability to pay our bills and the strength of our balance sheet, as well as some initiatives with vendors are helping us a lot.

Reed Anderson – D.A. Davidson

Good. And then just one last question. Just curious your comments on kind of the promotional environment in the fourth quarter. What you’re thinking -- are you thinking to be a little bit more aggressive, whether with shipping promos, your pricing or -- versus last year? Just kind of what your general thoughts are today.

Tommy Millner

We don’t see a major change from what we did in the third quarter. We think we’ve got the ship pointed in the right direction.

Reed Anderson – D.A. Davidson

That’s great. That’s it for me. Good luck, guys. Thank you.

Tommy Millner

Thanks.

Operator

Chris Horvers with J.P. Morgan.

Chris Horvers – J.P. Morgan

Thanks, and good morning. On the sales side, just curious if the implied 3% comp guidance that you have for the fourth quarter kind of at the midpoint, is that the trend that you are seeing now or is it something that had to do with the apparel comparisons as you get into November and December?

Tommy Millner

Well, I think what we are saying is that we have seen an acceleration in comps from the third quarter into the fourth quarter, yet being sufficiently cautious given that November and December are very big months in our business. But the trends that we see coming into -- that we saw coming into October actually accelerated on a sequential basis in a favorable way, especially in non-gun and ammunition categories almost without exception.

Chris Horvers – J.P. Morgan

Right. And as you look ahead, I mean, you’ve got -- last year when you guided comps down 7% to 10% for 4Q. You came out and you did a plus 2%. So the upside was the hunting category and the downside was the apparel. So, as you look out into apparel in 4Q, do you think on a cleaner inventory perhaps lower promotional posture that you could get this positive and then you could see a dramatic improvement in gross margin?

Ralph Castner

This is Ralph Castner. I mean, I think what you are heading towards is we are very optimistic about the fourth quarter. And I think in our guidance we reflected that. If the strong trends we are seeing early in the fourth quarter continue through the remainder of the quarter, there could be some upside on that.

Tommy Millner

As we noted in our press release.

Chris Horvers – J.P. Morgan

Okay. Okay, fair enough. And moving down towards the expense side, last year in the fourth quarter, you took out, I think what, $20 million; in the third quarter you took out $10 million of SG&A dollars year-over-year. As you think about the fourth quarter, you’re going to anniversary some compensation expense, perhaps reversals, lower advertising. Do SG&A dollars continue to be down year-over-year or are they going to be kind of growing at a rate smaller than sales, but not necessarily down, as you look at 4Q and then 2010?

Tommy Millner

Well, as you know, we don’t give quarterly guidance down to the line item. So I’ll go back to my original comments to a prior question. As just a matter of philosophy, we believe as a company that there is a long runway ahead of us to improve operating efficiencies throughout the organization and lower cost. And you asked then about 2010. At this point, we have not even finalized our budget for 2010, nor have we presented it to our Board. So I’m not really going to comment on where we see 2010 other than to say, you know, we’re cautiously optimistic. If you go into our stores and you shop our catalogs or on the Internet, you’re going to see a really great assortment of product that we think is ever more relevant to our core customers, and that’s a really good thing. So we are cautiously optimistic looking forward, knowing that we have a long runway ahead of us for improvements in retail profitability, our balance sheet, margins, inventories, and every place else in the company.

Chris Horvers – J.P. Morgan

Okay. And then just one follow-up to that. Maybe focusing on the advertising dollars as you look forward, clearly I understand the efficiency within the supply chain, within the stores, but advertising dollars -- could you -- looking over the next year, could you see -- or even in the fourth quarter, could you see advertising dollars down year-over-year?

Tommy Millner

Ralph, do you want to add some color to that --?

Ralph Castner

Yes. I think Tommy addressed -- I mean, I think on the direct side of the business, we have seen -- Tommy commented. I mean, I think we are done seeing a lot of the big reductions in circ and advertising cost in the catalog business. And I think basically the same is true for retail. We have really right-sized those expenditures and are looking forward to growing revenue in the future on a similar amount of spend.

Chris Horvers – J.P. Morgan

Thank you very much.

Tommy Millner

Yes, thanks.

Operator

We’ll go next to David Magee, SunTrust Robinson Humphrey.

David Magee – SunTrust Robinson Humphrey

Yes, hi, good morning.

Tommy Millner

Good morning.

David Magee – SunTrust Robinson Humphrey

Just a question with regard to your new store this year, a 2009 store, could you give a little color on how that’s performing? And then with regard to next year, do you plan more than one store? Is that the only one to expect for next year?

Tommy Millner

Well, that’s the easiest question I’ve gotten so far. The Billings store can be answered in one word. Fantastic.

David Magee – SunTrust Robinson Humphrey

Good. Can you provide -- is it at the sales line or is it at the profit line or both, or --?

Tommy Millner

Yes, yes, yes, and yes. We are very encouraged by what we are seeing in Billings. Sufficiently so, in conjunction with improvements in retail profitability, which you see from our results, it gave us the confidence to move forward with this opportunity in Grand Junction. I’d like to talk about that just a little bit. We plan on opening the Grand Junction store, which is similarly sized to Billings, in the spring of next year. So it will be about 75,000 square feet in size.

The store is actually in the destination mall in an empty anchor tenant location in this mall, which is the retail hub of the Western Slope of Colorado. So it’s a great location. The economics, because the box was empty, are very favorable. So, great location. Underserved market competitively. And the improving trends that we are seeing across the enterprise and retail profitability improvements gave us the confidence to move forward. And I would add that, as we look at growth in new stores in the years ahead, the speed at which we announced those new stores will be a function of our growing confidence that we are making significant progress in retail profitability.

Now, let me back up. We do have a store planned for East Rutherford, New Jersey late in the third quarter of 2010. As many of you know, that development is called Xanadu. And it has been troubled almost from the start. We don’t have any further updates. We are currently on hold waiting for the developer to tell us if they are actually going to move forward. So, as we said in last quarter’s call, stay tuned. We’ll keep you posted. But for now, we remain on hold.

Ralph Castner

Tommy, if I could add to that, I mean, the news flash from this call, the headline on the call that I’m sure will be interpreted several different ways, but the headline on the call ought to be the improvement we saw in retail profitability. Our retail segment reported improved profitability of $10.4 million. Less than 30% of that was attributable to the marketing fees paid from the bank. So it was a homerun quarter for retail. And the improvements we’ve seen there and we expect to see going forward is what gives us the confidence to announce the Grand Junction store.

David Magee – SunTrust Robinson Humphrey

Ralph, can you give us any metrics like the Billings store versus on the stores opened a few years ago with regard to how much it cost to open, what do you expect in the first year sales and maybe just the payback period of time?

Ralph Castner

Billings or Grand -- do you want to know Billings or Grand Junction?

David Magee – SunTrust Robinson Humphrey

Billings, just because it’s (inaudible) new to the numbers.

Ralph Castner

The Billings store is a smaller store, 80,000 square feet. Clearly it will approach -- and I don’t know if we get all the way to $400 a foot, but it will clearly approach $350 to $400 a foot on sales. And our stores that we have talked about need to be in that 17% to 18% contribution margin to make it work and that’s where we expect that store to be.

David Magee – SunTrust Robinson Humphrey

And do you expect that within the first year or two?

Ralph Castner

Yes.

David Magee – SunTrust Robinson Humphrey

Great. Thanks a lot.

Tommy Millner

You’re welcome.

Operator

Peter Keith, Piper Jaffray.

Peter Keith – Piper Jaffray

Hi, good morning, everyone.

Tommy Millner

Good morning.

Peter Keith – Piper Jaffray

Thanks, by the way, for the increased metrics on the credit cards in the press release. I just -- I know there have been a couple of questions on gross margin. I just want to see if you could help us out in our thinking for Q4 because it seems like there are some one-time items we should think about. I know last year there was some pretty heavy markdown activity. So as we’re lapping up against that, I’m guessing -- I'm wondering if you think of the less markdown activity this year. And then secondarily on that -- I think there was a large gift card breakage benefit at somewhere around $8.5 million, and is that something that we should factor into our Q4 estimates?

Tommy Millner

I’m going to let Ralph talk about the gift card breakage because, as you know, I wasn’t here a year ago, and he is probably a little more current on that. As relates to the fourth quarter on margins, margins are a longer term focus for the company. Margins, in any business I’ve been associated with, are not a quick fix in immediate turnaround area. Although I would tell you it’s an area of intense focus for us. So as we look to the rest of this year, we are currently seeing a sequential slowing in guns and ammunition. We’re also seeing a sequential improvement and acceleration even, in every other category of the business. Offset by the fact that we will continue to be aggressive as we promote through the Black Friday and Christmas period. Ralph, do you want to talk about the gift card?

Ralph Castner

Yes. Just with the gift card issue, your recollection is correct. A year ago, we had a $0.5 million benefit to the gross margin line due to a change in estimate on gift card breakage. And that clearly is something you ought to back out of your thinking when doing the comparison year-over-year. But I also want to remind everybody that there is also roughly a $6 million that was elsewhere in the P&L. So, although you’re going to pull about $8.5 million out of the gross margin line, don’t pull it out of -- don't think of that as all being reflected on EPS because there are other things that offset EPS a year ago.

Peter Keith – Piper Jaffray

Okay, thanks. That’s helpful.

Tommy Millner

Okay, great.

Peter Keith – Piper Jaffray

Can I ask one more question? Just on the current quarter trends, it’s good to see the sequential improvement. Obviously it’s been colder in a lot of the more northern states. And I’m wondering if -- are you seeing, particularly in the soft goods, some of that outerwear has picked up nicely at this point?

Tommy Millner

Yes. Certainly those categories have picked up. However, the acceleration of improvement is across all of our merchandise categories. And if you haven’t been to one of our stores, I would go back to what I mentioned a few minutes ago. It’s helpful that we have cold weather, but you still have to have the right product that people want to buy. And I think when you look at our stores, our fall assortments, thanks to the hard work of our merchants, is just terrific. So we had the right product at the right time. Our fall rolls went extremely well. And then to get a little help from the weather is not a bad thing. But the wrong merchandise in cold weather still doesn’t sell. So we are very pleased with our merchandise assortments.

Peter Keith – Piper Jaffray

Okay. Thank you very much, and good luck with the holiday season.

Tommy Millner

Thanks.

Operator

Jim Duffy, Thomas Weisel Partners.

Jim Duffy – Thomas Weisel Partners

Thanks. Good morning.

Tommy Millner

Hi, Jim.

Jim Duffy – Thomas Weisel Partners

A question for you on the SG&A. Ralph, have you been accruing for bonuses thus far throughout the year? And if not, given your recent performance and raised outlook, does that mean there is an accelerated accrual in the fourth quarter?

Ralph Castner

We have been accruing bonuses throughout the year. And that actually was detriment to the quarter of about -- the third quarter for about $4 million. So you shouldn’t -- the fourth quarter won’t be materially impacted by incentive comp.

Jim Duffy – Thomas Weisel Partners

Okay. Thanks. And then -- looking out to 2010, the Grand Junction story and then the East Rutherford store, what are the initial thoughts on CapEx budget for 2010?

Ralph Castner

You know, I don’t -- I'm not sure we’ve got a lot -- you got to see Tommy’s comment earlier about Xanadu. I don’t know that we expect to see CapEx for 2010 significantly higher than 2009 levels. I mean, they both reflect one store and then we’ll be doing some other improvements to our business on top of that.

Jim Duffy – Thomas Weisel Partners

Okay, thanks. And then with regards to cardholder growth, do you think that kind of these high-single digit year-to-year growth numbers is a number that you can sustain through 2010?

Tommy Millner

Ralph, you want to touch on that?

Ralph Castner

Yes. I mean, as I’ve told you over time, our growth in cardholders will slow and approach our growth in revenue. And I think we’ve seen that. So it’s how we start opening new stores and we sort of see this low-single digit revenue growth over time. Cardholder growth will fall to approach that. But I think it will be really slow. So, yes, mid-to-high single-digit number feels reasonable.

Jim Duffy – Thomas Weisel Partners

And then my final question relates to the inventory. I was surprised to hear you expect to have inventory down year-to-year despite having an additional store. Where is the inventory coming from? Is there less inventory in stores or is that coming from kind of purposely shrinking the direct business?

Tommy Millner

Well, Jim, as we’ve mentioned in earlier calls, we have an aggressive SKU rationalization initiative in place over the next couple of years. That’s certainly having an impact. Refining our assortment strategies is certainly having an impact. And then the last component of this is a much more collaborative forecasting process with our largest suppliers that help us flow goods faster, get higher turns without the burden of lumpy inventory buys.

Jim Duffy – Thomas Weisel Partners

That’s good to hear. Thanks very much and good luck in the holidays.

Tommy Millner

Thanks.

Operator

We’ll go next to Mark Smith, Feltl and Company.

Mark Smith – Feltl and Company

Hi, guys. First, can you give a little bit of breakdown on your comps? Last year, you talked about comp excluding firearms, ammo and marine being slightly positive. Can you give us that number for this quarter?

Tommy Millner

Yes, Mark. For the third quarter, same-store sales, excluding firearms, were up 2.4%. And if you include same-store sales with guns and ammunition, it was down four-tenths of a point, just essentially close to flat. And we didn’t look at boats in or out [ph] or anything like that.

Mark Smith – Feltl and Company

Okay, perfect. And then I don’t know if you can talk about the comp trend during the quarter last year, kind of month-to-month how weak October was and then how much the guns benefited kind of November, December of last year.

Tommy Millner

Hold on. Chris is passing me the number right now. You want to know last year?

Mark Smith – Feltl and Company

Yes.

Tommy Millner

The trend was from down 6.8 in October to plus -- you want third quarter or fourth quarter?

Mark Smith – Feltl and Company

Fourth quarter.

Tommy Millner

Down 6.8, up 9.8, and up 1.4.

Mark Smith – Feltl and Company

Okay. Okay, I think that does it for me. Thanks.

Operator

We’ll go next to Kristine Koerber with JMP Securities.

Kristine Koerber – JMP Securities

Yes, hi. Congratulations on the good quarter.

Tommy Millner

Thank you.

Kristine Koerber – JMP Securities

Just a quick follow-up on the new store opening and the Grand Junction store. I guess at this point, is it safe to say that the Billings store model is the right model for you guys and that’s what we should look at going forward? Are you going to make adjustments to the Grand Junction store you plan to open?

Tommy Millner

Kristine, I think what we are saying is that when we found this opportunity in Grand Junction, the store size of that empty anchor location was 75,000 feet, which coincidentally was the low end of our next generation store range, which we have talked about before, at 80,000 a 100 and 125. So I wouldn’t want you to take away from Grand Junction that we are not going to do a 100 or a 125. It was just the opportunity was really terrific in Grand Junction, and that was market dependent.

Kristine Koerber – JMP Securities

Okay, that helps. Just a follow-up on -- I mean, looking at the Billings store, is there anything that you would change as you continue to open like the 80,000 square foot stores?

Tommy Millner

Nothing significant. Just look for opportunities to do more with less cost and not impact the selling experience inside our store.

Kristine Koerber – JMP Securities

Okay. Thank you.

Operator

And we will have our final question from Derek Leckow with Barrington Research.

Derek Leckow – Barrington Research

Thank you. Good morning.

Tommy Millner

Good morning.

Derek Leckow – Barrington Research

Tommy, over the last couple of years, you’ve done a lot of work on private label as well. And you mentioned some of the things that are impacting gross margin. I think the biggest impact right now is this mix shift toward the soft goods, but at private label obviously that’s going to be hitting in that soft goods area. So I’m wondering if we should be thinking about a gross margin improvement that also incorporates that private label shift. And what is private label today and where do you see it? If you just want to talk about the soft goods category, the apparel especially, where does that private label percentage come out in the next couple of years?

Tommy Millner

Well, private label across the enterprise is about a third of our assortment. And we like where that number is. So we believe, as we can see our customers shift from heavy purchases of guns and ammunition back into soft goods categories, both our branded soft goods and our Cabela’s brand, we will certainly benefit.

Derek Leckow – Barrington Research

So it’s bit of -- it’s fair to say it’s probably a greater impact during this shift over the six to nine months as it would have been, say, last year during the same time.

Tommy Millner

I’m not sure I understand your point.

Derek Leckow – Barrington Research

I think you guys you guys were increasing your private label percentage over the course of the last two years. Correct me if I’m wrong on that.

Tommy Millner

Yes, that’s not the case.

Ralph Castner

Not -- certainly not meaningfully.

Derek Leckow – Barrington Research

Not meaningfully, okay. Good. I was thinking about that in terms of a possible additional lift here. Okay. And then finally, just on the catalog, you said you are going to moderate the circulation. Is it going to be focused -- actually the circulation cuts are going to moderate. That means you’re going to be relatively flattish in circulation in total. And I wondered if you’re going to be spending a little bit more time with some prospecting or will it be more toward your core customers.

Tommy Millner

Well, I would say it’s going to moderate and it will be a balance between prospecting and our core customers. What’s really interesting is while we did see revenue decline in the direct business, albeit with a nice improvement in profitability, the metric that we really pay attention to is, were we able to increase our multi-channel customer. And to that point, we increased our multi-channel customer base by 8% in the quarter and 10% year-to-date. So we are -- in spite of the cuts in circ and page count, we are getting more customers, which is important.

Ralph Castner

Yes. To make sure everybody understands on these direct cuts, the biggest single thing that’s been changed with respect to the direct business is in the amount of pages in a catalog. Then after that, the next biggest thing is there have been some cases where we are used to hit a customer, let’s say, six times a year and now he is being hit five. There is very little change in the number of customers we are hitting there, the way we are hitting them from a prospecting versus activating new customers and reactivating old customers. That mix has actually changed very little. The result of that is the increase that Tommy mentioned on our number multi-channel customers.

Derek Leckow – Barrington Research

All right, great. Thanks a lot and congratulations. Good luck.

Tommy Millner

Thanks a lot.

Operator

That concludes the question-and-answer session for today’s conference. At this time, I’d like to turn the conference back over to Mr. Tommy Millner and management for closing remarks.

Tommy Millner

Thanks again for joining us today and we look forward to talking to you soon.

Operator

That concludes today’s conference. Thank you for your participation.

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Source: Cabela's Incorporated Q3 2009 Earnings Call Transcript
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