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Jones Apparel Group, Inc. (JNY)

Q4 2009 Earnings Call Transcript

February 10, 2010 8:30 am ET

Executives

Wesley Card – CEO

John McClain – CFO

Analysts

Robby Ohmes – Bank of America-Merrill Lynch

Todd Slater – Lazard Capital Markets

David Glick – Buckingham Research Group

Ben Rowbotham – Goldman Sachs

Bob Drbul – Barclays Capital

Chi Lee – Morgan Stanley

Jennifer Black – Jennifer Black & Associates

Omar Saad – Credit Suisse

Operator

Ladies and gentlemen, thank you for standing by. Welcome to the Jones Apparel Group 2009 fourth quarter and year-end earnings conference call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. (Operator Instructions). As a reminder, this call is being recorded today, the 10th of February, 2010.

On this conference call, the company will be making forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995 about its business. These statements are based on current expectations of future events and are subject to a number of factors and uncertainties that could cause actual results to differ materially from those described in the forward-looking statements.

For a detailed discussion of these risks and uncertainties and other important factors that could cause actual results to differ materially from the company’s expectations, the company directs your attention to its Annual Report on Form 10-K for the fiscal year ended December 31st, 2008, including, but not limited to, the Statement Regarding Forward-Looking Disclosure and Item 1A-Risk Factors therein, and to its other filings with the Securities and Exchange Commission. The company does not undertake to publicly update or revise its forward-looking statements as a result of new information, future events or otherwise.

Before we begin, the company would like to point out that once again this quarter’s supplemental slides are available on the company’s website for download.

I will now turn the conference over to Wesley Card, Chief Executive Officer. Please go ahead, sir.

Wesley Card

Good morning, everybody. Welcome to our conference call to review the 2009 results we released this morning. Welcome especially on this beautiful snowy morning here in New York City. I'm sure that most of you in the mid-Atlantic states are listening from home this morning, but in any event, due – with the great technology, we can still have our call.

So we are very pleased to report another solid quarter of operating improvement this quarter. The fourth quarter 2009 revenue and the full year 2009 revenue were within our guidance. Operating profits were up sharply from last year and we generated a very strong operating cash flow for the full year, which we were very pleased and a very strong cash balance as well, which I'm sure you noted on the balance sheet.

Throughout 2009, we were focused on our core brands, managing inventories, controlling costs and expenses, and leveraging our scale. As a result, we entered 2010 in a position of financial and operational strength. Fourth quarter's improved results reflected these initiatives, as well as a less promotional environment throughout the fall and holiday season, which resulted in stronger gross margins.

Inventory levels at retail were generally in balance with demand, which resulted in lower markdowns across most categories. Economic activity is pointing generally to the beginnings of a slow recovery. Fourth quarter GDP growth was the fastest in more than six years. Fourth quarter consumer spending was up 2%. The Fed is holding interest rates down; commented in their last release, as you know, that inflation is expected to be subdued. New jobless claims appear to be moderating and unemployment is now just slightly under 10%. So all of this is translating into improved consumer confidence. We noted that the NRF is now forecasting a 2.5% increase in retail sales for 2010.

Holiday and January 2010 sales trends were very encouraging. As you know, we reported last week and retailers are now in a position to plan businesses more realistically. However, our customers remain cautious and are still planning inventory purchases very conservatively as we move through into 2010.

In general, we are very pleased with the position of our core brands and we believe we'll begin to show some sales growth later in 2010, especially as the economy improves, as we expect it will over the year.

So I'm going to now turn the call over to John to review our financial results in detail. And then, I'll discuss various brands and initiatives later on in the call. John?

John McClain

Thanks, Wes and good morning, everybody. This morning, the company reported its results for the fourth quarter of 2009. And as we detailed on our pre-release earnings in late January, on a GAAP basis, we reported a fourth quarter net loss from continuing operations of $130 million and a loss per share of $1.53 and that compares with a net loss of $823 million and a loss per share of $9.86 last year.

So the 2009 fourth quarter results include pretax non-cash impairment charges of $120 million related to the impairment of goodwill on the company's retail segment and $29 million related to the impairment of certain trademarks, primarily in the jeanswear business.

2008 fourth quarter results also include pretax non-cash impairment charges of $813 million related to the impairment of goodwill on the footwear and accessory segment and $25 million related to the impairment of certain trademarks that were also tied to that business.

These impairment charges are largely reflective of both macroeconomic influences, as well as longer-term industry trends that are being faced by many companies. These impairment charges have no impact on the ongoing operations of the company or our outlook for the future and have no impact on our debt or on our revolving credit agreements.

Remainder of my discussion will focus on the comparative operations of our businesses for all periods discussed and therefore, all income statement related references or net results are on an adjusted basis unless otherwise noted. Adjusted results exclude the impact of restructuring costs, impairment charges, and certain other costs that we do not consider part of our ongoing operations.

Excluding these items, adjusted EPS from continuing operations was $0.11 for the fourth quarter of '09 as compared with a loss of $0.04 per share in the prior year. As you are all well aware, this quarter saw the continuation of an uncertain economic environment for most companies. Consumer confidence is unsteady, but rising; unemployment continues to lag and may continue to do so for several more quarters, adding to the uncertainty. Customers are continuing to buy against this trend, which is translated into lower year-over-year revenues.

As we've been doing all year, we continued executing our strategy of focusing on our core competencies and streamlining our cost structure, which, as shown in our results, continues to benefit us through these challenging times.

We also continued to execute our retail improvement plan and have closed 99 locations since the beginning of 2009. These closures, coupled with an overall focus on the costs, resulted in a company-owned retail reporting a profit for the quarter as compared with a $13 million loss last year.

The fourth quarter total company net revenues were $777 million compared with $848 million last year, and remember that last year's fourth quarter had not been fully impacted by the 2008 financial crisis. So this 8% decrease in revenues is reflective of that impact and the overall current economic environment and is within the range given to you on October.

Considering the economic climate, we are pleased with the sales level. Total company operating income was $28.1 million versus $2.1 million last year and the operating margin was 3.6% versus 0.2%. This improvement was due to an increase in gross margin of 460 basis points and a decrease in SG&A of about $12 million. We continue to benefit from our intense focus on inventory management, which is part of our efforts to control costs across our business.

Before discussing the segment results, I'll highlight some balance sheet and cash flow items. Accounts receivable were $303 million at the end of the fourth quarter versus $370 million in the prior year, a decrease of 18%, driven largely by lower revenues. Accounts receivable turn on an annualized basis was 7 times compared with 7.2 times last year and the portfolio remains very healthy from an aging perspective. And we are also very pleased the credit markets for our customers have greatly improved over last year.

Inventory was $375 million at the end of the quarter versus $510 million in the prior year, a $135 million decrease or 26%. As we've been highlighting for several quarters, we have and continue to focus on maintaining the appropriate inventory levels relative to our sales plans and that those inventories remain current. Quality of our inventories continued to improve over the prior year. Inventory turn on an annualized basis of about 5 times was slightly better than last year.

During the 12-month period, we generated $349 million of cash from operating activities, which is a $173 million increase from the prior year. The year-over-year improvement is due to strict inventory control, lower level of working capital requirements, and the timing of some cash payments and receipts. We are very pleased with the cash flow results as it demonstrates management's operational discipline and focus on maintaining a strong balance sheet.

Total debt was $529 million, down approximately $253 million from the prior year and this reflects our repurchase and the maturity of the $250 million of notes which were due in November 2009. But even with this debt pay-down, our revolver remains undrawn and we ended the year which approximately $333 million of cash as compared with $338 million last year. A ratio of total debt-to-capitalization net of cash was 15.2% at year-end, reflecting the impact of the debt tender.

During the quarter, we continued to execute on our retail improvement plan and anticipate closing a total of approximately 265 stores by the end of 2010. Anticipated mix of store closing is still about 50-50 between mall-based stores and outlet stores. By the end of 2010, outlets will represent about 70% of our store base.

As I mentioned earlier, we've closed 99 locations so far this year, which benefited the 2009 results by about $4 million and we expect these benefits will rise to about $16 million in 2010 and $22 million in 2011 once the plan is completed. We remain conservative when considering new store openings and expect future openings to be heavily weighed towards the outlets. However, we will continue to test and evaluate new concepts like our multi-brand footwear and accessories concept.

So now, I'd like to discuss the fourth quarter 2009 results for each of our segments and this information is included in the slides that we posted today to our website.

For the quarter, better apparel revenues were $206 million compared with $258 million last year. In sportswear, Jones New York continues to perform well across the channel; and in suits and dresses, revenue performance met our expectations with suit separates continuing their strong performance. Segment operating profit margin for the fourth quarter improved to 3.1% in '09 compared with 2.9% in '08, which is due to improved merchandising and sourcing and the benefits of inventory and expense controls.

In jeanswear, revenue performance met our expectations with revenue in the quarter of $175 million compared with $203 million last year. We saw positive results in certain labels including Gloria Vanderbilt, Bandolino, and our private label business, but experienced weakness in the junior knits area and realized lower planned results in l.e.i. for the quarter as we anniversaried shipments for hot spots in the prior year and faced price compression.

Segment operating profit margin for the fourth quarter improved to 5.1% this year compared with 2.5% last year. The profit margin improvement is primarily due to improved merchandise planning, favorable change in the mix of goods shipped, the benefits of inventory and expense controls, and the absence of bankruptcy bad debt charges.

In footwear and accessories, revenues were $221 million this year versus $219 million last year. Revenues in the footwear business increased quarter-over-quarter, driven by domestic increases in our Nine West, Bandolino, Enzo Angiolini, and Easy Spirit brands, but were largely offset by lower international shipments, as well as revenue decreases in both handbags and jewelry.

Segment operating profit margin for the fourth quarter was 6.6% compared with 0.4% last year and the profit margin improvement was primarily driven by lower required markdown assistance due to improved product performance and leaner inventories, as well as benefits from expense controls.

In retail, revenues were $197 million compared with $201 million last year. The decrease here is due to a lower number of stores, somewhat offset by an increase in same-store sales of 2%. Same-store sales in footwear were down 0.7%, a result of a 4.3% decrease in malls, and a 2.4% increase in outlets. And apparel same-store sales were down 5.6%, while in our web business, comp sales increased 63%. During the quarter, transactions were down 11.4%, while our average unit retail was up 7.6%.

We are pleased with the fourth quarter operating results in the retail segment as we improved $15 million from a $13.5 million loss last year to a $1.5 million profit this year. Segment operating profit margin was positive 0.8% versus negative 6.7% last year. Results improved due to the closure of weaker stores and stronger margins. Improvements in margins were driven by lesser markdowns required to liquidate inventories as a result of improved product assortment and leaner inventories. And additionally, cost controls also contributed to the operating margin improvement.

So consistent with 2009, we focus on certain indicators of performance that we consider more predictable even during these uncertain times as we look to 2010. Based on our current view, we believe that the total company net revenue should range from $3.3 billion to $3.475 billion.

And on a segment basis, we forecast revenue in the following ranges; better apparel of $1.075 billion to $1.125 billion, up versus '09, reflecting our new initiatives in Robert Rodriguez; wholesale jeanswear of $750 million to $800 million, down slightly versus '09, reflecting the l.e.i. price compression; footwear and accessories of $925 million to $975 million, up versus '09, reflecting increases in each of the businesses; and retail of $675 million to $725 million, reflecting 2010 comparable store sales in the range of 2% to 8%, this compares with a full year 2009 comp sales of negative 4.3%.

In terms of consolidated guidance, first half revenue comparisons will be more difficult than the second half comparisons as the full effect of the economic downturn on the customer buying plans in the wholesale businesses was not really – fully realized until the second half of '09. So keep that in mind, we expect first quarter revenue will be down 2% to 5%.

Additionally, for the full year 2010, we are forecasting SG&A expenses to approximate the 2009 level. During 2009, we reduced SG&A by $92 million by reducing headcount and discretionary spending and no wage increases. As we look forward to 2010, we are planning for modest wage increases and may see certain other inflationary pressures. We remain focused on operational efficiencies to keep all of our costs in check. Our other guidance assumptions are included in the slides that we posted today on the web.

Finally, I'd like to discuss operating cash flow. In 2009, our operating cash flow of $349 million was very strong. Lower overall revenues and our focus on inventory management generated cash as our working capital decreased. In addition, we had some timing benefits where we collected some cash earlier than expected and some payments were due later than expected. So really, everything worked in our favor in 2009 as it relates to operating cash flow.

So keeping in mind the benefits of '09 and an expected 2010 working capital investment on top line growth, our 2010 target for operating cash flow is $100 million. We of course will continue to conserve cash through inventory and spending controls and we expect to end 2010 with over $300 million in cash, nothing drawn on our revolver, and no debt coming due for about four years.

That concludes my comments. And I'll turn the call back over to Wes. Wes?

Wesley Card

Thanks, John. Before I review the businesses, I'd like to highlight two recent announcements.

First, on January 31st, I announced the appointment of Richard Dickson to the position of President and CEO of Branded Businesses. Richard will be responsible for management of the wholesale and retail businesses worldwide. And as you saw in the press release we issued, Richard has had significant leadership, general management and merchandising experiencing – experience, working for major brands with global presence including Mattel, Bloomingdales, and Estee Lauder.

Richard embraces my people-first philosophy. He has a real passion for the retail industry and lots of experience in retail and for fashion. And I think he is going to be an excellent addition to the talented team here at Jones. He started Monday, he's been hard at work already and you'll get a chance to join me in welcoming him to Jones over the near term and you'll be hearing from him regularly in the future.

In other news, on February 4th, we announced the acquisition of Robert Rodriguez Collection. We are pleased to welcome the highly talented designer Robert Rodriguez to the company along with the CEO of the business, Nicola Guarna. Robert and Nicola are incredibly talented and position the Robert Rodriguez brand for very high growth in the future. And we see – we see tremendous opportunity to further penetrate this brand with its existing retail partners in the contemporary market and we will be evaluating additional product classifications for roll out including footwear, handbags, and other classifications.

We think that the company will benefit from our core competencies and expertise and infrastructure and sourcing, as well as our financial backing, and the luxury and specialty store channel has been a white space for us and we look forward to growing our presence in that segment. I would say that the response from the customers of Robert Rodriguez has been just outstanding and very supportive of them and their ability to grow in that segment of the business.

Now, let me go through the various components of our business by segment. First, in vertical retail, as John noted, vertical retail operations were profitable in the fourth quarter and we generated a positive comp store increase of about 2%. That's the first positive comp we've had since the third quarter of 2006. So we were very pleased with that.

Further, the comps in January were a positive 3.5%. We expect our losses in the first quarter to be narrowed considerably given all the restructuring that we have accomplished to date. The retail improvement plan is on track, we revitalized the merchandise assortments, updated and maintained the stores, controlled inventories, all of which have contributed to the positive results.

As John mentioned, also the outlet stores are doing well. The value channel has been strong in the current environment and this will be the emphasis for the future as we complete our restructuring plan.

As I noted on previous calls, Shoe Woo, our multi-brand footwear platform, still in test phase, is doing well. We currently have four stores opened and plan to open four more shortly and I would say around midyear, we are going to have a much better track record on which to evaluate the potential for this growth opportunity and we will be prepared to discuss that with you at that point.

Revenue from the e-commerce sites increased 65% in the fourth quarter to $20 million and for the full year, we did $54 million, which is up 67% from $32 million in 2008. All sites have been updated and are running well on the current technology.

In March, the Bandolino site will be replaced with a Shoe Woo website, which is going to offer an opportunity for all of our shoe brands not previously sold online to be exposed to web sales for the first time and it will include Bandolino, Joan & David, Enzo Angiolini, all of our brands not currently online. So we think this is a – another great opportunity for growth in the Internet business.

In wholesale apparel, I'm really pleased to report that if – when you look at the full year performance here, the operating margin was up by a full 120 [ph] basis points to 11.2% and that was accomplished in the face of a significant sales reduction in this segment as our customers reduced their open-to-buys and bought very cautiously in 2009. So that was really excellent operating improvement.

In 2010, we expect growth in the Jones New York brand, which is the largest component in this segment, more towards the second half. As John indicated, the comparisons are a little bit more difficult in the first quarter particularly and as we capitalize on competitive opening.

We also launched two new Jones brand components, both of which well received and well placed in the stores by customers, the Jones New York collection knit business, which is in the stores now and it performed very strong in its first month in January. And we also introduced the j Jones New York brand, the relaxed casual dressing styling of clothing, which has been shipped only into some selected Macy's doors in the south on a test – not a test basis, but a preliminary basis in fourth quarter. Did very well and we are now setting up across all doors, not just – it's not a Macy's exclusive, across all of our distribution for spring. And we think both of these collections are going to be excellent adjuncts to the Jones New York business.

Suits and dresses continue to strong, it fits with today's economy and the emphasis on value. We also expect dresses will have a – another strong spring summer season. It's been a key fashion trend and we expect that that will continue.

We continue to develop and build on Rachel Roy brand. Rachel's press coverage and publicity continues to expand. She did a clip on the Rachel Ray Show. She's been on Tyra Banks in the last several weeks. She's had excellent product visibility and Michelle Obama was on the Today Show last week wearing one of her dresses.

And so we are getting a very good publicity and press coverage to expand her image and presence throughout the country. Continue to utilize social media to feed that. Her Twitter account is getting a lot of attention. It was just nominated as best Twitter account by a fashion designer by a style coalition group. So that component of the marketing has been very effective, and it's where that customer shops.

The diffusion line, Rachel continues to perform and was one of Macy's top performers in the impulse department this past year. We've now expanded to 140 Macy's doors for spring 2010 and added 18 doors in Hudson Bay Corp. in Canada also for spring.

Lots of learning here. We've had excellent results, particularly in the large city stores and some of the suburban stores. We are studying the assortments and trying to balance out how we perform in the high-velocity urban stores versus the suburban stores so that we plan out for further growth in the future, but off to a terrific start with that brand.

Turning to jeanswear, the jeanswear division increased revenues in 2009 and again, I'm – I can't be more pleased to report the operating margin improvement there. That was 390 basis points to 9.5%, great improvement in the year. All brands contributed to this, Gloria Vanderbilt, l.e.i., as well as our other branded and private label businesses, all contributing to the full year improvement.

We've also announced some new initiatives in jeanswear recently. GLO jeans was launched exclusively with Kmart in January, further expanding our presence in the mass channel and I'm told the early deliveries are off to a very good start there. And we also announced several weeks ago we had partnered with the Camuto Group to launch Jessica Simpson jeanswear, which is now – looks like a launch in about 1,000 doors for fall 2010. We'll start shipping June into July of this year.

The customer acceptance and selling of this brand has been very strong. The Camuto Group has done a phenomenal job building this brand and the goal is to build it into a really major lifestyle brand and we are very pleased to be able to participate in that growth.

Turning to wholesale footwear and accessories, here is an apparel sales decline primarily due to economic conditions, not just in the U.S., but it's more of an international presence here and the international business was down, reflecting the global economy. But the segment operating margin, again, here improved 180 basis points to 8.3%, very strong performance. Nine West, Anne Klein, Easy Spirit, pretty much all of our other brands are all doing very well.

Footwear has been a very strong category, as you know, in fourth quarter, coming into January. A lot of that was driven by boots. We are in a strong boots cycle and noting – noted that right throughout the whole fall period. We think that's going to continue through spring, summer, and then fall will be another strong boot period. But we are also really pleased to note that the dress category for spring, closed-up dress shoes [ph] are starting to open up very strongly, which is a good trend for Nine West and our other brands as we are more concentrating in the dress category, which – it's an interesting trend. We haven't seen this strength in quite sometime.

Nine West is reentered into Nordstrom now in all doors with the first assortments just getting started there. So that's a very exciting move, Nine West Vintage America continues to perform. We had a very strong fall there and anticipate good spring penetration and then continuing into fall, when you ship back into the boot categories.

Handbags were satisfactory. We were about even with last year – with 2008. As you know, we are not really in a strong handbag cycle, continue to work on fine-tuning the products there. Costume jewelry, that was a much stronger category of retail this quarter. I think fourth quarter 2008, we were surprised and in kind of a down economy that was a weak category. But this year, it bounced back. Our product has much improved over last year, we have a new management running the business, the turnaround strategy is working and those results are improving. So I think we will show continued progress as we go through this year.

And finally, the international component of Nine West, which as I noted, was impacted by economic condition overseas and showed a sales drop, is really starting to turn. We noted we just had a major fall shoe market in New York last week. Orders are picking up and we are expecting – as worldwide conditions improve, particularly in the Far East, we are expecting a nice increase in revenue in this component for 2010.

So to conclude, as we begin 2010, we are positioned for a new phase of growth. As the economy begins to improve and hopefully, continues to improve, we expect to capitalize that – on that. We are entering the period in a position of financial and operational strength. Our brands are priced right at the sweet spot of today's economy.

And as you know, in this environment, customer loyalty is critical, consumers stick to brands that they trust and value. Diversification is also key and we are well diversified by channel as you know between department store and mass, luxury, retail and now, e-commerce.

We've got good balance in the portfolio and we see opportunities. We continue to gain floor space as some competitors exist. A good example, Jones casual business, Jones sport is – had a very good fall and is picking up steam as we go into 2010, Jones New York Signature has continued to grow. We continue to constantly update the merchandise and innovate the brand. I mentioned many of those initiatives in Jones New York, Nine West Vintage America, Rachel – Rachel Roy.

And we continue to look for new partnerships or acquire new brands such as Jessica Simpson jeanswear and Robert Rodriguez. I think those are good examples of attracting talent and good initiatives into the company. And I think our position and the improved results we've been posting has allowed us to bring that kind of talent in and have people coming to us with many ideas. We continue to build on the excellent relationships we have with our customers and on our reputation for excellence in execution.

So we are positive about our business, hope that these factors all lead to growth and enhanced profitability in the years ahead, and believe we are well positioned entering the year. Finally and – as always, I want to recognize the senior management team and all of our associates for their commitment and hard work throughout 2009. And I think as they close the door on the year, it was an incredibly difficult year, but their commitment, creativity, and deep experience, all contributed to the very positive results. So thank you to all of them.

I think with that, operator, we are going to open up for questions.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions). At this time, we will pause momentarily to assemble our roster. Our first question comes from Robby Ohmes, Bank of America-Merrill Lynch.

Robby Ohmes – Bank of America-Merrill Lynch

Thank you. Good morning. Can you guys hear me okay?

Wesley Card

Sure, Rob.

Robby Ohmes – Bank of America-Merrill Lynch

Actually, just a couple of quick questions. The first question was, I guess, for Wes. Coming off of the strong gross margins you saw in the fourth quarter on the tight inventory planning, could we see something similar this spring with such conservative planning going out there from your customers?

And then the second question was, as you look – as you look into your backlogs and you move through 2010, are you starting to see the – your customers move back towards higher price points and back up the continuum or are they still very focused on value and entry-level price points?

And then the third question is, Jessica Simpson, can you give us a little more sense of how big you think that business could ultimately be and also the margins of that business, say, versus an l.e.i.? Thanks.

Wesley Card

Let me take the second question. Second question was on the – whether the stores are trading up to better price – higher price points. I think the trend has been to get the price points down on both, I think, at the luxury and as well as the better and to focus on the price points where I think we are operating and provide great value.

So I don't see that changing. I think that's where the consumer has been shopping and the results have been pretty successful, I think at all tiers that we are the retailers have focused on value. Those lines have done well and the January comps are showing that trend pretty well. So I think where they are at is probably where they are going to stay focused as we go through the rest of this year.

Gross margin, that's one – we don't provide guidance on that, because it's so volatile and it really depends, partly on how the consumer responds throughout the year and the volatility there. I would say we feel very positive about the inventory positions. We have virtually no excess inventory as we enter the year. So margins should benefit from that. Clearance levels are down and I think retailers are going to see better margins as a result as they go through the first part of the year. And hopefully that all comes back to improving gross margin for us as well, although we are not forecasting that. We feel that all of the indicators are set up to provide that as a positive trend.

And the final question was on – well, we don't report at that level of detail on particular brands, but we do think it's a – this is a large opportunity. I think the – where we are going price point with this in the better zone is really important. We are going to be $49, $59 jeans and the stores very much like the styling of those jeans; the footwear has done exceptionally well as you know, the other parts of the business. I think we are going to be priced just perfectly, the jeans and the tops and other items that are around it in the stores when it hits. We – I think we are going to be in a really good sweet spot. This could be – become a pretty substantial business, but I hesitate to put a number on it at this point.

John McClain

And it starts to ship, Rob, in the back half of the year.

Robby Ohmes – Bank of America-Merrill Lynch

Got you. Okay, thanks a lot, guys.

Wesley Card

Yes, thanks, Rob.

Operator

Our next question comes from Todd Slater of Lazard.

Todd Slater – Lazard Capital Markets

Thanks very much. Todd Slater.

Wesley Card

Hi, Todd.

Todd Slater – Lazard Capital Markets

Hey, congratulations on the whole host of areas, you guys have really shown terrific improvement. I guess I understand the l.e.i. price compression, the hot spot issues. It seems like it's moved into some additional categories and getting some pretty good play otherwise. Do you think that your forecast is conservative or do you feel it's realistic?

Wesley Card

I think it's pretty conservative, Todd. Walmart is a – they put brands forward and back – they move the brands around in the floor a lot and – but it's – this is a brand that's performed well for them. I know they are very positive about the results and the brand and as we work through the price compression, it's something – that's their strategy and we have to endorse that and work with them on that.

I think the forecast is conservative because the brand has performed and hopefully, we are going to be able to do better than that. But we took our best shot at the early forecast on it and are working with them on plans to hopefully highlight l.e.i. again as we go through the rest of 2010.

Todd Slater – Lazard Capital Markets

Okay. And then I was just hoping you could talk a little bit more about the SG&A because you mentioned that you thought it would be flat in 2010, which is terrific in the face of some wage growth and other issues and I just wonder if you could talk about where you still have opportunity to cut costs and offset some inflationary pressures. And also, if you could talk about what you are seeing on the sourcing side for 2010.

Wesley Card

I – I'll start with the sourcing side and then John can comment on the SG&A. I think while there has been a lot of pressure coming from our vendors to raise prices and raw materials have been pressured up, so far it looks like we are going to be – we are not going to actually experience a lot of price hikes for this year. I think we are pretty well set out into fall in terms of the cost that we've been able to negotiate for our products.

I think though that as we get into the tail end of this year and into 2011, we are going to feel much more intense pressure on inflationary trends in all of our costs, whether it's raw material or labor. If you look at how China's economy, look at the export numbers reported yesterday and just how quickly that's rebounding, their manufacturing is surging again. So that has to generate some inflationary pressure and I don't think that's dissimilar to other parts of the Far East where we source most of our products.

So I think it's not going to be a real pressure on margin for this year. I think though as we get into next year, we are going to have to – I'm not really clear on what the strategy is going to be, whether we are going to see some selective price increases or how we'll deal with it. So I think it's – it is something that's coming now.

Todd Slater – Lazard Capital Markets

So based on all of your sourcing contracts for this year, would you say there maybe some savings there?

Wesley Card

I think we are – I think we are holding pretty steady to last year. What I do think – the opportunity of margin for this year is primarily in markdowns. If the consumer stays at the pace they've been buying and inventory levels stay in check the way they've been and we are able to chase into things that are working, effectively with our partners, we could see some gross margin improvement just on markdowns. And that – those are big numbers as you know. It's probably more important than how to cost track over the short term. I think that's what we are really focusing on.

John, you want to comment on SG&A?

John McClain

Sure. Within SG&A, I think there is two things, Todd. It's been a consistent theme over the last year or so for us. And one is within distribution and how we take advantage of shipping, whether we are able to bring in more goods on one coast versus the other and ship differently and how we handle things out of the Far East, et cetera. We continue to work those processes with our customers, it takes time. But that's one area where we could see some savings.

And the second is as we continue along with SAP and how we've driven efficiencies out of our processes through all the additional information that we've gotten from the system and now we start – in a process of implementing that system for the footwear business. And we believe that that will also generate some savings over time. We'll start that process, but it takes about two years to get it fully implemented, but we should see some additional savings there.

Wesley Card

Todd, I would add one footnote. We will be closing 166 more retail stores this year. And I would – we have 50 stores closing between January and February of 2010. So we are going to be down 50 doors right after that. That's also a good opportunity in margin, because closing those stores – the retail group has done a phenomenal job closing them without impacting operations and our results substantially.

But there is a little bit of a drag of margin, because we are basically self-liquidating through the stores, winding the inventories right down to the final date and shutting the doors and minimizing our exit costs. But that's dragging a margin a little bit. So that will start to reflect in better results as we go through the balance of the year as well.

Todd Slater – Lazard Capital Markets

Okay. So just following up on the retail piece and the restructuring done there with the comps turning positive and obviously the margins improving and you showed some profit in the fourth quarter, is there any reason you feel that business can at least breakeven this year?

Wesley Card

I think we – our plan is to at least be breakeven at a contribution profit level before some allocation of corporate expenses, which is – will be a significant cut in the loss for this year.

Todd Slater – Lazard Capital Markets

Yes.

Wesley Card

And that – if the comps were to continue very positive like this, I think we got a shot at doing better than that.

Todd Slater – Lazard Capital Markets

Great, got it. All the best to you guys.

Wesley Card

Thanks, Todd. I appreciate it.

Operator

Our next question comes from David Glick of Buckingham Research Group.

David Glick – Buckingham Research Group

Yes, good morning. And I add my congratulations to the progress you guys are making.

Wesley Card

Thanks, David. Good morning.

David Glick – Buckingham Research Group

I had – one of my questions was on retail, which you just answered. The second one, as you look at how the year plays out and you gave us some revenue guidance for Q1, should we think about it as kind of a gradual improvement as the year progresses? I mean, the Q2 buying by retailers is currently in line with what they do for Q1 unless you have some new product rollouts. But is there a chance we could see kind of Q2 at that tipping point where revenues could approach flattish and then think about the second half more in the low-to-mid single-digit range? Is that how we should think about the year unfolding?

John McClain

Yes. I think that's one way you could certainly go, David. So I think it's the first quarter where 2009 really hadn't been fully impacted by the '08 meltdown. So yes, I think that's certainly possible.

David Glick – Buckingham Research Group

Okay. And then also on the footwear front, clearly, that's a very strong business and you showed some strong guidance. I mean, have you – and we just had some footwear shows, so are you really seeing those future orders up in the kind of mid-single digit range? I mean, is that – are retailers really kind of reallocating more of their open-to-buy in the footwear sector when they – as they allocate across the store?

Wesley Card

Yes. We don't report on market-to-market, but we just finished the shoe show last week, got very strong indications on virtually all of our brands. So, we – I think we are going to have a very nice increase coming out of that market and I think also international as well, which was down last year as we went through the back half. So I feel that footwear is going to show some nice growth for the year as we work through it.

David Glick – Buckingham Research Group

Great. Thanks a lot, appreciate it. Good luck.

Operator

Our next question comes from Ben Rowbotham of Goldman Sachs.

Ben Rowbotham – Goldman Sachs

Thanks. My question is really on the cash flow outlook. What do you see the appropriate cash balance to carry on the balance sheet? And then if you had to prioritize between acquisitions, dividends, and share buyback, how do you see the $100 million in free cash being allocated over the coming year?

Wesley Card

Yes, I guess, Ben, as an ex-CFO, I’d like to have as much cash as (inaudible) much as we can get. I think we are in a – ending in a really positive spot probably. The inventory control just came through so strong at – probably higher than we would have expected mid last year or late last year. So we are really comfortable with that.

I think in terms of priority, the Robert Rodriguez acquisition, while relatively small, I think is evident to the kind of acquisition we want to do, something in a space that we are not that penetrated in, but something very close to our core that we know and understand and can help. So I think those kind of opportunities are great to take advantage of. It's going to be accretive. It's a small acquisition, so it's going to be obviously a small accretion, but we think there is a great opportunity to grow that business pretty significantly.

I think – so that's a good example of how we are thinking about acquisition. I think we would – we continue to look at many ideas and acquisition candidates, they come to us, we see pretty much all of them. And if others were in the right spot, I think we would make acquisitions.

And we looked at the dividend at the end of the year. We still think we are in line with S&P general averages. We'll continue to look at dividend over the year and I think we'll probably – share repurchases would be at the bottom of the list at this point.

Once you put another layer of cash on, I think, at the end of the year, it's probably a bigger question, but I don't think having a lot of cash is – have been very beneficial in this climate and something that we are very comfortable with having and gives us a lot of flexibility.

John McClain

Still need to be conservative.

Ben Rowbotham – Goldman Sachs

Makes sense. Thanks so much.

Wesley Card

Thanks, Ben.

Operator

Our next question comes from Bob Drbul of Barclays Capital.

Bob Drbul – Barclays Capital

Hi, good morning, guys.

Wesley Card

Hey, Bob.

Bob Drbul – Barclays Capital

I guess just a couple of questions, more on the outlook. From your wholesale customers, spring to fall, are there any numbers that you can give us, at least from the like the order book perspective in terms of whether there is increases or the magnitude of the changes and just sort of how you think it plays out because I think you talked about the Jones apparel, Jones New York line being positive for the back half of the year. Can you put any numbers around that for us?

John McClain

I think the guidance reflects kind of where we think we are in a range, downside to upside. Beyond that, we can't start breaking it down by division or by product line. I think we are going to start seeing some growth as we move through the fall orders and into the fourth quarter. I think one of the things that's going to be very clear once we finish – when you see all the January numbers from retailers is just how low inventory levels are.

And when we got through the – this next week or two, February as you know is a big clearance month, there is not a lot of goods – as many goods for clearance. You – I'm sure you all see it when you go to stores. You can just see how lean inventories are. And I think that's going to play out and retailers are going to have place bets and invest in those businesses that they think will perform.

So I do think there is going to be some nice steady growth that we are going to see when we have third quarter orders and fourth quarter orders. It's really hard to predict at this point and there is some element of replenishment in there that also plays into it. It's more difficult to forecast.

But we feel like we are in a gradually improving climate. Retailers feel the same way and I think we just want to be steady and sure in the bets we are placing. I don't think you are going to see a moment when it dramatically just – everybody ramps everything up 10% or 15% across the board. I don't think that's going to happen. I think very selective, careful planning is going to continue.

Bob Drbul – Barclays Capital

Got it. Thank you very much.

Wesley Card

Thanks, Bob.

Operator

Our next question comes from Chi Lee of Morgan Stanley.

Chi Lee – Morgan Stanley

Good morning, guys.

Wesley Card

Hi, Chi.

Chi Lee – Morgan Stanley

John, the comp guidance for a plus 2% to plus 8%, can you break out for us what your exceptions for the outlet stores versus the malls and how much of a comp lift we are actually seeing as a result of the closed doors?

John McClain

Well, if you look at the closed doors in the fourth quarter for instance, there is probably a drag of about 1% on the comps. So where we were 2% positive, you pull out those stores we are closing, ex those is probably about 3%. On the full year, if you look in the – mall stores, we think it could be in the 3% to 6-ish up range, value outlets in the 1% to 5% range.

Chi Lee – Morgan Stanley

Okay. And the balance of that then coming from a lift from the closed doors as you guys proceed through the rationalization?

John McClain

I'm not sure I understand that. What?

Chi Lee – Morgan Stanley

Well, just the mall up 3% to 6%, outlet up 1% to 5%, total guidance is up 2% to 8%. Is that correct?

John McClain

Yes. And then you've got the web, could up 15% to 25%.

Chi Lee – Morgan Stanley

Got it. Perfect.

John McClain

And then – I'm sorry, the last piece you need with that is the ready-to-wear in the 2% to 5%.

Chi Lee – Morgan Stanley

2% to 5%? Okay, great. And then a follow-up question on l.e.i. Can you guys talk about your ability to source into those lower price points? And how should we directionally think about margins within the l.e.i. business, 2010 compared to 2009?

Wesley Card

I think we'll be pretty consistent, Chi. We've been able so far to effectively source them without damaging the product or taking out of the product. The – a little bit of construction tweak here and there, but we feel really confident the product is the same quality wise as the consumer will view it and with the volumes involved, it's a little bit of a negotiation plus, because you have got such high volume. So I think we are going to hold okay for this year.

Chi Lee – Morgan Stanley

Great. And last question, Wes. You mentioned – I mean, as we really proceed to February, stock levels look very low at retail. Can you talk about what capacity you have to really fill in stocks into the second quarter if we are really that low coming out of the first quarter?

Wesley Card

We can fill in more basic items, basic fashion colors and that, but when you get into the real fashion colors or dancing materials on shoes and things that aren’t readily available, you become more limited. So it's difficult to chase a fashion business, but on the basic items within that component, I think we are going to have a better chance of chasing into second quarter.

Chi Lee – Morgan Stanley

Great. Thank you very much.

Operator

Our next question is from Jennifer Black of Jennifer Black & Associates.

Jennifer Black – Jennifer Black & Associates

Good morning and let me add my congratulations as well.

Wesley Card

Hi, Jennifer. Good morning.

Jennifer Black – Jennifer Black & Associates

Hi. I'm curious to know about – I have a couple of questions about the productivity difference in the Shoe Woo versus your other retail footwear concepts. And I wondered if you've put any kind of a number on the potential numbers of stores and I realize it's still in a test, but have you given any thought to that? That's my first question.

Wesley Card

The comps have been – when we compare the comps to the stores that were previously in the locations where we had that, we've gotten great productivity, better comps than the chain was experiencing. So I think we want to evaluate that in the context of growth through a full cycle and with different concepts.

We now have a free – we have a store and a mall where there is no penetration in Nine West footwear in a suburban mall, we are in a high-traffic street location in New York, we are in a mall in New Jersey where we do sell some of our products and the anchors, we're in Union Station in Washington, and we will have other tests to round out different concepts and formats.

Could there be 30 or 40 stores? I guess that potential would always be there just given the number of good locations in the country. Whether we do it or not is – we are going to test it – I want to be very confident before we start signing a lot of leases on a new retail concept, because I've just – we've just gone through a lot of closings and we are going to be very prudent and careful, which I would think that shareholders would want us to do before rolling out a chain, even if the early results look really good and I think I just want more time to test, take a conservative approach.

But it's – the multi-brand format, we think is really key and if you look at the malls today, there is very little – there is hardly any women's shoe stores left in malls in terms of really good fashion shoe stores. You think about it, it's wide open, it's – the question is whether women would prefer to shop in a multi-brand environment and that's really what we are testing in this whole concept.

Jennifer Black – Jennifer Black & Associates

Great. Okay. And then I wondered you've been highlighted in the Nordstrom rewards program for their best customers, which is really quite a compliment with Nine West. And also, I think you're doing it with ELLE magazine, and I wondered if Fred Allard is going to be making personal appearances and what his involvement will be a spokesperson over the course of this next year.

Wesley Card

I'm not sure what his involvement with that program will be, we are really pleased about that. We – Nordstrom is generating some really excellent results and we are really happy to be intensifying the business there, they are a terrific retailer. Fred has done a lot more personal appearances on behalf of the brand, which have been pretty effective, a lot internationally, he was in London in Harrods, he was in Turkey and as you know, Nine West is in 65 countries and 1,000 points of sale around the world and he's been doing a lot of appearances there and had some as well set for the U.S. So it is an effective way to create excitement around the brand.

Jennifer Black – Jennifer Black & Associates

Okay, great. And then I guess lastly, I wondered if the Jessica Simpson launch in jeanswear and knit tops – and I know it's very premature, but are there any other significant categories that could be added to that should this be as successful as I think it could be?

Wesley Card

I do think in – what in our fortes would be sportswear. I think there is a sportswear opportunity. We don't have a license signed there at this point, we want to launch this – we've had a great launch working with Camuto Group, as well as the actual Simpson family who are deeply involved in this whole process, and we are off to a terrific start and I would hope that we could add a category such as sportswear sometime in the future.

Jennifer Black – Jennifer Black & Associates

Great. All right, well, congratulations and good luck.

Wesley Card

Thanks. Operator, this will be the last question.

Operator

Thank you. Our last question is from Omar Saad of Credit Suisse.

Omar Saad – Credit Suisse

Thank you. Good morning.

Wesley Card

Hi, Omar.

Omar Saad – Credit Suisse

Wes, I wanted to ask a little bit more about Robert Rodriguez and your thoughts on M&A. I mean, obviously you guys have done an incredible job managing the cash, working capital, and driving cash out of the business. The company – years ago, M&A used to be a big part of their operating platform as obviously you know. Are you kind of going back to that standpoint and what's your views on acquisitions and strategy on acquisitions? Was this more of an opportunistic deal or were you looking – have you been looking to fill this white space for sometime? Just some more general color on your thoughts on this deal in particular and the strategy going forward.

Wesley Card

Well, it does fit into our – the strategy. We've been working on moving up into the contemporary brand and the luxury for better specialty doors for some time. And Rachel Roy was the first initiative there and we have the Rachel line in the luxury department stores and there is a Rachel Signature line that's being introduced into the finest specialty stores, Neiman, Saks and others for spring – not Saks, excuse me, Neiman, Bloomingdales and others, which is more in the contemporary zone, which we think is going to be a very potent opportunity and then as well as the Rachel line down below.

So filling that space has been a strategy and as we look at ideas, we are looking for ideas that are – brands that are small and can grow into something significant. Robert Rodriguez is penetrated already, only doing $18 million in sales, but penetrated in 600 doors around the world. They have excellent penetration with limited resources and limited inventory and styles – depth of styles behind that penetration. We just think it's right for further penetration in doors they are in, significant growth there as well as adding other categories, which we are pretty excited about.

So that – it fits well within all of our criteria although it's relatively small. I think the strategy historically and now that we've turned the corner and started to feel on solid ground is if we can generate single-digit growth out of our big core brands and continue to expand those, which we are – we think we are in a spot to turn that corner this year, use that infrastructure and leverage that – those results, plus selected acquisitions, we can hopefully generate good strong top line growth and double-digit bottom line growth. That was all – that was the previous strategy as we articulated. I would like to get back to that. I think we are finally feel – we feel like we are on solid ground now and the balance sheet is in such great shape that we can take advantage of those opportunities as they arise.

Omar Saad – Credit Suisse

Okay, that's helpful. And then one last follow-up question. Walmart, the mass channel, l.e.i., what have you learned there? How are you viewing that channel going forward long term? How much exposure would you like to have for that channel?

Wesley Card

I think with – it's been a great experience, we built a very big business quickly. We have a great relationship with Walmart. It's really – their strategy has to coincide with ours here. They saw a private brand that they thought fits very well and complemented their portfolio and it worked well.

So if we could find other opportunities like that, we would certainly take advantage of it. I think that mass is critical to so many shoppers there, it's not a channel you want to ignore. We are working on – we are working with Target to do a Mossimo dress program. We've been working on that with them for quite some time, relatively small at this point, but hopefully will lead to some further penetration there. I think we just continue to work all channels because we can do it pretty efficiently with the infrastructure that we've got.

We – everything is being built off of the same backbone, you are just using slightly different sourcing metrics and the raw materials are a different type of sourcing and that all fits into the backbone of the company that we've got. And I think it's a channel we will continue to focus on and look for opportunities. They are not easy to come by, because many labels are trying to move down the channel and I think that mass channel has a lot of selection right now in terms of people wanting to move down there with labels that probably wouldn't have been talked about before, just to take advantage of the huge volume that's being done.

Omar Saad – Credit Suisse

Great. Thanks for taking my questions.

Wesley Card

Okay. Thanks, Omar.

John McClain

Thanks, Omar.

Wesley Card

Okay, everybody. I think, operator, we are going to conclude the call. So thank you very much for listening in this morning, and we look forward to talking to you as we work through the year 2010. Good day.

John McClain

Take care.

Operator

Thank you. The call has now concluded. You may disconnect.

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Source: Jones Apparel Group, Inc. Q4 2009 Earnings Call Transcript
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