Mark Bierley – EVP and CFO
Mike Edwards – Interim President and CEO
Matt Fassler – Goldman Sachs
Borders Group, Inc. (BGP) Q4 2009 Earnings Call Transcript April 1, 2010 10:30 AM ET
Good morning and welcome to the Borders Group Incorporated fourth quarter and full year 2009 financial results conference call. Participants will be able to listen only until the question-and-answer portion of the call. (Operator instructions) Today’s conference call is being recorded. If you have any objections, you may disconnect at this time. Now I would like to turn the call over to Mr. Mark Bierley, Borders Group CFO. Sir, you may begin.
Good morning, everyone. I’m here today with Mike Edwards, who was appointed Interim President and Chief Executive Officer of Borders Group in early January. Thank you for joining both of us on the call this morning.
As always, I need to point out that today’s discussion may include forward-looking statements. These statements, among others, may include sales and earnings expectations and information related to corporate initiatives. Please refer to the news release issued yesterday and our most recently filed 10-K for information related to forward-looking statements, including factors that could cause actual results and plans to differ.
With that, let me start by discussing the financing that we just completed. As noted in our news release, we paid back the $42.5 million Pershing Square term loan and have retired that obligation. Separately, we have extended our asset based lending facility. This new $700 million secured facility will mature in March 2014 and replaces our existing revolving credit agreement, which would have matured in July 2011.
Bank of America, Wells Fargo, GE Capital, and JP Morgan acted as joint lead arrangers and book runners. Bank of America will continue to serve as our administrative agent. Borrowings under this facility will be used for general corporate purposes. The company also closed a $90 million term loan, which will also mature in March 2014, with the exception of $10 million of that facility, which Borders will pay over four months beginning in September of this year.
Bank of America acted a sole arranger and book runner on the facility, and GA Capital will serve as the administrative agent. Lenders are expected to include an affiliate of Stone Tower Capital; funds managed by Tennenbaum Capital Partners and Gordon Brothers Merchant Partners.
We are extremely pleased to have the continued support of our lending group and our new term loan investors who work with us to put this new capital structure in place giving Borders committed capital for the next four years. Of course, we will maintain our financial discipline, but with these facilities, we are now able to shift our focus towards the goal of driving sales growth, increasing market share, and improving profitability.
Mike will talk about our strategic approach in a minute. But before I turn it over to him, I’ll cover key aspects of the fourth quarter and full year 2009 performance. Overall, we certainly had our challenges in the top line. Yet our results illustrate that we were successful in the fourth quarter at maintaining our bottom line as well as maintaining our net debt and working capital position compared to last year.
Specifically, in the fourth quarter at Borders superstores, comp store sales declined by 14%. And comps in our core categories, excluding multimedia, were down 10.2%. Transaction comps were down 11.7% and average ticket was down 2.7%, driven primarily by price per unit, as units per transaction were flat.
Waldenbooks comp stores declined in Q4 by 8.5%, with transaction comps of a negative 9% and an average ticket increase of 0.5%. We closed 186 Walden stores in the fourth quarter, are in the process of converting the remaining 175 stores to the Borders superstore computer systems platform, which will help drive further efficiencies across the enterprise.
Overall for the company, inventory was down in the fourth quarter by 4.5% or $41.4 million compared to last year, driven primarily by Waldenbooks store closures. Borders superstore inventory on a per-store average basis was up 5.6%. But excluding multimedia, inventory increased by 15.9%. Our in-stock offers are in better shape than a year ago, and we’ve invested inventory into broadening our assortment as well as adding new product in the kids and teens area of our business.
In the fourth quarter, Borders superstores gross margin after occupancy was relatively flat to last year. Gross margin before occupancy for superstores improved last year by 60 basis points, but was offset by 70 basis points of negative impact as a result of occupancy deleverage. Specific to gross margin, we had 70 basis points of improvement that was driven by initial markup resulting from shifting our product mix to higher margin goods, promotional spending that was flat compared to a year ago, supply chain costs that were higher by 40 basis points as we restored our in-stock position, and markdowns and other cost of sales that were favorable by 30 basis points. At Waldenbooks, gross margins were significantly impacted on a like-for-like basis due to the store closures and aggressive sales promotion.
Ultimately, we sold through 100% of the non-returnable merchandise and 87% of the returnable inventory, which substantially eased the impact of these closures on our vendor partners. We made significant progress in improving our overall cost structure in the fourth quarter.
SG&A was reduced by $22.7 million driven by store payroll and store expense efficiency, as well as reduced corporate overhead costs. Supply chain costs were reduced by $2 million [ph]. However, these costs were higher than planned as we built up inventories for the fourth quarter and beyond.
By the end of the year, we successfully delivered on $120 million of expected overhead and supply chain cost savings we previously projected for 2009. Finally, we did benefit from the changes to the tax loss carryback rules in the fourth quarter, as we received a $32.4 million cash refund that we recorded in the P&L as well.
Overall, 2009 was a transitional year for Borders, as we continued to manage our expenses, close underperforming stores, address peculiar changes in music and video, implement an e-book strategy, and build a new management team. Within this context, the key financial highlights for us in 2009 were as follows.
Superstore gross margins before occupancy were 10 basis points higher than 2008. Interest costs were $24.1 million versus $45.4 million last year. SG&A costs were down $131.1 million compared to last year. We made significant reductions in underperforming multimedia inventory. Across our enterprise, multimedia inventory was down 40.7% from $175.7 million of cost to $104.1 million of cost. This was reclaimed in our cash flow – in cash flow generated through aggressive sales in our stores and returns to vendors.
We continue to receive strong vendor support as evidenced by our fourth quarter payable ratio of 40.1% versus 38.2% last year. Debt, net of cash, was reduced by $37.6 million from 2008 levels driven primarily by cost reduction, inventory improvement, tax refunds and the prudent need for capital.
I want to note that we are in compliance with our debt agreement as of the fourth quarter 2009. Capital spending in the fourth quarter was $6.7 million compared to $7.9 million invested in the same period a year ago. On a year-to-date basis, our 2009 capital spend was significantly reduced to $17.9 million versus $79.9 million in 2008. Our view for 2010 will continue to be prudent with capital spending.
That’s it for my comments. I’ll now turn it over to Mike who will talk about our strategic path forward.
Thanks, and good morning, everyone. As Mark said, I moved from the role of Chief Merchandising Officer to the Interim CEO position a few months ago. My background in building brands and completing operational turnarounds has often formed the current strategy and critical success factors for Borders.
I’m enthusiastic about our opportunities. At the same time, I fully understand the challenges facing our business. Borders has experienced declining sales, loss of market share, shrinking margins. These are trends that must be addressed and ultimately reversed. E-books, e-reader devices will have an impact on the business, and this digital shift demands our attention. We must be part of the revolution in every way that enriches our brand and engages our customers, as well as driving results. Our soft economy has put pressure on pricing and reoriented our customers to be value-focused, especially in the discretionary segments such as arts.
With these challenges and others, we must maintain our financial discipline while driving the top line. Increasing foot traffic to our stores, improving sales and growing market share by acquiring, engaging and retaining customers is core to our strategy. We will achieve this through a transformation of Borders brand as well as updating our business model. I believe the brand transformation is critical to unlocking the turnaround for Borders.
In pursuit of this transformation, we are focused on four key objectives. The first is improving the in-store experience and increasing customer conversion. The second is reinventing the Borders Rewards customer loyalty program. The third is leveraging community education and the power of social media. And the fourth is maximizing the digital opportunity, including growing the borders.com as well as developing strategic business partnerships.
As you all know, a big part of the in-store experience is selection. In the fourth quarter, we invested in rebuilding the inventory within the core and key book categories. This included regional assortments. We will continue our inventory commitment. We must have the right titles in the right stores at the right time to meet our customer demand and to ultimately improve the in-store experience.
Our business models shift over time to include a merchandise mix that has more customer involvement and focused on non-book items to complement our core assortment and provide growth. An example of this effort is what we found recently in our Paperchase gift stationery offerings and our core shops within our stores, Borders for kids and teens. Our in-store experience is also richer in a sense that we have gone behind our cafes and we’ve added free WiFi in the last quarter, which is both driving traffic and time in our stores.
Equally important is the success of our In-Stock Guarantee, a program we launched in the fourth quarter. Through this program, a customer who shops with us but cannot find an item in stock, we will find that item for it on borders.com and have it shipped to the customer’s home with no shipping charges. This helps retain our customers who might have left our stores unsatisfied. It also acquires new customers for borders.com as the orders replaced on our website by the customers in the store or at their home. Most importantly, the program gives our associates the confidence that they can meet every customer need on the spot. We expect this program to continue to grow as customer awareness of it increases.
We are also investing in redefining the in-store boutique touch [ph]. In LA [ph], we have already created specific areas for kids in our stores as well as our Paperchase shops. In addition, we invested in Borders, Inc. shops for teens and the teaching zones for educators. Kids, teens and families, we believe, represent the true growth opportunities for Borders. For example, we had great success with product launches such as Diary of a Wimpy Kid and the Stephanie Meyer franchise. We will continue to tie in social media, strategic partners, and work with our publishers to obtain exclusive content for our site to expand the Borders experience.
Categories like these, which include book and non-book products, give us the opportunity to drive an average ticket higher than we have been trending. Families in particular had an increased spend in our stores relative to individual shoppers, especially when they visit a store event. There is no doubt that one of the key elements of the in-store experience is staffing. In recognition of this, we have recently rolled out an optimized staffing model that shifts additional payroll to the sales floor. To support that, we are doing more to drive customer service standards, empowering our associates to execute, and rigorously measuring the standards.
These actions are critical in delivering a quality shopping experience for our customers, one that supports our brand promise, as well as helps us advance toward our overall goal, which is to improve the profitability of each and every store in the chain. About 37 million customers have signed up for our Borders Rewards program since it was launched. Today, this loyalty program is one of the largest in specialty retail. As such, it represents a distinct competitive advantage, especially as we look to leveraging the digital opportunities going forward.
That being said, we have not done all that we can do to leverage its strength. Consequently, we are revamping the Borders Rewards program to create a higher level of engagement with our customers. We are moving beyond the sharing of discount of the week and creating a program with enhanced personalization and a richer experience that will help drive sales and ultimately create a more productive shopping experience.
You will hear more about this in the upcoming months. However, I want to emphasize that we were not relying strictly on Borders Rewards to drive traffic in our stores. We are beginning to test new customer acquisition programs and we will continue to look at different ways to acquire customers as we move through the year, particularly into the important fourth quarter.
I said earlier that one of our objectives is to leverage community, education, and the power of social media. Borders must be more than a book store. We have the opportunity to utilize our stores and our web presence as a community gathering place. We must be creative in hosting customers for multiple purposes. This type of community generates traffic, provides access to merchandise, and provides a gathering place for our guests to interact and share experiences and inspirations.
Key to this strategy is a robust event program. Every day in our stores across the country, we host a variety of offers, celebrities and local favorites. So far in the first quarter, we’ve already hosted over 300 in-store events featuring national touring offers and thousands of local events.
To leverage the sense of community further, we deploy social networks such as Facebook, Twitter and YouTube, as well as work with our publishers on exclusive web content and extend the Borders brand experience. We also host national celebrations and invite customer groups to shop with us. In fact, we just held a successful education appreciation week and we recently announced some exciting roll process and exclusive sell out for the nation’s first national feature registry.
As you know, the digital revolution demands that we be proactive and creative in using our emerging technologies across all channels to attract customers and deliver a valued interactive experience and, most importantly, motivate sales and conversion. Based on the sales volume we are experiencing on borders.com relative to our competitors, it is clear that we have a significant and potential large upside. That is why we are investing and improving the customer interface, checkout and search capabilities. And we are very close to identifying a senior leader at the EVP level to drive this business.
With respect to digital books and e-readers, we have the unique opportunity for Borders as a device neutral, content focused, digital book provider. We are excited about our investment and partnership in Kobo announced last December. We promise to launch a partnership within the second quarter of this year, and we are right on track to do that.
We look forward to the new Borders powered Kobo e-bookstore that will become part of the borders.com experience. There will be over 2 million e-book titles available. In addition, the first Borders brand at mobile applications
]will be launched our relationship with Kobo, a relationship that will enable customers to purchase e-books from Borders on popular smartphones such as the iPhone, Blackberry, as well as other devices such as the iPad. We are excited to see the Kobo iPad application was named among the top amazing iPad apps by MasterBull [ph], one of the top technology and social media blogs in the world.
]also occupied a niche of neutral expert when it comes to e-book reader devices. We will offer a wide variety of e-readers for sale in all our stores with as many as 10 different models available in our highest buying locations. To support this, we also saw a comprehensive array of accessories and extended warranty programs.
Borders will offer its customers within its Wal-Mart digital shops called Area-e [ph] that leverage our existing info desk. Within Area-e, we will give our customers the opportunity to learn about and try different devices guided by knowledgeable experts on our staff. We expect to complete the rollout of Area-e to all stores by early fall.
In addition to the initiatives we’ve talked about this morning, we have dedicated ourselves to enhancing the company culture, ramping [ph] up new channels for our associates to share their ideas with our management group. We have systematically strengthened our field management team. We are more tightly disciplined about our store reviews and managing the service standards, as well as consistently monitoring financial matrix, all being done with the goal of improving the profitability of our stores.
That is the summary of where we are headed strategically. And now we will take your questions. Operator, will you take the first question, please?
Thank you. (Operator instructions) Our first question does come from John Balcom [ph] of Goldman Sachs. Your line is open.
Matt Fassler – Goldman Sachs
Thanks a lot. Good morning. It’s Matt Fassler at Goldman Sachs. Couple questions if I could. First of all, if you could refresh us on the parameters of the debt agreement, your bank agreement rather, and covenants just so that we can assess, like to have compliance going forward would be very helpful.
Hi, Matt, it’s Mark. We will file our debt agreements later today. Relatively straightforward and similar to the covenants that we had in place with the existing asset based lending facility, basically a minimum access availability covenant. But other than that, it’s relatively straightforward. So you can see the documents when we file later today, and as a summary, that will be in the 8-K that should give you a good overview of both the ABL as well as the term loan.
Matt Fassler – Goldman Sachs
Got it. Second question, are you contemplating material closings of Borders superstores at this point in time?
Matt, in the fourth quarter we closed five stores. We do have some stores that will come up for renewal this year. We are going to continue to have active dialog with our landlord partners. But as far as near-term maturities, there are not that many on the Borders side. So we don’t expect at this point, but again, we will have conversations as we go throughout the year, as those renewals are before us.
Matt Fassler – Goldman Sachs
And then finally, what do you think you need to see in the business be it from a top-line perspective or from a cost perspective that would enable the stabilization of adjusted EBITDA?
I think that from a sales perspective, we are not really going to give guidance on 2010. A lot of what Mike described, I think, is going to be the key for us stabilizing in the near-term, the top-line. As you saw last year in the first quarter, we moved through a lot of music and video through sales that we get. But as we pull through into the second quarter, again, we are looking for some of the initiatives that Mike talked to really provide greater traffic and stability for the business.
Matt Fassler – Goldman Sachs
Great, thank you.
(Operator instructions) At this time, I show no questions.
Great. Well, thank you, everyone. We appreciate your participation in the call today. And have a great day.
Today’s conference has ended. All participants may disconnect at this time.
Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.
THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.
If you have any additional questions about our online transcripts, please contact us at: firstname.lastname@example.org. Thank you!