Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)
TRANSCRIPT SPONSOR
Wall Street Breakfast

Saks Incorporated (NYSE:SKS)

Q2 2007 Earnings Call

August 21, 2007, 10:00 AM ET

Executives

Stephen I. Sadove - Chairman of the Board and CEO

Kevin G. Wills - CFO and EVP

Stephen I. Sadove - Chairman of the Board and CEO

Ronald L. Frasch - President and Chief Merchandising Officer

Analysts

Debra Weinswig - Citigroup

Stacy Turnof - Merrill Lynch

Shelly Hendler - Bear Stearns

Carla Casella - JP Morgan

Todd Slater - Lazard Capital Management

Melissa Otto - WR Hambrecht & Co

Michael Exstein - Credit Suisse

Samira Fink - AGN Bank

Ryan Renteria - Karsch Capital

Presentation

Operator

Good morning. My name is Lushaira, and I will be your conference operator today. At this time I would like to welcome everyone to the Saks Incorporated Second Quarter Earnings Conference Call. [Operator Instructions]. Thank you.

Mr. Sadove, you may begin your conference.

Stephen I. Sadove - Chairman of the Board and Chief Executive Officer

Thank you very much. This is Steve Sadove, Chairman and CEO of Saks Incorporated. I'm joined today by Ron Frasch, President and Chief Merchandising Officer, Kevin Wills, our CFO and Julia Bentley, our Senior VP of IR. I would like to thank each of you for taking the time to join us today.

Today, we're going to discuss the financial results for the second quarter and six months ended August 4, 2007 and update you on several other business matters. At the end of the call, we will be glad to respond to any questions you might have.

Let me note that some of the comments on the call today, as well as some of the information presented in our earnings release related to future results or expectations, are considered forward-looking information within the definition of the federal securities laws. The forward-looking information is premised on many factors, and actual consolidated results might differ materially from projected information, if there are any material changes in our assumptions. For a description of the meaningful risks and assumptions related to these projections, please refer to the release and our more recent recently filings with the SEC, including our most recent Form 10-K.

I will ask Kevin to briefly comment on the second quarter performance and the balance sheet.

Kevin G. Wills - Chief Financial Officer and Executive Vice President

Thanks, Steve, and good morning, everyone. For the second quarter, we realized substantial improvement in operating performance, primarily driven by our 13.2% comparable store sales increase, a 270 basis points gross margin and expense leverage. Our second quarter net loss totaled $24.6 million or $0.17 per share which included approximately $4.3 million or $0.03 per share of net after tax charges, primarily related to severance, retention and transition costs, asset impairments and disposition and loss from debt extinguishment. This compares to the prior year second quarter when the company posted a loss from continuing operations of $53.1 million or $0.39 per share, which included net after tax charges totaling $18.1 million or $0.13 per share related to asset impairments, severance, retention, investigations, and a FAS 123R adjustment relating to our May 2006 special dividend.

Excluding the certain items just mentioned, our second quarter operating loss would have totaled $25.9 million compared to an operating loss of $49.2 million for the second quarter last year.

Let me now turn to the balance sheet. Quarter-end comparable store inventories increased approximately 23% over the last year, attributable to a planned increase at SFA. As we have described previously, the increased inventory levels reflect our ongoing initiatives of a targeted inventory reinvestment strategy that is leading to increased sales productivity. These investments were based upon a detailed planning process for entire store base and a review of benchmark and competitive data.

Just to reiterate, of the incremental inventory investment, approximately 40% relates to replenishment of continuative products which we believe has minimum mark down risk. The balance of the increase relates to strategic investment in key items and vendor intensification in such high potential areas as shoes, handbags, men's, and in certain core designer ready-to-wear brands. We believe these investments carry low to moderate risks and we are experiencing above average growth in all of these areas. We continue to expect that our inventory levels will be more in line with sales growth by fiscal year-end.

We ended the quarter with approximately $128 million of cash on hand and at quarter-end, the company has no direct outstanding borrowings on its $500 million revolving credit facility. Funded debt, including capitalized leases, at August 4th, 2007 totaled approximately $575 million and our debt to capitalization ratio was 33.7% and this was without giving effect to cash on hand. The cash on hand and funded debt balances reflect the repurchase of $106.3 million of senior notes given this year.

Steve, I will now turn it back to you.

Stephen I. Sadove - Chairman of the Board and Chief Executive Officer

Thanks Kevin. We are pleased with significant improvement in our operating performance for the second quarter which primarily was driven by strong comp store sales growth, substantial gross margin rate expansion and meaningful expense leverage. I believe that the second quarter comparable sales growth of 13.2% indicates our customers are responding to our focused merchandized assortments as well as our customer service and marketing initiatives.

The number of transactions and the average dollar per transaction rose during the quarter. We expanded our gross margin rate by 270 basis points, primarily as a result of fewer markdowns. Nearly, all merchandise categories performed well, especially men's apparel, accessories and shoes; women's contemporary and designer sportswear; women's shoes; and handbags.

We generated solid performance across all geographies and store sizes, from our flagships to our smaller market locations. The sales performance was achieved in spite of disruptions caused by several major store remodeling projects currently underway.

Our New York store flagship once again posted very strong sales, even though extensive construction was in progress, as we remodeled to accommodate our beautiful relocated and expanded shoe department, which just opened last week. This department moved from a confined space on the fourth floor to the eighth floor. The marketing behind this concept has been superb, and we created a concept of, it was so big that it required its own zip code, 10022-SHOE, and we have doubled the space, improvement in the number of luxury brands. And we made this probably the best luxury shoe department in the city, perhaps in the country.

Last Thursday’s opening was kicked off with a live broadcast by the Today's Show and the new department is being showcased where we host a creative marketing and several special events and personal appearances by designers. As an aside, many of you may have seen The New York Post three page spread that ran last week in support of the launch, and it really just has been an incredible experience.

We continue to market and make other targeted capital investments, particularly in high end impact vendor shops and first-floor selling space with a heightened focus on return on investment. An example of the success of our focus made to our capital strategy is the recently completed renovation of our Beverly Hills flagship. We remodeled and expanded handbag shops for several existing vendors like Gucci, Prada, Chanel and Louis Vuitton, added a Fendi shop and undertook a complete renovation of our shoe and jewelry department. Revenues for this store were in excess of 20% in the second quarter.

We are executing this type of capital project in several other stores this year. Renovations at Phoenix and South Coast Plaza in L.A. will be complete in October. Our Boston total store renovation which began in 2006 will be complete next month. The renovation and expansions of two important Florida stores, Palm Beach Gardens and Naples are underway. Palm Beach Gardens will be complete in early November and the projected completion date for Naples is fall 2008. Our capital spending should total between $125 million and $150 million in the full fiscal year.

On the marketing front, we will launch our fall "Want It" campaign next month featuring key items supported by catalog special events, in-store visual displays and heightened clienteling. We are excited about our fall "Want It" item selection which includes capes, textured cardigans and high heels for women and tuxedo dressing and novel ties for men.

Also in the marketing area, we are driving increased customer acquisitions and retention and continue to rebalance our marketing spend through more targeted and localized efforts.

The Saks Direct business posted a sales increase of approximately 40% over last year's second quarter in spite of some disruptions last July as we undertook a major upgrade of the site. As we enhance our merchandise offerings and service features, more customers are buying more products and more frequently, online.

We are continually adding new vendors and designers and enhancing the service functionality and editorial content of the site. We expect to continue to drive outsized growth in the direct business for the balance of 2007 and beyond.

Off 5th was another bright spot as we refined the merchandise assortments with more direct purchases from core vendors and introduced additional, private brand product to the outlet stores.

We continue to improve the customer experience and drive sales productivity through the roll out of our new point of sale and clienteling system. To date, we have implemented this in 23 stores including the New York flagship. The balance of the store base will be converted in spring 2008. This one-of-a-kind system provides very detailed customer data at the point of sale and allows our associates to communicate with and service their clients much more frequently and effectively. The transition to the new system has been smooth and we have experienced overwhelming, positive associate and customer feedback about the enhanced capabilities.

This year we are on track to expand our performance based commission programs, which should approximately increase the number of high performance... which should increase the number of high performance selling associates. By year-end approximately 85% of our volumes will be driven by commission-based selling.

Excluding the certain items called at in the press release, such as retention, severance and transition expenses and investigation related expenses, second quarter year-over-year SG&A dollars increased by approximately $21 million, principally related to higher variable expenses associated with a $90 million sales increase. Excluding certain items we achieved approximately 60 basis points of improvement in the second quarter SG&A expense rate as a percent of sales. We also leveraged other operating expenses, rent, depreciation and taxes, other than income taxes by a 110 basis points in the quarter.

While we still have a long way to go, I’m very pleased with the progress we’ve made year-to-date on many fronts. The key takeaways on our accomplishments are as follows.

We completed the consolidation and integration of all corporate functions so that our organizational structure has been streamlined and appropriately sized. Our merchandise assortment has been substantially improved, resulting in outsized comparable store gains and expanded growth margins.

The customer experience has continued to improve through the roll out of our new point of sales system to a total of 23 locations and through the expansion of performance based commission programs.

We developed a comprehensive plan to implement additional refinements to the merchandised planning and allocation organization, processes and systems which have further improved margin growth performance over time. We’ve continued to make targeted capital investments, particularly in high impact vendor shops and first-floor selling space.

Let me ask Ron Frasch now to make a few comments about our merchandising and system initiatives.

Ronald L. Frasch - President and Chief Merchandising Officer

Thank you, Steve. Early last year, we embarked on several key merchandising initiatives, all focused towards driving volume and improving our productivity. Let me spend a minute giving you an update on these initiatives, and about certain additional modifications to our planning and allocation organization and processes that we believe will be key drivers for sales and gross margin improvements in '08 and beyond.

You’ve heard us talking about our parallel planning process, a collaborative process between buyers, planners, marketing and store mangers to ensure understanding of the core customer in each of our stores. This process has been implemented in a phased approach and is really two-pronged… focused on tailoring our assortments at the local level and identifying volume opportunities based on inefficient, insufficient or ineffective inventory investments. We are experiencing success on both fronts.

Since our first round of parallel planning in Spring '06, we’ve made much needed targeted inventory investments in adding several key vendors to our stores, building a more congruent offering and substantially growing our core businesses. Our inventory investments and intensifications are paying off, as our specific investment categories of women sportswear, handbags, footwear and men’s all outperform our portfolio in the second quarter. In fact 45 of our stores have now been through this formal parallel planning process which is about 85% of our total volume and another six stores have gone through an abbreviated process in conjunction with their remodels. The completion of the balance of the store base is scheduled this fall.

Additionally, we’ve gone back and revisited with all 13 stores that participated in the first cycle last spring and are making merchandised requirements where appropriate.

Next was the 9-Box grid process, whereby merchandises classified along the lifestyles of Classic, Modern or Contemporary and the price points of Good, Better and Best. Simply put, we felt our assortments were out of balance and did not fully represent the needs of our customers either in sensibility or price-point. By utilizing the 9-Box approach, we’ve been able to target investments in businesses with the intention of balancing our assortments. This process is working, evidenced by the fact that our second quarter and year-to-date growth were spread relatively evenly across the 9 boxes.

Next we completed the roll out of our new i2 merchandise planning system this spring to affect the Fall '07 merchandised plans. This financial planning process is enabling our planners and buyers to better maximize the sell-through opportunities of our stores by focusing the plans on fashion delivery by allocation and full price sales.

We will make modifications to the initial version of this new planning system through the balance of '07 and would anticipate realizing the full benefit of this system in the second half of '08.

Finally, in the last several months we’ve been working with Kurt Salmon Associates, KSA to further enhance our assortment and allocation effectiveness. The major thrust of KSA’s work relates to the enhancing, the enhanced buying and pre-market processes supported by improved systems, for both assortment and allocation. And a strengthened planning organization with more clarity around roles and responsibilities. We’re investing incrementally in both systems and people to build a merchandising organization that will enable us to deliver these improvements. We have and continue to work with KSA to make modifications to our new assortment planning and allocation systems. And regarding the organizational structure, our longer terms plans will operate with nearly a one-to-one buyer to planner ratio versus our previous ratio of only one planner for three buyers.

We believe that by increasing our planner to buyer ratio we will enable our buyers to spend more time in the market developing assortments that fit the specific needs of our varying markets and customers, while being provided much needed increased analytical support.

Today, we've rolled out the KSA buying and pre-market process changes in our Men’s division which represents about 15% of our business. We believe we will begin to see gross margin expansion in this area beginning in the first half of '08. We’re currently rolling out the new KSA processes in our accessories division which represents about another 25% of our volume. And plan to complete the roll-out in Women’s Ready-to-Wear, another 40% of our volume, in the first half of '08, with gross margin expansion being realized in fall '08 and '09 respectfully in these areas.

In summary, I’m very pleased with the progress we’re making on our merchandising initiatives. We’ve been extremely disciplined in our approach to change by intentionally employing a phased-in approach and closely monitoring our results and making adjustments as necessary.

Stephen I. Sadove - Chairman of the Board and Chief Executive Officer

Thanks, Ron. Thanks, Ron. For the balance of this year, we’ll continue to execute strategies for the long-term success of the business including further improving by-store merchandising assortments making additional refinements to the merchandised planning and allocation organization, processes and systems, effectively targeting and allocating our marketing spend, continuing to improve the customer experience and making additional targeted capital investments with a focus on return on investment. We also expect continued outsized growth in our Saks Direct business.

This fall we begin to anniversary the significant improvements made in our gross margin rate and expense leverage over the last 12 months. And consequently don’t anticipate achieving the same degree of gross margin expansion and expense leverage for the balance of the year.

As I previously stated, and as Ron just discussed, we are early in the process of implementing the incremental systemic and operational changes that are required to generate significantly improved operating performance over time. I remain optimistic regarding our long-term strategic plans and believe we can deliver additional operating margin expansion in 2008 and 2009 as we benefit from these current and ongoing strategic initiatives.

With our year-to-date performance, we remain comfortable that our operating margin should be approximately 4% this fiscal year based upon several assumptions for the balance of the year that were outlined in this morning’s release; including comparable store sales growth of high single digits.

Due to the retail calendar shift and promotional adjustments we expect to see outsized comparable store sales growth in August, September and November; and below average comparable store sales growth in October and December. Relatively flat gross margin rates; the biggest opportunity for gross margin rate improvement in 2007 was in the current second quarter with a 270 basis point improvement achieved. Additional gross margin expansion is anticipated in future years as the recent and further scheduled refinements to the planning and allocations systems, processes and organization positively impact the company’s performance.

In the short-term as we add to the planning and allocation organization, we'll not achieve leverage of this component of cost of sales. As a note, the inclusion of the 53rd week positively impacted last year’s gross margin rate by 30 basis points for the fall season and 50 basis points for the fourth quarter.

Modest SG&A expense leverage a percent of sales excluding the impact of certain items previously outlined including severance, retention and transition expenses and investigation related with legal expenses. We do not expect to achieve the same degree of SG&A expense leverage delivered over the past four quarters as a significant leverage that began last year is anniversaried. And modest leverage of other operating expenses, rentals, depreciation, taxes other than income taxes.

We remain confidant that we can close the gap and operating margin with our peer group over time and that an 8% operating margin is attainable within the next three years or so. This improvement in operating margin is predicated on substantially improving the productivity of our store base, enhancing our gross margin performance and leveraging our expense structure over time. We’re very pleased with the progress that we’ve made to date towards that goal.

I continue to be optimistic about the future of the luxury sector, and particularly of the Saks Fifth Avenue business. While we have a lot to do, we have accomplished a lot so far. We have a wonderful talented group of associates and I am very pleased with the level of team work and collaboration throughout the organization. I believe we are improving the strategic positioning of Saks Fifth Avenue through our merchandising, service and marketing initiatives, and as a result are on track to achieve our operating margin goals.

At this time we'll be pleased to entertain your questions.

Question and Answer

Operator

[Operator Instructions].

Your first question comes from Debra Weinswig, with Citigroup.

Debra Weinswig – Citigroup

Thank you, and congratulations on a great quarter.

Stephen I. Sadove - Chairman of the Board and Chief Executive Officer

Good morning, Deb.

Debra Weinswig – Citigroup

Good morning. Steve, can you provide some additional color on the strategy at Off 5th and also the square footage growth plans for that division?

Stephen I. Sadove - Chairman of the Board and Chief Executive Officer

Sure. We are very pleased with the progress that Off 5th is making. We saw improved comp store sales performance in the quarter. And as we mentioned in the release, what we are starting to see is direct purchases from our vendors, many of them are starting to cut product directly for Off 5th. We are seeing an improvement and a growth in our private brand business as a percentage of sales, as we have started to do more of the dedicated Saks Fifth Avenue branded products. So the component, that sell-off, sell-off will always be an important part of the Off 5th franchise, the leftover product from full line will be a less of a percentage, as this becomes more of a distribution channel as opposed to a sell-off channel. If you look at our competitors, many of them are looking at it as a distribution channel as opposed to just a leftover sales channel. So we see a good growth in the future in Off 5th.

I think you are going to start to see more units opening in Off 5th. It's not going to be a dramatic increase, we have 49 Off 5th stores today. I think that you are going to probably see 5% growth in units, maybe 10% in the long-term, but I think a couple of units a year over the next year or two as we get the model right. But I think it's going to be a gradual evolution in the number of stores, it's going to be upward. If you look at our competitors they are in the hundred range. So theoretically there is a substantial growth opportunity, but we really still have to get the model right. But I am very optimistic about the trend that I am seeing.

Debra Weinswig – Citigroup

And you also talked about the increase in high performance selling associates driving improved customer experience. Is there anything that you are doing in terms of training program to kind of continue to propel them to, not only interact in a different way with the consumer as they're kind of moving to more commission based selling. But anything else from a training perspective that they are going through right now?

Stephen I. Sadove - Chairman of the Board and Chief Executive Officer

Well, I think you are seeing very dramatic changes in the entire selling environment and culture within the company. The commission base obviously helps, being up at 85%-90% commission based selling makes a big difference. I think the other point is that with the rollout of this point of sale system, the clienteling system is having enormous impact because what we are doing is using the new systems and the abilities it provides the associates to interact differently with their associates whether it's posting pictures of the product on email, conversing with them via email as opposed to just by telephone. These are the tools that are helping them improve performance. We have a very extensive training program that is… and we are using that training program for the new clienteling tools as a way to enhance the overall upgrading of the selling environment. The last thing that I mentioned is similar to what we have done with the merchandising, planning and allocation and buying organizations. We've just engaged with KSA to work with us in the entire upgrading of the selling environment. Structure, organization, training is another sort of leg of how we are going to focus on improving the selling environment.

Debra Weinswig – Citigroup

And last question, I promise. In terms of the remodels, it sounds like you have seen impressive results. One, is there any way to quantify that and two, how many more years really should we expect to see in terms of $125 million to $150 million CapEx kind of really driving these super-sized comps as it relates to remodel?

Stephen I. Sadove - Chairman of the Board and Chief Executive Officer

Well, I think there are several pieces. First of all, we are extremely pleased with the response that we are getting in terms of the results to date. The results in, as I mentioned, Beverly Hills are very impressive. In each of the markets where we started to make these capital investments, we are feeling very good about the payback on the investments on the first floors and adding the vendor shops and whether it's jewelry or handbags, accessories. So I think it’s a very sound strategy that’s proving to be successful.

Clearly, as we look to capital expenditures over time, we are not going to be specific about the long-term capital this year. We have talked about $125 million to $150 million. I think that you ought to be thinking in the 100+ range but we are not going to give you specifics. I don’t think it's going to be, certainly beyond the kind of levels that we have been seeing to date. But we are going to be very careful about the expenditure of capital.

I think the important thing that I'd look at here is that we think that the capital is best served, first priority of doing exactly what we are talking about reinvesting in the first floors, the vendor shops, the existing square footage. This is not going to be a story about opening up lots of new stores. There may be one or two that come down the road that we want to do, but the strategy that had been in the '90s where we opened up a lot of stores, we have already got 54 stores in the base. We don’t think there are a lot of opportunities or need for a lot of the stores. And the payback and the opportunity to get outsized comp growth is quite substantial. If you look at this year alone, I may miss one but between the finishing of Boston Palm Beach Gardens, Naples, Phoenix, South Coast Plaza, we have got some renovations in San Francisco, Chicago, we have got the New York shoe floor which is magnificent. By the way I'd encourage any of you that are in the New York area to go take a look at the eighth floor because it is just… in all the years I have been playing associate, I just think it's one of the most stunning things I have seen. But the completion of New York, that’s the kind of capital investment… we have a list, we are not ready to release it yet obviously for ’08, but we will have a similar type of a list for ’08 relative to how we are going to be investing capital.

Debra Weinswig – Citigroup

Okay, great, and congratulations again.

Stephen I. Sadove - Chairman of the Board and Chief Executive Officer

Thanks, Deb.

Operator

Your next question comes from Dana Cohen with Banc of America Securities.

Stephen I. Sadove - Chairman of the Board and Chief Executive Officer

Good morning, Dana.

Dana Cohen - Banc of America Securities

Hey, good morning guys. Couple of questions. On SG&A, if I take out the one time items it did grow a bit faster here in Q2 versus Q1 and I was just wondering if you could just give us a sense of what's going on there?

Stephen I. Sadove - Chairman of the Board and Chief Executive Officer

Sure, I will turn that to Kevin.

Kevin Wills - Executive Vice President and Chief Financial Officer

Okay, good morning, Dana. As you indicated, we did see some growth in SG&A in the quarter. And we did not achieve the same degree of leverage that we achieved in Q1. And we had previously indicated that we expected our leverage to slow down through the balance of the year as we began to anniversary the significant leverage that we achieved really starting last fall, and that’s what you saw in this quarter. And if you recall...

Dana Cohen - Banc of America Securities

Why would it have started in the spring? I understand the fall issue, but can you just give us a sense of what happens sequentially, where is the difference and the extent, because comps were about the same.

Kevin Wills - Executive Vice President and Chief Financial Officer

Right. We started initiating cost reductions in early 2006 in part with Steve’s coming to Saks. In addition to that, we had the TSA revenues last year and they were the offsetting the direct cost of supporting the SDSG businesses and a small portion of the [technical difficulty]. We are now beginning to anniversary those cost reductions and TSA offsets which started this time in the second quarter. And that’s the reason we did not anticipate the same level of SG&A leverage on a go-forward basis.

I would remind you though that if you look at the past four quarters we have generated significant SG&A leverage and specifically, in last year’s third quarter, we achieved about 300 basis points of leverage ex the one time items. And so as we look at second quarter and then for the fall, we do still anticipate some modest SG&A leverage. But given the high leverage that we achieved last year in the third quarter, we would anticipate the fall leverage being more weighted to the fourth quarter.

Dana Cohen - Banc of America Securities

More weighted to Q4 despite the 53rd week compare?

Kevin Wills - Executive Vice President and Chief Financial Officer

We would anticipate that the 53rd week benefited our SG&A last year maybe by 10 to 20 basis points in the fourth quarter. But with the way the expenses have flowed, we do anticipate more opportunity for leverage in Q4.

Dana Cohen - Banc of America Securities

Forgive me, but I thought you had said earlier that it was a 50 basis points impact to the fourth quarter last year.

Kevin Wills - Executive Vice President and Chief Financial Officer

That was gross margin.

Dana Cohen - Banc of America Securities

Oh, that was gross margin. Okay good. And then on inventories, was there any impact to the balance sheet inventory from the shift in the 53rd week just given your commentary about August comps?

Kevin Wills - Executive Vice President and Chief Financial Officer

Not really, Dana. There may have been some increase, modest increase the way the calendar shift. But as we previously indicated, our comp inventory growth is being driven by our intentional inventory reinvestment strategy and as a matter of practice, I mean, as you would know we pull inventory 12 months by the year and most everyday. So, we do not anticipate that the calendar change year-over-year has that any meaningful influence on our cost.

Dana Cohen - Banc of America Securities

Okay. Great. Thank you.

Operator

Your next question comes from Stacy Turnof with Merrill Lynch.

Stephen I. Sadove - Executive Chairman and Chief Executive Officer

Good morning Stacy.

Kevin G. Wills - Chief Financial Officer and Executive Vice President

Hi.

Stacy Turnof - Merrill Lynch

I wonder to hear if you are experiencing any changes from your aspirational customers versus your Sake Reward customers currently?

Stephen I. Sadove - Executive Chairman and Chief Executive Officer

We are seeing very strong performance in our Saks First customer base and we are also seeing very strong performance from the new customers they are coming in, in fact its even higher right now…higher relatively… give or take a point or two. The numbers are almost the same. I am actually seeing maybe a point or two higher out of the non-Saks First, but the growth is very, very strong across both segments.

Stacy Turnof - Merrill Lynch

You are not seeing any challenges in any of your line of businesses over the past two three months.

Stephen I. Sadove - Executive Chairman and Chief Executive Officer

No, if you look at the category, they are strong across the board. We are seeing the upside growth in one that we mentioned. But it really isn’t across the board big market, small market categories, non-high spending. We are seeing good growth in our diamond and platinum level customers and we are seeing good growth in the lower tier Saks First and we are seeing good growth in the non-Saks First customer base. All those will be in the double-digit range.

Stacy Turnof - Merrill Lynch

Okay. And the one final question just going back to the gross margin issue again I know you guys have at least given us the guidance with the 30 and the 50 basis points. Benefit last year, but what are the other sort of quantifying any other offsetting factors, because I still would have expected to see a little bit more improvement versus a flat gross margin rate in the back half.

Stephen I. Sadove - Executive Chairman and Chief Executive Officer

Let me ask Kevin to talk to it.

Kevin G. Wills - Chief Financial Officer and Executive Vice President

Okay. Good morning Stacy. As Steve indicated, we did think the biggest opportunity from margin improvement in '07 within the second quarter and we were pleased with there 217 basis points improvement. We start to look to look then at the fall, we are starting to anniversary some of the significant improvement that we began last year and specifically last year in the third quarter we were up about 110 basis points. In the fourth quarter we were up 430 basis points. And as Ron indicated, we have taken some deliberate and a phased approach to the merchandizing initiatives. And due to the extended lead times in our industry it often takes time for these benefits to be realized. So we remain very comfortable with the strategy that we got in place and we believe that we are going to see benefit over time and as we also previously mentioned the 53rd week did impact the fourth quarter by approximate 50 basis points in the third quarter… and the fall season by approximately 30.

Stacy Turnof - Merrill Lynch

Thank you.

Operator

Your next question comes from Christine Augustine with Bear Stearns.

Stephen I. Sadove - Executive Chairman and Chief Executive Officer

Good morning.

Shelly Hendler - Bear Stearns

Good morning. This is actually Shelly Hendler [ph] on behalf of Christine. I guess my question is given your proximity to Wall Street since about 20% on the sales they are generated by flagship. One would assume that your overall sales growth has a strong correlation to the stock market performance and Wall Street compensation and bonuses. Can you kind of give us a sense of what your macro outlook is and how that reflected in your same-store sales guidance for the back half? And maybe also sense of your flagship historical, comp store sales performance during the late 1990s when luxury goods market was kind of falling out of bad and also post 9/11 and how the company might be positioned differently today and what impact might have.

Stephen I. Sadove - Executive Chairman and Chief Executive Officer

I think that obviously there is uncertainty in the financial market right now. We feel… we continue to feel very good about the secular performance in the luxury sector. Luxury long-term is a very good place to be. If you look at the traffic in the store today, I feel very good about the luxury sector.

What's going to happen, I think we have obviously watch the financial market carefully. If you saw a huge drop in the stock market 20%, 30%, 40% obviously we have to be concern, but I think in the… in environment relative to stability plus or minus, you pick a percent. I think that we are perfectly fine. If I look at New York it’s not just driven by the financial market, we have about 20% plus tourist base. We have a lot of international European business that’s performing exceptionally well. We have categories like buying jewelry, the designer bags that are very aspirational and tend not to be as driven by ups and downs of the stock market. Having said that I think, both Wall Street bonus are going to be lower this year and it’s something we have to… I assume they will anyway. We are going to have to watch it carefully. We watched the marketplace. but having said that I… we are prepared to react if we have to in terms of if there is a slowdown, but we haven’t seen it and I don’t really believe that that’s going to happen. I feel very good about where the luxury market is going in, where we are positioned within luxury and I said that for New York and I say it for our other flagship stores as well.

Shelly Hendler - Bear Stearns

Okay, great. And, I guess also my other question than would be just in terms of your credit card portfolio, have you seen any change in the rate of delinquencies there or anything?

Stephen I. Sadove - Executive Chairman and Chief Executive Office

Well… and let me turn to Kevin this second our penetration of our credit portfolio is about what 46% or so. We’ve sold off our credit portfolio to HSBC, but let me ask Kevin to make a few comments.

Kevin G. Wills - Chief Financial Officer and Executive Vice President

As Steve, indicated we do not own our credit card portfolio that’s owned by HSBC. So any main changes in the write-offs or trends there would be experienced by HSBC not us.

Shelly Hendler - Bear Stearns

Okay. All right. Well, thank you.

Operator

Your next question comes from Carla Casella with JP Morgan.

Carla Casella - JP Morgan

Hi.

Stephen I. Sadove - Executive Chairman and Chief Executive Office

Hi.

Carla Casella - JP Morgan

Can you discuss your same store sales have been very strong and you were mentioning how some of your renovations are performing particularly well. The core store base outside the renovations, would those comps be more in the mid single digits or--?

Stephen I. Sadove - Executive Chairman and Chief Executive Office

No. They would all be in the current range that you are talking about. If you look at where overall the comp performance is double digit and strong across the board, you are seeing in a few of those stores that where we completed the renovations, some out size performance. Some of that has just been done very recently, the Beverly Hills for example this year. But you are also being hindered by a few renovations, you have stores like Boston, Palm Beach Gardens, Naples that where you have renovations going on that are dragging down the number a little bit, but if you were to look at the core, the parallel planning stores, for example where you don’t largely have the renovations going on. They are outperforming the aggregate, if you look at our flagship stores they are performing in line with the aggregate. So, you are looking at that kind of reported range across the board.

Carla Casella - JP Morgan

Okay. Great. And then a couple of housekeeping items, the severance that you gave the after tax now. Can you discuss what that pretax is or give us what the pretax is?

Stephen I. Sadove - Executive Chairman and Chief Executive Office

Kevin?

Kevin G. Wills - Chief Financial Officer and Executive Vice President

The pretax of the severance, retention and transition costs is approximately $3.4 million.

Carla Casella - JP Morgan

And how is that compared to last year?

Kevin G. Wills - Chief Financial Officer and Executive Vice President

Last year it would have been around, I believe $3.7 million. If you recall we had indicated that our severance, retention and transition calls would be trailing off through this year and be substantially complete by the end of Q2, we believe that to be the case and if you compare that to Q1, the severance, retention calls were significant inQ1 to complete the loss in the downside.

Carla Casella - JP Morgan

Okay. And then the amount of LCs outstanding, are they revolve their availability year end or the quarter end.

Stephen I. Sadove - Executive Chairman and Chief Executive Office

We have a Kevin, you want to talk?

Kevin G. Wills - Chief Financial Officer and Executive Vice President

Our outstanding LCs at the end of the quarter was in the $45 million range. Against the $500 million on [inaudible] revolver.

Carla Casella - JP Morgan

Okay. And then lastly can you tell us which bond you brought back during the quarter for modeling purposes?

Stephen I. Sadove - Executive Chairman and Chief Executive Office

Which bond?

Kevin G. Wills - Chief Financial Officer and Executive Vice President

The bonds we brought back during the second quarter?

Carla Casella - JP Morgan

Right. Which issue was it?

Stephen I. Sadove - Executive Chairman and Chief Executive Office

The ’08.

Kevin G. Wills - Chief Financial Officer and Executive Vice President

The ’08.

Carla Casella - JP Morgan

Okay. That’s the 10 point formula and then you talk about the senior notes you had purchased.

Kevin G. Wills - Chief Financial Officer and Executive Vice President

We… and in aggregate we brought a little over $100 million or $105 million or $106 million of that.

Carla Casella - JP Morgan

Year-to-date.

Kevin G. Wills - Chief Financial Officer and Executive Vice President

Year-to-date.

Carla Casella - JP Morgan

Right. Okay. Great, thanks.

Operator

[Operator Instructions] And your next question comes from Todd Slater with Lazard Capital Management.

Stephen I. Sadove - Executive Chairman and Chief Executive Office

Good morning, Todd.

Todd Slater - Lazard Capital Management

Thanks very much and congrats. With… my question is sort of just on the sort of tourism impact with the Euro one of the currency so strong relative to Dollar, you have noticed any positive impact from tourism on your New York stores some of the other flagships, assuming you can measure it. And then I would just like to also address what you are thinking is now on international whether licenses and with China and elsewhere Middle East wherever, what are sort of the opportunities there and how are you going to approach that?

Stephen I. Sadove - Executive Chairman and Chief Executive Office

Sure. I think there is some, obviously, the euro is strong. You go on a weekend into New York store for example and you will see a quite number of tourists… European tourist in the store. I don’t think that it’s having a material big impact change on a year-on-year basis in Europe. We don’t have a specific numbers in terms of the European Tourism, so I can't quantify it. I would tell you that it’s a good business. I don’t think its having a major swing, the New York store is tracking higher than the total. But I would look at a lot of other gateway stores and I don’t see a big swing… big swings on the impact of the euro otherwise I would tell you its positive.

It might be helping a little but I can't tell you exactly the number. It is a… but its clearly having where we have become a destination when people come to New York. So, I think that's a real positive. As it relates to international, we see opportunity and we are in the Middle-East to buy and we are going to be opening a store in Mexico in November.

Now remember these are licensed deals. We don’t own per capital into these stores. But we are feeling very optimist to buy it doing very well and we are quite optimistic about Mexico City. Shanghai, we have said we will open up in ’09 timeframe. We are looking at a couple of others markets that we think that are opportunities. These are not the core strategy of Saks, but they represent an opportunity to elevate the image of the brand that went to your question about when the tourist come to the U.S., they want to come and see the real thing and the original and they are going back and forth. That's how that we believe that's the positive.

So, we do anticipate international growth opportunities. There are incremental royalty stream basically and some consulting services. So, over time, I would expect to see some, again, not a large number and only in markets where you have a need and the demand for luxury brands, but where there is an established large specialty store present because you have got to be able to get the brands Saks Fifth Avenue franchise.

Todd Slater - Lazard Capital Management

Why wouldn’t international… the royalties from that stream… revenue stream be a nice benefit to the margin over time?

Stephen I. Sadove - Executive Chairman and Chief Executive Officer

I think it is a benefit to the margin over time. I just don’t want to… at a small base at this point. I think it will grow over time and I think over time we can be a meaningful number. So, it will be in an improvement to the bottom-liner performance.

Todd Slater - Lazard Capital Management

Great. Thanks very much.

Operator

Your next question comes from the line Melissa Otto with WR Hambrecht.

Stephen I. Sadove - Executive Chairman and Chief Executive Officer

Hi Melissa.

Melissa Otto - WR Hambrecht & Co

Hi, how are you? Just wanted to ask a couple of quick follow-ups on the New York store, could you give a little bit more color in terms of some specific brands that you saw pick up a little bit of speed in the quarter, maybe a little bit more than you were expecting?

Stephen I. Sadove - Executive Chairman and Chief Executive Office

Let me turn to Ron on that one?

Ronald L. Frasch - President and Chief Merchandising Officer

Hi, Melissa it’s been a pretty exciting quarter in the New York store, the main floor handbag area has performed at a extremely strong level with Chanel leading the pack, Louis Vuitton promised an extremely strong season. We opened up a new shop with Dolce & Gabbana that we have had very good results on. But the key to the excitement I guess I am always looking for as a retailer is the… is what we are doing on the eight floor with the shoe apartment. I know that’s a go forward statement, but it is really quite extraordinary. Other areas where we have had great strides have been in jewelry, fine jewelry which has been a zone business that we have been pretty focused on and last week we opened a new Zegna shop in men’s, and on the sixth floor that we think will probably be the largest volume point of wholesale in the world. It’s just been a tremendous resolve and so those are some of the highlights.

Melissa Otto - WR Hambrecht & Co

Great. Thank you, very much. Good luck in the second half.

Ronald L. Frasch - President and Chief Merchandising Officer

Good. Thank you.

Operator

Your next question comes from Michael Exstein with Credit Suisse.

Stephen I. Sadove - Executive Chairman and Chief Executive Office

How are you Michael?

Michael Exstein - Credit Suisse

Good morning, everybody. A series of questions. Number one I did see the shoe department, even though I didn’t buy anything. Looks terrific it was jammed, even though It was on the eight floor yesterday.

Stephen I. Sadove - Executive Chairman and Chief Executive Office

Just as an aside, I was there at lunchtime on a Monday afternoon and the crowd there it was something else.

Michael Exstein - Credit Suisse

It was… no, it was very impressive. Congratulations. Can you give us an update on where you are on private label? How that may be impacting margin? And also on the Macy’s call last week they commented that even Bloomingdales was seeing significant negative impact their exposure to Florida. Can you talk about specifically what you are seeing in Florida? Thanks.

Stephen I. Sadove - Executive Chairman and Chief Executive Office

Ron, will you talk a little bit about private labels?

Ronald L. Frasch - President and Chief Merchandising Officer

Sure. We discontinued private brand about three years ago and reintroduced it last fall under the signature classic and sport label and we are now refining it. We have learnt some good lessons last couple of seasons, we have seen it as a void filler in our assortments and overtime we believe it can perform at a higher level of margin and then our branded component. However, we are a branded store and but there is a role for private label within our assortments.

Michael Exstein - Credit Suisse

Did it have any positive impact on the margins?

Ronald L. Frasch - President and Chief Merchandising Officer

Really nothing material at all.

Stephen I. Sadove - Executive Chairman and Chief Executive Office

Michael, it relates to your question about Florida. We are continuing to see growth in Florida, although it’s not as high as we are seeing in some of the other markets, but remember Florida is also being impacted by with a couple of renovations there because we have got Naples and Tom Beech Garden under renovation. But overall my sense of it is that you have that somewhat a little bit weaker than the totality but still positive performance.

Michael Exstein - Credit Suisse

And finally for Kevin, can you just talk about the share count, how do we put in model act going forward?

Kevin G. Wills - Chief Financial Officer and Executive Vice President

Okay. Obviously, the share count for this quarter was that the basic share count because we had a loss, so on a go forward basis we would anticipate the share count in the 100 million to 155 million range depending on the impact of the convert. As you are probably aware on the convert, we have the $213 million convert outstanding. We have indicated that we have the option and expectation that we would settle any conversion in par. So what time this weight in diluted share count is that the fair value in excess of par, and so as the share price goes up and down you may see some variation in that. But I would anticipate the $150 million, $155 million in range.

Michael Exstein - Credit Suisse

Great. Thank you so much.

Stephen I. Sadove - Executive Chairman and Chief Executive Office

Okay. Thanks.

Operator

Your next question comes from Samira Fink with AGN Bank [ph].

Samira Fink - AGN Bank

Yes, Hi. I just had a quick question basically on the agreement with HSBC, just wondering is there… will there be any changes once delinquencies increase for HSBC, does that… could that have any impact for your agreement with them?

Stephen I. Sadove - Executive Chairman and Chief Executive Office

I am sorry could you repeat the question?

Samira Fink - AGN Bank

Basically in case delinquencies would have increased is there anyway that agreement that you have with HSBC could impact that? Would it for example impact your preselection of customers who get those cards for example?

Stephen I. Sadove - Executive Chairman and Chief Executive Office

It is as we indicated earlier HSBC owns the accounts, and I would not anticipate any rise in delinquency impacting us substantially. I mean obviously HSBC since the only account that’s the credit limits and credit criteria which they could change, but I would not anticipate given their customer base as that would be anything that we would be concerned about.

Samira Fink - AGN Bank

Right, okay.

Stephen I. Sadove - Executive Chairman and Chief Executive Office

I think. Just as aside, I think. Given the… Kevin’s point’s important which is the Saks customer base. The average income of a Saks customer is in the… lets call it 185, 190, 200,000 range and at this point I would be… I feel pretty good about our ability of our customer base to have knock you out, in terms of whose paying up their debt, but obviously they just… they have to deal with that.

Samira Fink - AGN Bank

Right okay. And then just another thing what’s your expectation on your debt convert offer by September, what would you expect?

Stephen I. Sadove - Executive Chairman and Chief Executive Office

A what?

Samira Fink - AGN Bank

What’s your expectation on the debt convert offer. How many would you expect?

Stephen I. Sadove - Executive Chairman and Chief Executive Office

On the debt convert offer.

Unidentified Company Speaker

We… the converge is still outstanding today and…

Samira Fink - AGN Bank

Until, September right.

Stephen I. Sadove - Executive Chairman and Chief Executive Office

Well, no the convert outstanding and I guess mature give around 2017 or so the first call date is in 2011. At this point in time we would have no intention of taking any actions prior to 2011, I understand your question correctly.

Samira Fink - AGN Bank

Okay. And do you have any other capitalist transactions that you expect in the near future.

Kevin G. Wills - Chief Financial Officer and Executive Vice President

The capital transactions.

Samira Fink - AGN Bank

Maybe refinancing

Stephen I. Sadove - Executive Chairman and Chief Executive Office

We do not make any comment over the future capital expectations or financing debt transaction.

Samira Fink - AGN Bank

All right, okay. Thank you.

Operator

Your next question comes from Ryan Renteria with Karsch Capital.

Ryan Renteria - Karsch Capital

Thanks a lot. Congratulations on a nice quarter.

Stephen I. Sadove - Executive Chairman and Chief Executive Office

Okay.

Ryan Renteria - Karsch Capital

I’m just trying to understand better why the gross margin would go from up 270 basis points to basically flat aside from the comparisons. Is that a fact as you get into the back half of the year and the last back half you had such good comps. You probably didn’t have a lot of mark downs and so the reduced mark down benefit goes away. or is it just not getting the planning and allocation benefit until ’08 and ’09, any color you could provide would be great.

Kevin G. Wills - Chief Financial Officer and Executive Vice President

Okay, Ryan this is Kevin. As we indicated earlier, as we’re starting to… in the fall season we start to anniversary some of the significant improvements that we achieved last year. Specifically, we were up about 110 basis points in Q3 and up 430 basis points in Q4. And over the last four quarters we have seen a fairly substantial expansion in the margin, the initiatives that were on and Steve referred to earlier we believe has been paying off. But, we’re again starting to… we’re right up against some of those comparisons and the longer-term strategic and systemic and operational issues that we have underway, which we feel right strategic initiatives will take some time to payoff and in their business as a relatively long lead time and so we expect to see more benefit in the ’08, ’09 frame that we would for the balance of the fall.

Ryan Renteria - Karsch Capital

Thanks and good luck.

Stephen I. Sadove - Executive Chairman and Chief Executive Office

Thank you.

Operator

There are no further questions at this time.

Stephen I. Sadove - Executive Chairman and Chief Executive Office

Well, thank you all very much and we look forward to talking you next quarter.

Operator

This concludes today’s conference. You may now disconnect.

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: transcripts@seekingalpha.com. Thank you!

Source: Saks Q2 2007 Earnings Call Transcript
This Transcript
All Transcripts