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Foot Locker, Inc. (NYSE:FL)

Q3 2007 Earnings Call

November 21, 2007 9:00 am ET

Executives

Peter Brown - SVP, CIO and IR

Bob McHugh - SVP and CFO

Matt Serra - Chairman and CEO

Analysts

Jeff Edelman - UBS

John Shanley - Susquehanna Financial Group

Bob Drbul - Lehman Brothers

Robert Ohmes - Banc of America Securities

Robert Samuels - J.P. Morgan

John Zolidis - Buckingham Research

Operator

Good morning, ladies and gentlemen and welcome to the Third Quarter 2007 Earnings Release Conference Call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session.

This conference call may contain forward-looking statements that reflect management's current views of future events and financial performance. These forward-looking statements are based on many assumptions and factors, including the effects of currency fluctuations, customer preferences, economic and market conditions worldwide, and other risks and uncertainties described in the Company's press releases and SEC filings. We refer you to Foot Locker Inc.'s most recently filed Form 10-K or Form 10-Q for a complete description of these factors. Any changes in such assumptions or factors could produce significantly different results, and actual results may differ materially from those contained in the forward-looking statements.

If you have not received yesterday's release, it is available on the Internet at www.prnewswire.com or www.footlocker-inc.com. Please note that this conference is being recorded.

I will now turn the call over to Mr. Peter Brown, Senior Vice President, Chief Information Officer, and Investor Relations. Mr. Brown, you may begin.

Peter Brown

Good morning and welcome to our third quarter conference call. After the market closed yesterday, we reported a net loss of $33 million, or $0.22 per share for the third quarter. This net loss included a non-cash impairment charge and expenses associated with closing unproductive stores, totaling $66 million after tax, or $0.43 per share. Our third quarter net income, before these two charges was $33 million, or $0.21 per share.

Bob McHugh, our Senior Vice President and Chief Financial Officer, will begin the call with a discussion of our third quarter financial results. Matt Serra, our Chairman and CEO will follow with an operational review and provide an update on our strategic priorities. We will leave the reminder of the call to answer your questions.

Our third quarter results reflected a challenging retail footwear environment, in addition to the significant impairment charge and store closing expenses. As we go through our presentation, we will refer to our financial results as amounts from continuing operations before the 144 charge and store closing expenses. We believe this will assist you in better understanding our operating results and help in any forecasting exercise.

Our third quarter results reflected the following. Comparable-store sales decreased 5%, our gross margin rates decreased by a 140 basis points due to deleveraging of occupancy costs. Our retail margins were 10 basis points favorable to last year. Our SG&A expenses, excluding the impact of favorable foreign exchange rates, were $4 million below last year. Interest expense was zero, and our cash position, net of debt increased by $70 million from the same time last year.

I will now turn the call over to Bob McHugh.

Bob McHugh

Good morning. From our high level analysis, our third quarter results reflected a shortfall on expected sales, a non-cash impairment charge and costs associated with closing unproductive stores. Our 5% comp store sales decline fell short of our initial expectations, which was to be flat with last year. As Peter mentioned, my prepared remarks will review our earnings from continuing operations, before the impairment and store closing charges.

Afterwards, I will provide some details on the impairment charge and store closing costs, as well as the expected financial impact of each on our future results. As already mentioned, our financial results fell short of our expectations at the start of the quarter, primarily due to a weak sales performance.

We believe our third quarter sales were impacted by three key factors. First, a challenging external environment, including weakening consumer confidence, second, the warmer weather that continued through the fall season, appears to be impacting the timing of consumer shopping habits, and third; a lack of clear fashion trend in athletic footwear and apparel or excitement created by new must have assortments.

During our second quarter conference call, we highlighted that we will be more cautious in managing our business for the balance of 2007. We stated that we expected our comp store sales for the fall season to be flat with last year. We also commented that we expect our gross margin and SG&A rates to be slightly unfavorable with last year, reflecting a conservative sales assumption.

As it turned out, our third quarter sales fell short of these assumptions, which also put pressure on our gross margin and SG&A rates.

Third quarter comparable store sales of our major divisions were as follows. Each of our U.S. store businesses decreased mid-single digits. FootLocker.com sales increased low-single digits. Our international comp store sales declined mid-single digits, with the weakest results being in Europe. Our Canadian sales were flat, while Foot Locker, Australia increased low double-digits.

By month, comp store sales decreased low-to-mid single digits in August, and decreased mid-single digits in September and October.

Our third quarter gross margin rate decreased by a 140 basis points from last year, reflecting a 10 basis point improvement in our merchandise margin rate, and a 150 basis point deleveraging of our buying and occupancy rate caused by lower sales.

Our merchandise margin rate included a 30 basis point decrease at our domestic stores, and a 40 basis point improvement at our international operations. The merchandise margin decline in our U.S. stores reflected selling a lower percentage of higher margin apparel versus the same time last year. This was partially offset by a lower overall markdown rate. In total, our markdowns were 12% lower than last year, and as a percentage of sales 90 basis points favorable.

While our third quarter buying and occupancy costs increased to 140 basis points, the tenancy component, on a constant currency basis, increased approximately 1% versus the third quarter of last year.

Third quarter SG&A expenses increased $5 million versus last year. On a constant currency basis, our third quarter SG&A expenses decreased by $4 million or 1.4% versus last year.

Our net interest expense during the third quarter was zero, which was a $1 million favorable to last year.

Before I turn to our balance sheet, I will provide some additional insights in regard to the impairment charge and store closing costs. Both of the potential, [for an] impairment charge and expected store closing costs were discussed during our last conference call in August and were highlighted in our first and second quarter 10-Qs.

The non-cash impairment charge and store closing cost recorded during the third quarter totaled $66 million, after tax or $0.43 per share. This impairment charge was recorded to write down the value of certain underperforming assets at our U.S. stores, operations in accordance with FAS 144, which defines the accounting for the impairment of long-term assets.

Our accounting policy, as it relates to FAS 144, is outlined in our Annual Report Form 10-K. As a result of our lower than expected earnings this year at our 3,100 store U.S. operation, we concluded the need to conduct an impairment review during the third quarter.

Last year, during our second fiscal quarter, we performed a similar review of our 500 store European operation, and recorded a charge equivalent to $0.08 per share. Including the impairment and store closing charges this year, were cost of $6 million, after tax or $0.04 per share related to 66 underperforming stores. 13 of which were closed during the third quarter, and 53 that we are working with our landlords to close during the fourth quarter. We currently expect to incur additional $10 million to $15 million in costs during the fourth quarter, as these remaining negotiations are completed.

Matt will provide an update on the status of this program during his prepared remarks. At the end of the third quarter, our cash position, net of debt, was $98 million. Our total cash and short-term investments totaled $332 million, while our long-term debts stood at $234 million. This cash position, net of debt, was $70 million favorable to this time last year.

We did not purchase any of our common stock during the third quarter, therefore year-to-date, our share repurchases remain at 2.3 million shares for $50 million. In total, our ending inventory was $4 million greater than at the end of the third quarter last year. On a constant currency basis, our inventory was approximately 3% lower than last year.

Before I move from our balance sheet, I would like to point out that our shareholders' equity currently stands at about $2.2 billion and $91 million greater than at this time last year. This represents a book value of $14.40 per share, an amount above our current share price. I would also like to point out that our cash position is currently the equivalent of $2 per share, and expected to be approximately $3 per share at year end.

Given the current tone of the retail environment, we remain very cautious in planning for the fourth quarter. As a reminder, last year's fourth quarter included an extra week that added $0.11 per share to our 2006 results. The details of that extra week were included in last year's fourth quarter press release.

Our fourth quarter forecast versus the 13 week period last year, includes the following assumptions. Comp store sales down mid-single digits. Gross margin rate unfavorable with last year reflecting the deleveraging of occupancy costs associated with the conservative sales assumption. The embedded retail margin rate is expected to be relatively flat with last year.

SG&A expenses on a constant currency basis relatively flat with last year. Pre-tax store closing costs of $10 million to $15 million, depreciation expense of $8 million below last year, interest expense of approximately $1 million, and income tax rate of approximately 33%, which is lower than the last year, reflecting expected higher percentage of our income being earned in international countries where we benefit from lower tax rates.

These forecasting assumptions for the fourth quarter reflect a conservative outlook we're taking given the current external environment.

We're more optimistic for year-over-year profits gains in 2008 for the following reasons. The costs associated with the FAS 144 charge in store closing expenses are expected total $0.48 per share this year. The operating losses related to the 300 stores that we are closing this year totaled approximately $0.10 per share. We expect to realize approximately $0.03 per share of that benefit in 2007 and an incremental benefit of $0.07 per share next year.

The FAS 144 write-down will reduce next year's depreciation expense by approximately $0.07 per share. We recorded $0.31 per share of higher than normal markdowns during the spring season to clear slow selling goods. Therefore, there is an opportunity for our 2008 EPS to compare favorably to 2007 by $0.93 per share for these items.

In closing, I would like to emphasize that our financial position remains strong, and we'll remain very focused on controlling tightly our capital spending, working capital and operating expenses for the balance of 2007 and throughout next year.

I will now turn the program over to Matt Serra.

Matt Serra

Good morning. Thank you, Bob. Third quarter of 2007 was more challenging than we expected going into the quarter. As Bob already covered, the shortfall for expectations primarily reflected a 5% shortfall from our sales forecast. Our third quarter results also reflected a FAS 144 charge and the cost associated with strategic decision to accelerate the closing of unproductive stores.

The other financial factors impacting our third quarter results, our merchandised margin rate, markdowns, operating costs, depreciation and interest expense were all within a reasonable range of our initial expectations.

While there is no doubt that our results were disappointing, we did take steps to better position our company for the future and ended the quarter with our inventory levels on plan and below last year on a constant currency basis.

We also made additional progress working with our vendors and adjusting our orders for the fourth quarter, which were in line with our sales expectations. We currently expect to end the year with inventory on plan and properly positioned for the next year. Thus, even as 2007 has proven to be one of the more difficult retail environments, we've experienced in some time, we believe that we have positioned ourselves well to emerge in a stronger competitive position.

Looking towards 2008, we have intensified our internal disciplines in regard to inventory management. We have begun placing new orders for fresh spring assortments being more conservative than in the recent past.

Looking at the third quarter of this year, our combined U.S. stores posted 5.2% comp store decline with footwear sales decreasing 2.8% and apparel and accessories sales decreasing almost 12%.

On the U.S. footwear side, our men's business decreased low single-digits, kid's increased low single-digits and women's decreased mid-to-high single-digits. In addition to a solid kid's footwear business, our men's basketball sales was slightly positive, led by strong sales of brand Jordan and Jordan Retro assortments.

Men's Running was our strongest footwear category with comp store sales of nearly double-digits. Shox Running and from Nike Air Max products, Asics and Adidas Bounce were our strongest performers. We also generated strong sales gains in the skate category, led by both Adidas and Nike. Specific styles include the Master St by Adidas and the Sellwood by Nike. In total, the classic category continued to trend down with the exception of premier assortments like Nike as well as Converse Canvas.

The moderate price classic category is at the heart of our overall shoe decline in the U.S. business.

Also, the weakness in our third quarter results was in the casual category. This is dominated by the low profile styles. Boot sales were also extremely weak. The low profile trend appears to be on the downside in most markets that we operate, whereas the boot business was most impacted by the warmer weather.

Our average footwear selling prices in U.S. increased mid single-digits, reflecting both a lower a markdown rate than last year and a mix of shift towards selling a greater percentage of higher price footwear.

U.S. apparel sales continue to be weak, inline with the trend that we've experienced for several quarters. Sales of both licensed and branded apparel continue to be very soft. We continue to have better success with our private label apparel, particularly, a short and polo programs. But it has not been enough to offset the declines in the other two major categories.

The exception is our continuing success with selling Nike Pro apparel. In Europe, we are sticking with the strategy of operating our business with the conservative promotional cadence. We believe that this is the right long-term strategy to maximize our profits in this region. In the near-term, however, our comp store sales continue to be pressured.

On the footwear side of the business, the story is somewhat similar to that of the U.S. business, with encouraging signs that the higher priced technical running footwear is coming back into fashion. In fact, we generated very strong gains in the running category in various assortments from Nike, and have had strong customer reaction to the Mega Bounce shoes from Adidas. Our canvas business with Converse was also extremely strong.

Another strength of the quarter was the Cross-Trainers Shoe program. The precipitated slowdown in the fusion category was the primary factor that led to our footwear decline in Europe. Looking towards the fourth quarter, the number of pairs of fusion footwear that we expect to receive will be down 40%, offset by an 80% increase in running shoes.

In our Canadian division, profit was very much inline with last year, and continue to run at a very solid double-digit division margin rate. Combination of strong sales per square foot, consistent markdown rates, effective inventory control, and good expense management provided a well balanced [fall in] for the success in this division. We generated our highest sales and profit percentage increases at our Asia-Pacific division.

FootLocker.com Eastbay sales and profits were essentially flat during the third quarter. For the full year, we currently expect this division to post a solid profit gain, with division margin rate of approximately 14%. In the Middle East, a franchisee opened its second franchise store in Kuwait market. In total, they currently operate nine stores in this market and plan's to open additional 10 stores next year and eventually reaching 75 in several years.

Through the first three quarters of this year, we opened 112 new stores, remodeled or relocated 179 stores, and closed 158 stores. During the fourth quarter, we currently expect to close up to an additional 142 stores for total of approximately 300 closed stores for the year.

234 of the 300 expected closings of stores that we are currently on a month-to-month basis or have naturally lease expiration this year. We expect to exit these stores at a very minimal cost.

The additional 66 stores targeted to close this year will come at a cost, as we look to exit these stores before their natural lease expirations. These are cash flow losing stores. As a result, their closing is expected to enhance our operating results going forward. 13 of these stores will close during the third quarter, with an additional 53 targeted for the fourth quarter. In total, we expect the expense impact of closing a total of approximately 300 stores this year to be $20 million to $25 million. From a cash flow standpoint, the impact is minimal in that the cash cost of closing these 66 stores are expected to be offset by recapturing the working capital on the 300 closed stores.

The closing of all 300 stores is expected to enhance our division profit by approximately $25 million or $0.10 per share; $0.03 per share is expected to be realized in 2007, with an incremental benefit of $0.07 per share in 2008.

From a strategic standpoint, we are currently focused on three key opportunities. Programs designed to improve comp store sales and sales per square foot; Initiatives to generate cash flow and enhance our financial structure, and strategies to provide additional growth for our company.

Continuing strong focus on exclusive high price marquee footwear is our primarily merchandising focus. This is the footwear that our core customer has historically looked to us, and is first to buy in our stores.

We are working more closely with all of our suppliers to ensure that our customers have a wider selection of new exciting marquee products. At the same time, we need to rebuild our branded apparel business with our biggest suppliers, mainly Nike and Adidas, while also adding Under Armour to our stores this spring.

Another initiative that we think will be a big win for us is to do a better job in differentiating our brands from each other. This differentiation strategy will include, changing the look of selective fixtures in our stores, modifying how we display our product, and merchandising our different store brands with more unique and exclusive product, by store brand.

We have completed one of the initial stages of this strategy by updating the look of our Champs stores. This was completed at Champs last week. You will be hearing a lot about this from us over the next 12 months, as these initiatives begin to roll out.

And given the challenging external environment, we have intensified our focus on cash flow, to ensure that we maintain a strong financial position. We've taken a more conservative posture in regard to merchandise purchasing for the next year.

We are working with our key suppliers to increase the amount of goods on quick response and reducing the lead time between inventory receipt and sale. In the near term, we plan to open fewer stores in the U.S. and spend more capital on our existing stores, providing a cleaner look with new flooring, fixtures and lighting.

At the same time, we will continue to pursue new growth initiatives. One of these sales growth opportunities is the new House of Hoops by Foot Locker that we have developed in partnership with Nike. The first store was opened earlier this week on 121st street in Harlem. House of Hoops by Foot Locker is an innovative retail concept whereby Nike, Jordan and Converse basketball assortments will be offered in high-traffic, destination locations.

The House of Hoops stores will feature basketball products available nowhere else in the U.S., including coveted player exclusive footwear. As mentioned on our earlier conference call, we are also making plans to begin to more aggressively open new stores in Europe. The churns that we've been generating from the stores that we have opened over the past several years are well in excess of our capital investment hurdle rates and our cost of capital.

We have good visibility where we think we can grow our European chain from slightly over the current 500 stores up to 750 stores in our existing markets. By expanding into new markets such as Eastern Europe, Turkey and Russia, it is possible to reach up to 1,000 stores without a major investment in our existing infrastructure.

Another growth opportunity is expanding chance in the U.S. by another 150 stores to a maximum of approximately 700 stores. Footlocker.com continues to post high returns and have the excess capacity to support new growth, through both product initiatives and comp store gains. Franchising remains another opportunity, especially in the Middle East where business is very encouraging.

In closing, I'd like to state the obvious, that the first nine months of this year have been very challenging for our company. We recognized that we are not alone and that the results of most athletic and non-athletic footwear companies have been under pressure for the past several quarters.

Nonetheless, we remain committed to managing our business profitably by focusing on our core business, so that we'd be able to be in a strong position when the current business cycle turns more positive. Fortunately, our balance sheet is strong and we continue to generate positive cash flow from operations and fund our cash needs through internal generated funds.

As Bob mentioned, our book value is $14.40 per share and we expect it to have in excess of $3 per share in cash at yearend. We are encouraged that there are signs that the fashion trend is shifting back in our favor, with higher price marquee running in basketball shoes. All indications are that the low profile trend has subsided and are still an important part of our business.

We have a significant increase in marquee products plan for the fourth quarter, even though our receipts are playing down. We believe that we are taking the right steps to improve our results and believe in our future.

I'll now be happy to answer your questions. Thank you.

Question-and-Answer Session

Operator

Thank you. We will now begin the question-and-answer session. (Operator Instructions).

Our first question comes from Jeff Edelman from UBS. Please go ahead.

Jeff Edelman - UBS

Thank you. Good morning. Matt, I was wondering you could look forward a little bit from the comments that you made. What is your vision as to what the company will look like, let's say, three years from now, beyond this valley in terms of what do you think that each divisions will stand for product mix, mix U.S. international, things like that?

Matt Serra

Our goal is to obviously enhance our international presence, where we clearly have had a fairly long history of stronger earnings. So, we would hope that we would get the two, like a 32% to 33% penetration in international operations.

We also believe that each one of our divisions is a viable division. We would have taken action to close it, one of them. We will look to make strategic acquisitions as they surface and expand the company domestically with such acquisitions.

We also need to differentiate our brands more carefully. Kind of what's happened over the last six-seven years, we have overdone the big buzz word in the retail business, best practices, in that we found ourselves at the beginning of this year having many of our formats, kind of looked the same, even though a lot of the merchandise was different in the stores. The presentation of the merchandise, the fixturing in the stores was very similar and over the next 12 to 18 months we are going to focus on differentiating the look and the content in each of those operations.

Clearly, in looking at an operation like Champs, we believe that that store, obviously, is more based and more sporting goods, and I am not suggesting we're going into a large hard goods assortment, but more fan base sporting goods oriented. So, if you've been in any lately, you will see a tremendous change in the way we display the merchandise in there, the way we feature it and the way we're marketing it.

Foot Locker is, while we sell a lot of apparel, is really a big time footwear store. And you know the difference between Foot Locker and Champs. Where it's well over 40% apparel, it's a lot less in Foot Locker. So, Foot Locker will become the key shoe destination with many interesting and exciting exclusives to focus on the shoe product categories, in particular basketball and high-end running.

Footaction, we believe needs to, even though it’s very urban, needs to reach out and get a much stronger presence in urban apparel and even more, if you could believe it, even more urban-oriented footwear. So, we've been down this path before. Unfortunately, this is a long time ago and we recovered from it. We are in a much stronger position today than we were when this occurred in '97 and '98. Our balance sheet is pristine; 90% of stores are renovated, even though we need some fixturing work, and we still view it as a growth company.

Jeff Edelman - UBS

Thank you. And Bob, if I could just turn this over to you, when we get to that point a few years out, what kind of normalized cash flow generation could you envision?

Bob Mchugh

I think we should be able to generate 200 and 250 cash a year.

Jeff Edelman - UBS

That’s net cash?

Bob Mchugh

Yes.

Jeff Edelman - UBS

Okay. Thank you very much. Happy holidays.

Bob Mchugh

You too, Jeff.

Operator

Our next question comes from John Shanley from Susquehanna Financial Group. Please go ahead.

John Shanley - Susquehanna Financial Group

Thank you, and good morning. Matt, I wondered, if you could give us a sense as to whether you feel we are at the bottom of the trough, in terms of the what has seemed to be declining urban consumer interest in athletic footwear, and clearly athletic apparel business and then what just laid out for us, in terms of how apparel sales went in the third quarter. Do you see any signs of any fashion shift or anything else that’s going to help stimulate that particular consumer segment to come back into the stores in a more active fashion than they have been in the last couple of quarters?

Matt Serra

Yeah, great question, John. I don’t know where is the bottom yet, but we are seeing signs of high-end marquee interest. Obviously I have some -- the Hoop store was a tremendous success, lot of interest there. When business get’s tough and all the buying is done, yeah we get out into the field, and looking at very urban locations i.e. Fordham Road, 121st Street, Fulton Street in Brooklyn. There is no question that we’re seeing on the feet of a lot of kids, a lot of high-end footwear, much more so than six months ago and a year ago. That’s a very, very, very good important sign.

Clearly, the field is very, very crowded and it’s my opinion that, it’s only an opinion, but there will be a shakeout, there are a lot of people that have gone into the zone. But, we’re beginning to bottom out, and I can’t sit here and specifically point to any data that I have that we’re at the bottom, but I think it’s coming back. Let’s just look at it for a second. The low-profile classification has hit the wall big time. Classic footwear is, since I am in the business, which is little over nine years, going on ten, is at an all-time low; I am talking moderate price, John, moderate price, you know out the door $50, $45, $55. And we're seeing a lot of exciting footwear on a consumer, but I think it’s going to be challenging for a period of time. I am looking at a horizon, you know, to come back in full force, six to eighteen months.

John Shanley - Susquehanna Financial Group

Six to eighteen months?

Matt Serra

Yes.

John Shanley - Susquehanna Financial Group

That's a long time.

Matt Serra

Certainly is.

John Shanley - Susquehanna Financial Group

Okay. Thanks for that insight. I appreciate it. And just turning to Europe for a second, Matt, can you give us some insights into what do you think is causing the fairly persistent negative comps in Europe? And it doesn’t seem to be affecting your operating profits, but why are the comps have been negative? I think we are going into over three years now with consistent negative comps. And what would happen to that operation in Europe if you got positive comps?

Matt Serra

Some of the comps by country are obviously worse than in other countries. We found ourselves in a position of dealing with new competition three years ago, when the low profile fusion category really got into the marketplace. And the competition now in the European market is a lot greater than it was three, four, five years ago. In that, a lot of the independence and a lot of the stores that would never receive marquee merchandize have been receiving the low profile products. So, low profile, as you know, became a large part of our business over in Europe.

So, we had a plethora of new competition over there. What we are doing is, we are sticking to our guns, and we are not getting into the promotional fray. You and I talked a while ago. We talked about the U.K. coming on strong again with the promotions. And actually, we're doing okay in the U.K. So, we want to be fashion forward. And the promoting is still going on over there in Europe.

So, to define a clear answer is pretty difficult. As far as, why we are making more money? We are selling fewer units at higher margin, and controlling expenses very, very aggressively over there. So, we view Europe as a growth potential. Last 24 months, the metrics on the new stores have been extremely impressive. And it gives us, in our minds, tremendous base in thinking to continue to expand.

John Shanley - Susquehanna Financial Group

Do you think you could comp positively in fiscal '08 in Europe sometime?

Matt Serra

I think it's a real possibility, yes.

John Shanley - Susquehanna Financial Group

Great. Bob, I had a question for you. The SG&A expenses were down, according to our calculation to 1.4%, including foreign exchange, but sales declined 5% in the third quarter. Can you give us a sense as to when you believe selling expenses will be more likely to be leveraged down, and to be more in balance with the company's sales performance?

Bob McHugh

I think we've done a pretty good job with expenses. I'm not sure that you can --

Matt Serra

We are pretty well fixed in there. The one thing we don't want to do, John, is to get sloppy on customer service, because once you go with that route, there is some short-term pain and hopefully long term gain. We are intensifying our efforts on our training programs, and trying to really make our shopping experience better or as good as anybody in the marketplace. So, you get to a certain number and if you go below, you really then start giving bad customer service.

John Shanley - Susquehanna Financial Group

Okay.

Bob McHugh

And when you got 40 some odd thousand employees, and we have cut back, John. I mean, you have to make some hard decisions, but we're not taking it off to selling for.

John Shanley - Susquehanna Financial Group

Are there other places where you could carve out some expenses?

Bob McHugh

We continue to carve out expenses. One of the biggest challenges we have is the real estate quotient. The rents are going down and whenever we seem to have a great expense or saving idea, we get to offset by the continuing increase in the real estate expense without being always simplistic and you've been around long time, John, if there is nothing on the topline, there is nothing on the bottomline. We've got to get the sales going in this company.

John Shanley - Susquehanna Financial Group

Right. Okay. I agree with that. Last question I had is, of the 142 stores that are closed in the fourth quarter and the overall 300 stores that the company has announced are they going to close in fiscal '07. Are the majority of those stores met loss stores and can you give us a sense in terms so we can adjust our numbers going forward. What are the combined or collective sales volumes of those stores were and perhaps, what was their negative impact on the company's operating performance were or would have been if you had kept them open?

Bob McHugh

Yeah. First of all, they are all loss stores. And I don't think that we put a number on that.

Matt Serra

We didn't put the sales…

Bob McHugh

We didn't put the sales

Matt Serra

That were basically operating profits.

Bob McHugh

Yeah. It’s a couple 100 million bucks.

John Shanley - Susquehanna Financial Group

Okay. And can you give us a sense of what they were losing?

Matt Serra

Yeah, that was $0.10 a share, 25 million shares.

Bob McHugh

Which is $0.03, we were expect to realize this year and $0.07 next year.

John Shanley - Susquehanna Financial Group

Okay. All right. Very well.

Matt Serra

Next year, we have approximately 120 to 140 stores that we will be closing. Some of those are cash flow negative stores, but as we deal with those, it's obviously, we would have closed them this year, but it's obviously more efficient to write out the lease through parts of next year. But it’s, hopefully, towards the midpoint of '08, we will have dealt with the total problem in aggregate.

John Shanley - Susquehanna Financial Group

Will you get rid of the majority or all of the Triplex by '08?

Matt Serra

No, not really. The plan is to be done about 32, 33 and believe it or not, now that they are fully depreciated, most of them are making money. So, but we still have a plan to take approximately 10% to 15% of them and scale them down. In other words, we just took a Triplex in one of our buckets, which had all three facet in it and we put a Foot Locker and a Kids in it. And it's doing extremely well, because the ladies business was always the topest in the Triplex. But basically now, correct if I am wrong guys, the Triplexes are pretty profitable.

John Shanley - Susquehanna Financial Group

It's really great to hear. Thanks a lot, Matt. I really appreciate it.

Matt Serra

Thank you. Happy holiday, John.

Operator

Our next question comes from Bob Drbul from Lehman Brothers. Please go ahead.

Bob Drbul - Lehman Brothers

Hi, good morning. Here’s the first question that I have. When you talk about the book value of the equity of the company in the stock price, can you just, maybe, update us on our philosophy around the share repurchase program and the use of cash that you guys have on the balance sheet and your priorities for that cash, a little bit more detail?

Bob McHugh

I think, first of all -- this is Bob, given the current sales environment and external environment there we kind of been very considerable with our cash and have been as you know from this last quarter. So, I think, we do look at the value, we constantly look at the value of the stock, both from the external market, as well as, internally and what other things we want to do with the business. We also have to balance that with, we’ve had blackout periods at various times during the past year because of the Lehman strategic review, but again, we constantly look at this, but I think given the current sales environment we're going to be very cautious [externally] how we spend the cash.

Bob Drbul - Lehman Brothers

Okay. And then the other question that I have is essentially for Matt. When you look at the percentage, the current allocation of high priced exclusive marquee merchandise, where was that in the third quarter, and what do you expect it to trend to over the next several quarters?

Matt Serra

Well, we certainly are getting more of it and buying more of it and we -- our company, since its inception, has always done well when the high end has been strong. So we've increased it to a very significant number, not at liberty to divulge that number, but we have a lot of -- customers are there, we have got the merchandise.

Bob Drbul - Lehman Brothers

Okay. And then, just the final question that I have is, when you do look at the pipeline of product that you have seen over the next several months, are there any, either new running shoes or any new basketball shoes that you really do think will and maybe start to leave you out of this?

Matt Serra

I think we continue to have Jordon -- brand Jordon and the Retro doing extremely well. Dunks, Air Force 1, you can't get enough of them, I mean, all you can get -- you can sell. Very importantly, the Adidas Bounce running shoes is becoming a very, very important high-end shoe. Most of them sell for around a $110 and we are doing well universally, and when you have a shoe that is doing well universally, when I say, in every single market we operate in, up and the other big shoe is obviously Shox, which is, I think, becoming a mini brand by itself. The kids have bought into it. It is one of the number one running shoes out there. Very impressive is the growth that we've experienced with Asics in the last couple of years, but this year is, I think, Asics is coming into their own as a major force in the business.

Bob Drbul - Lehman Brothers

Okay, great. Thank you. Happy holidays.

Matt Serra

Happy holiday to you.

Operator

Our next question comes from Robert Ohmes from Banc of America Securities. Please go ahead.

Robert Ohmes - Banc of America Securities

Thanks. Hi, everybody. Just a couple of quick follow-up questions, the first, Matt, is the store closings in the fourth quarter, I would imagine you are going be doing a lot of liquidations in those stores. Do you think that will have an impact on the promotional environment for the fourth quarter? Or sort of can you walk us through that process versus what was going on in the third quarter?

The other question was just on Under Armour, you mentioned it's going to be in your stores for spring. Is it a test or you are rolling out in all stores? Can you give us some sense of the magnitude? And also whether you anticipate carrying Under Armour's footwear as well?

And the last question would just be on the marquee, you are obviously increasing it year-over-year and to top performing everything else in the store. But if you look at the comps, if you look at the square footage increase in your stores versus the comp in marquee, are you out-comping the increase in square footage that you are doing? Or is it just outperforming the other stuff that's doing so poorly? Thanks.

Matt Serra

Yes, it’s clearly outperforming all the other products. That's the bottomline. And looking at Under Armour, I would say it's an aggressive test. We certainly wouldn’t roll out Under Armour in 1,300 Foot Lockers. But there will be a nice presence in Foot Locker. And we think that Champs, being clearly a very sports-oriented operation, there are several hundred stores that will be carrying that. And they will be carrying the footwear, the cleats, and Foot Locker will participate in the cross-training shoe, when that comes out, which I believe is July '08.

In terms of promotional stance, I think that the fourth quarter is, and I am sure you guys are on this. I think it's going to be very, very promotional. Whether we aggressively go after a little more aggressively in these stores we're closing, I don’t think it's going to create havoc in the marketplace.

So, there is always people discontinuing stores, closing stores or liquidating stores. So, it's not a huge piece of our fleet. And we are taking pretty big hit this weekend on that category. So, and our plans are to get out of them as quickly as possible, and I don't want to be in a lot of these stores on December 26th.

Robert Ohmes - Banc of America Securities

Got you.

Matt Serra

Did I miss one?

Robert Ohmes - Banc of America Securities

No, no. That’s very helpful. Thanks a lot, Matt.

Matt Serra

Okay. Thank you.

Operator

Our next question comes from Robert Samuels from J.P. Morgan. Please go ahead.

Robert Samuels - J.P. Morgan

Hi, good morning. Just a quick question. Are you seeing patterns or trends by region on mall verses urban locations?

Matt Serra

Yes, this is very good in Northeast, particularly in New York. I think it's pretty apparent that the city is flushed with tourists and the exchange rates, they are basically getting -- I am sure you all know that the same shoe that would be a $100 in the U.S., in many cases is a EUR140 in Europe. So, and particularly in our Time Square operations, 34th Street operations and all over the city, up in the 125th Street, where we did the grand opening the other day, with the House of Hoops, we had just tons and tons of tourists up in them. That has become a very big tourist market.

And the northeast is really doing well and that's a big piece of it. We also have a lot of very important flagship stores here. Geographically, if you look at California and Florida, they are our two toughest markets. And Texas is right behind them. Texas is a new development that's been going on about for last three to four weeks. But this year the California market and Florida have been our roughest parts of the country.

Robert Samuels - J.P. Morgan

Okay. And then, finally, any new brands you're planning up bringing into the stores for next year?

Matt Serra

Yeah. There is a couple of, I am not at liberty to discuss it, we are negotiating with them now, but there are a couple new interesting things we are working on.

Robert Samuels - J.P. Morgan

Great. Thanks.

Matt Serra

Thank you.

Operator

Our next question comes from John Zolidis from Buckingham Research. Please go ahead.

John Zolidis - Buckingham Research

Hi. Good morning. I was wondering if you could comment on the strategic review. Is that continuing or has it concluded? And then, my second question is on cash flow. You gave us an idea of what you thought your net or your gross cash would look like at the end of the year? Can you give us a little bit of help with the assumptions, in terms of, what you think you can generate, in terms of cash flow from operations? How much of a benefit from working capital do you anticipate there? And then, what's your updated expectation for capital expenditures for the year? Thank you.

Matt Serra

For the current year or next year?

John Zolidis - Buckingham Research

Well, for the current year, and if you got next year, I'll take that too?

Matt Serra

I think it's around 148 this year, something in that range.

Bob McHugh

Yes.

Matt Serra

Next year, we're planning approximately 170 and, by and large, that is really to execute this differentiation strategy in the U.S. and cleaning up a lot of the stores that we've done in the last six-seven years. They are in need of new flooring, new lighting, new fixturing, and some other items to make them look fresher.

And looking at the strategic review with Lehman, Lehman continues to advise our company on a range of matters. We really don't have anything to report further at this time. I think there was a question on cash flow, were you talking about this year or out years?

John Zolidis - Buckingham Research

For the current year, what kind of cash flow from operations is built into the statements that you're going to end with the year? Was it about $3 per share?

Matt Serra

It is not over yet, but…

Bob McHugh

Matt, I think that we addressed that in the prepared remarks, where we stated that we thought that we would end the year with about $3 per share of cash, which kind of puts it in the $400 million to $500 million range.

John Zolidis - Buckingham Research

Okay. And then is the share repurchase suspended while Lehman is doing the strategic review, are those two independent of each other?

Bob McHugh

They are -- no they are not suspended. But, if you read the 8-K after we received our amendment, about a month ago from the banks and extended our facility through, I believe, this May of 2010 that we have a $15 million ceiling on share repurchase. And until business gets better quite frankly, I think, we want to really maintain a very strong balance sheet and liquidity levels and be sure that our working capital needs cover. And I don’t believe at this point in time, going on purchasing a lot of stocks is particularly a good idea for our company.

John Zolidis - Buckingham Research

Okay. Thanks a lot, guys and good luck for the holidays.

Bob McHugh

Thank you.

Peter Brown

Okay great. I think we have run out of time for today. I just want to clarify one statement and maybe fine tune it a little bit. The sales related to the 300 stores that we want to close this year will be about a $175 million. So with that, I appreciate everybody joining us, and everybody have a happy holiday.

Matt Serra

Okay. Thank you, all.

Bob McHugh

Thank you.

Operator

Thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating. You may all disconnect.

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