Overstock.com Inc. (OSTK)
Q4 2005 Earnings Conference Call
February 7th 2006, 11:00 AM.
Executives
David Chidester, Senior Vice President, Finance
Dr. Patrick Byrne, President of Overstock.com
Analysts
Aaron Kessler, Piper Jaffray
Scott Devitt, Stifel Nicolaus
Frank Christina, Avondale Partners
Rebecca Kujawa, Stanford Group
Paul Keung, CIBC World Markets
Justin Post, Merrill Lynch
Operator
Good morning everyone, my name is Jenny and I will be your conference moderator today. I would like to welcome each of you to Overstock.com 2005 Financial Results Conference Call. At this time, all lines are in a listen-only mode. Later, we will announce the opportunity for questions, and instructions will be given at that time. A web-based slide presentation will be used during this call, and is available for download or viewing over the Internet on the company website: www.shareholder.com/overstock. If you’re listening via the telephone and want to see the presentation via the internet, please ensure that you select the no audio slides only option. If you select the regular webcast, you will experience up to a 25-second delay. If you should need any assistance during this call, please press “*” “0” and an operator will assist you. This call is being recorded, and will be available for replay beginning today at 3:00 PM Eastern Time through 11:59 PM Eastern Time Tuesday, February 14. The replay can be accessed by dialing 888-203-1112 or 719-457-0820, and entering the access code of 4565193. At this time, I would like to turn the call over to Mr. David Chidester, Overstock.com’s Senior Vice President of Finance. Please go ahead.
David Chidester, Senior Vice President, Finance
Thank you. Good morning and welcome to Overstock.com’s year-end 2005 conference call. Participating with me on the call today is Dr. Patrick Byrne, President of Overstock.com.
Before I turn to the financial results, please keep in mind that the following discussion and the responses to your questions reflect management’s views as of today, February 07, 2006 only. As you listen to the call, I encourage you to have our press release in front of you, since our financial results, detailed commentary and the President’s letter to shareholders are included and will correspond to much of the discussion that follows.
As we share information today to help you better understand our business, it is important to keep in mind that we will make statements in the course of this conference call that state our intentions, hopes, beliefs, expectations or predictions of the future. These constitute forward-looking statements for the purpose of the Safe Harbor provisions under the Private Securities Litigation Reform within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These forward-looking statements involve certain risks and uncertainties that could cause Overstock.com’s actual results to differ materially from those projected in these forward-looking statements. Overstock.com disclaims any intention or obligation to revise any forward-looking statements.
Additional information concerning important factors that could cause actual results to differ materially from those in the forward-looking statements is contained from time to time in documents that the Company files with the SEC, including but not limited to its most recent reports on Forms 10-K, 10-Q, 8-K and S-1.
I will first discuss a few of the financial highlights for the full 2005 year. Please note that all comparisons will be against our results from the full year of 2004 unless otherwise stated.
I will start by reiterating what Patrick explained in his letters to shareholders, for 2005 forward we will be capitalizing inbound freight and expensing it over the period the related inventory is sold. This adjustment has been made and has included in the full year 2005 results but we’re still finalizing how this will be reflected within the 2005 quarters. We anticipate updating the quarterly financial information within the next week or two. As a result, we’ll not be discussing our quarterly results, however, we are still able to discuss 2005 highlights which I will review now.
For 2005, total revenue was up 63% to 804 million, gross margins were 15%, 170 basis point improvement over 2004 and gross profit dollars increased 83% to 121 million. Operating expenses grew 103% to 144 million, sales and marketing expense was up 97%, technology cost grew 233% and G&A costs were up 68%. Operating losses were 24 million or 3% of sales, up from 5 million or 1.1% loss last year, our net loss was 25 million or $1.29 per share compared to 5 million or $0.29 loss per share last year. We ended the year with 112 million in cash and marketable securities, 50 million of which consisted of a foreign currency bonds that fully mature on November 1 of 2006. We had 79 million of working capital and 92 million of inventory and we intend to reduce inventory by 15 million to 20 million over the first six months in 2006.
Operating cash flows were an outflow of 6 million for the year and free cash flow was an outflow of 51 million. As we had cash out of 45 million related to capital expenditures. We did not achieve our goal of positive operating cash flow for the year as inventory was higher than we’d anticipated. However, we estimate approximately 30 million of depreciation and amortization in 2006, therefore we believe any cash losses in the first six months of ‘06 will be more than offset by cash received from reducing inventory and the cash used for capital expenditures will be offset by non-cash depreciation expense. And therefore we believe we’ll generate positive operating cash flow in 2006.
Beginning in the first quarter of 2006, we will begin to expense stock-based compensation and we estimate the impact to be approximately $1 million per quarter in 2006. With that, I will turn the call over to Patrick.
Patrick M. Byrne, President
Thank you David. I’m going to follow-up on one point David made, on the issue of capitalizing inbound freight just to give a bit more of color on that.
I mentioned at the end of last call that the expensed inbound freight which introduces us a lot of – into our margins because there is the third quarter where you are building inventory, the expense at all, and so it hurt your margins and then in the fourth quarter it makes your margins workout officially good because it reflects through all these inventory and have much little or no inbound freight. And I mentioned then that they might start capitalizing at the end of the year, that in fact that noise, that noise, I think we’re sort of artificial and that may, this maybe the first two quarters look artificially weak and the fourth quarter better than it’s had.
Well I mean our auditors have come back and agreed to the extent that they say so much so, there’s basically $3 million of good, of benefit the flow from that. And they’re saying, so the question is where does that $3 million get attributed, is it 2 million in the fourth quarter, does some of it go in the third quarter and some of it may belong in ’04. And it belongs in ’04 then we actually have to go back and change ’04 and say we didn’t lose 5 billion we lost 4 million. So these are the kinds of issues that were, we still didn’t make on the ruling from the auditor or even delay the call and we worked it out, we decided to go ahead. But what that means is that there is $2 million, if we don’t change anything, it would be $2 million benefit our way in the fourth quarter and the third quarter numbers would stay the same and the fourth quarter would be, you can sort of back into, it would be a $4 million loss. But that $2 million benefit may end up giving sprinkled back earlier in the year which means that we didn’t loose much as we thought we did, but we lost little bit more than this 4 million this fourth quarter.
So that’s just the issue in front of us. Okay, we have a Safe Harbor statement; obviously, I’m not going to read it again. Slide 3, we are trying to adopt a new system where people are being, analysts are being good about the emailing Kevin Moon, our Director of IR, questions beforehand. I would feel unfair if I am not getting to everybody’s questions but this, over the last few days questions have been coming in, we’ve organized then went into this set of questions and we’ve produced the presentation that answers most if not quite all of these questions.
Okay, Slide 4: Table of contents. This presentation is going to go on. Start with some bad and ugly things that happened in ’05. Some good things that happened and then looking forward and then four, my Jihad, I know, people seem to want to, some people never want to hear about my Jihad, I don’t even really want to talk about my Jihad anymore but some people have expressed an interest.
And then, okay, Slide 5. This is sort of the deep structure of what’s really happened in ’05. What you’re looking at is a cumulative tech expense for Amazon, divided by revenue for, first of all for Amazon and if you see where they, sort of hit scale, where they have reached the point where they have put an outside leaves down that it could support their large volume.
So, how do we look in comparison? Well, there is Slide 6. And what, this is a way of expressing is how we’ve really run things on the shoestring until ’05. We ran things on the shoestring, probably we ran the tires down that they would fall looking back I would have been better off investing another percent or two in revenue as we went long and, I would have been better off investing a little bit more as we ran long and said it was just covering up against the limits, as we’ve really have over the last 2 years, we have to get, I go back to 2003, and we’re just, we were running on a shoestring to a greater extent than we even know.
Now what that meant was Slide 7. In ’05 we had to come out, and when we started rebuilding, we may have started off thinking we were adding a bedroom, by then we got into it we realized we have a lot of structural work to do and had to turn on the garage and lay new foundation all kinds of things. We do think that, well we know that the bulk of that is done, well I think we Dave, what did it all come to, 60 million?
David Chidester, Senior Vice President, Finance
About 60 million, yes.
Patrick M. Byrne, President
Yeah, our CapEx for this year will be half or slightly less than half of that, we expect. The upside though of the graph I just showed you, is as follows. Well, actually we’re starting this is our conversion rate. I have only taken out to, I took out the conversion rate, search keywords like Google, keywords, search words because they introduce, we started to doing a lot more in ’05 and ’04 and they introduced a lot of noise into the situation.
So this is what our Slide 8 shows, how we were running through, August of ’05, which is one we converted. And one can see we were starting to do better and better. We’ve really were, I think, up on the wave. Then, August, in August as we discussed in the third quarter phone call, this is one we started cutting over to the new systems, they were not ready, I should not have cut over, I just wonder at it and we immediately, although we did have a sword hang over our head which was were worried about making it through that: the Q4, without cutting over, I guess, you know that was really the great gamble. Should we have just delayed everything until January to do cut over? Or and trying to gut it out on what we had then? Or were we’ve running on all tiers that would not take us through to Q4? That was the question.
You can see the pie on slide 10, you can see the pie, October we started getting things turned around, we actually buy on December 23, I think it was one with the last set of batches went in. Or is that one in that’s little bit too late to help your Christmas season. We look back at that area that’s shaded in red, I think that contains about $100 million to $150 million. And that’s just pure, put that down to my error. We had killed that up. We actually thought we would be able to pass the $1 billion mark and even make a little bit of profit this year. And looking back this stat, that technology cut over and lot of unwritten systems that we should have, we tested but, I guess this was not there and often we were two days there, and we probably should have figured out a way to, to got it through on the fourth quarter on what we had.
Now, one positive is we did receive a nice rebound in the last months, despite lot of competitive pressure, pricing pressure on the Internet. I’ll put it this way the plumbing was clogged and we had a little bit backup in the systems but things have been cleaned up now, in fact what’s happening now with the new systems are so good, that we are actually sort of exposing as we are able to drain the lake, we exposed rocks that we didn’t, you know problems that we didn’t know were there before the build system.
So, now to some good things that has happened. On Slide 11, you see that we have reached 1.6%, of eCommerce in the US, and the fourth quarter of this year. And on a trailing 12-month basis, we have now broken 1% of the eCommerce market. For comparison, Amazon is at about 5.5%, we’re just taking market share. We had to, I think to come up with Q4, I’ll just note you that estimate Q4 20% growth, and of the holidays for themselves were 24, plus the quarter was only 20. So, we’ve gained market share and I think become a legitimate, well-known competitor on the net. We always like to compare ourselves to Amazon; I look at - as the benchmark that they’re really last of the big tier players out there.
Amazon North America revenue and gross profit is just a multiple of Overstock’s they were just a few years ago, 18 to 24, they are down there about 6 times. In fact, if we don’t make any accounting adjustments, if we just for the fourth quarter, they were down about their gross profit, they are generating about 4.9, or 4.8 or 4.7 times as much gross profit as we are at this point are, I’m disappointed in this. My goal for the year was actually to get these under four, to get to the point where we were at quarter of their size or more and just the tailing off in the third quarter, then the total, we are hitting the emergency break in the fourth quarter, prevented that. But still, we are down to the point where, if we make, if we just stick to the accounting principles we’ve had and showed gross profit, now this is their gross profit in North America, and I should emphasize what we will get to that, just a second.
Our gross margins have climbed again another 170 points last year. I’m not happy with this, I think we should have - to be honest; I thought we would be able to get to just under 16 or so for the year. I really thought we could do 15.5 for the year. This again this 15.0 there is certainly some cost associated with the problems we had in here. I think there is still, well I know that there is 100 basis points more of inefficiencies we can pickup and there might be more than that and so I just I’m irritated myself because although we had a 170 basis points this year, I know there is more for us to pickup.
On Slide 16, I’m going to go back to all these calculations of Amazon margin and gross profits that I’m comparing our sales with. On Slide 16, you see the reported gross margins, I want to mention for the nth time that they don’t count fulfillment costs in these margins, they move on below the lines and make them apples-to-apples with Overstock, they have to move there for some patent cost, back into their cost of good sold. And as you do that so you get an apples-to-apples comparison, you’ve actually see that they are running 14 to 15 and we’ve now essentially caught them in margins. Now this is apples-to-apples all we have to do is read their footnote, 2 or something it is, just to see what this is. But this is an apples-to-apples comparison. In fact in the fourth quarter, again if we had not changed any, like if depending on what the auditor say, if they don’t change anything, we’ll see there, our margins actually passed them, but if they, the auditors come back and say something else, did you got to put all that 2 million back in the third quarter, something it will, well the year number will come out the same. So if you would effectively caught them.
And we have, just a moment, I’m particularly proud of Slide 18, and this has been, I feel like this is one of the toast, maybe the largest unsung accomplishments at Overstock. Our brand over the last 2.5 years, we’ve gone from an unprompted name recognition for Overstock and that is, if you call thousand household and you say name a place you’re online for internet shopping or for getting discounts on internet shoppers or if I get the precise question that happened to us, started off with 4% just 2.5 years ago. It’s now 29%. That’s I believe about the same brand as if you ask, keep as target. If you ask people to name a department store and for commodity we can go and get that good deals or something, if that’s the same people mentioning the target, same percentage by the end-target. That’s what I have been told anyway.
So we’ve made significant inroads on Amazon and even eBay in the sense of being named unprompted, and as far as prompted name recognition, this graph goes back to, only two in ’04, it shows 47 to 70. Two it is when we started, this was a - when we started 2.5 years ago, in terms of our advertising this was other 9% or 11% something like that, so we’ve taken our prompted name recognition from 11% to 70% over 2.5% years or they have been 13%, to begin with 70%. Again, I just feel like that, that’s the kind of thing people spend more years and hundreds of millions of dollars getting to, and we’ve been able to do that I think that we lost money still, but we’ve been able to do that within a couple of points of breakeven in such a short time, has been a quarterly accomplishment for our branding staff, or it will for the whole company.
2006, Slide 20. We want to go an overview of surfing analogies before, and said we are up on the plane or up on the wave. I want to go to I am not saying relaxed mode, but for trending water mode, not trending water, but we are stopping hyper growth for now. We are taking the next 6 to 9 months to just burn in and harden our systems, I maybe should have done this 2 years ago. We just got to harden our systems, we’ve been mixed on the forward, we’ve been trying to overhaul the engine as we drove the street, as we raised down the street for too long. So we are pulling over just going to harden the systems, reduce our sales and marketing spend, you will see it come down by that 2% per quarter for a while, grow the industry rate for the next 2 to 3 quarters, that’s all we want to do is grow at the industry rate, reduce now go at the industry rate and I think losses will just about the depreciation and yes, we will have some CapEx at much lower rate, but we are also shrinking inventories, so that all should be more or less a wash and just focus on hardening our systems, we’ve reached a point where we were a legitimate, online brand and its time we stop things or gum chew about things.
Let’s talk about cash, I know that Mr. well, I won’t mention him, fellow’s name but, one of the lackey, he is in New York is the road, one of the complaint lackeys on an article about cash, the losses will approximate depreciation and amortization expense, I think our depreciation has gone in the last few years from I think, it was 2.5 million just a couple or few years, short years ago to what it was last year days, 15 to probably…
David Chidester, Senior Vice President, Finance
15 million to 16 million.
Patrick M. Byrne, President
It’s 16 million and this year, 30?
David Chidester, Senior Vice President, Finance
They are estimated about 30.
Patrick M. Byrne, President
Yeah, so 30 million deprecation. That should be basically the losses, the reduction in inventory loss and capital expenditures, there is an inventory line of 40 million to 50 million available to build inventory for Q4 if we want, definitely do not, we think that we can manage this year nicely and if we managed tightly we should not have to raise it in capital. We actually have some additional borrowing available on a different line against our foreign bonds, and then we also - our foreign, we have these foreign instruments we’ve described before they mature in September and November and they are $25 million each.
Okay, I don’t want to spend a lot of time talking about the Jihad as a, and I am not sure that’s a very good definition for Jihad, I can’t put that in there, but I do want to tell you what I know and you believe anything you want to believe, I feel fiduciary duty to give a quick update and I am going to be very quick. There’s two aspects to this fight I am in, one is the lawsuit, now I know that there is fellow that they’re stopping at this and saying this is all nonsense, but then, we’ve got guys threatening our witnesses, we had guys calling our witnesses and threatening them, they are panicking. There are people calling and there is, other way there is now if 8 witnesses at least 7 of them who willingly testify. One of them is a women very similar circumstances, as the other three went to her boss said what we are doing here is, illegal or wrong, like I just scarf that or walked away, she quits, she’s now in Meds School and they’ve been calling her and saying, we can, if you can’t, we’ll lower you up and take care of everything and if you don’t we’ll make sure you never work and this kind of stuff. So they can scarf at this all they want, they are making mistakes in my view. We think that this is a very large lawsuit, we think that this is a, we’re looking for 10 figure number to come out of this. There maybe some other de-pockets associated with some folks we’ve been, we are assuming. And we are looking for; I guess I should say it’s pretty common number out of this.
On the other side of the lawsuit, on the other side of the Jihad is the make itshorting issue. Now, again I am just going to tell you what I know, and you believe what you want to believe. The SEC just released last week, what our make itshort position was, at the DTCC level on August 1, which is before all this started. And it released something that was ambiguous, they set an aggregate sale position on August 1 of 550,000 shares its not clear quite how to interpret that, you can interpret that of, of the 600,000 shares that were supposed to settle that day, 550,000 been. Or the conservative way and to me probably, the more likely or at least the conservative way is that was the total accumulated sales. While the DTCC has also indicated that the ex-clearing problem is about 5 times greater than the problem at the DTCC, that would bring the total aggregate sales to about 3 million on that day in August. However, there are some people telling me that whatever the failure to deliver problem is that the DTCC is really 15 million to 20 million, 15 to 20 times that amount in the ex-clearing system because of the technical and breakfasting shares and people walk now through it, people from the British Virgin Island and places like that, they tell me the real number is 15 to 20 times whatever the DTCC set.
Now on top of all this, we have of late more reasonably that the number of sales at the DTCC maybe quite a bit higher than that 550,000, it was conservative interpretation back in March or back in August. That it could be on the order of several million and that’s, on the order of several million that means by the DTCC’s only estimates that there is 5 to 6 times that in the system that would bring it to, 25 million to 30 million or more and if you believe the 15 to 20 times, just circling these ridiculous numbers.
Now so, but what that means is, there’s somewhere between depending on what you believe 3 million, 10 million, 30 million or more undelivered Overstock’s shares in the system. As a sort of in support of the idea that’s the case or higher, I will and bought 50,000 shares at the end of November, never got, they would not settle the trade were not settle, I am not talking about just getting taper, the trade wouldn’t settle, it was the 150 trade and broker has gotten me the records on 144, and they’re refusing 6 of the 144 trades on that day I bought in November, a 144 turned out to be mismarked short sale, that have been marked as long sales and took a month to deliver. That was 97% of the volume, where currently that day was, make it short. I have people calling me from, I got a guy calling me from Switzerland, he says he bought 300,000 shares, 2 months ago cannot get a single one settled, I only got mine settled when I started putting some course on message boards. The guy from Switzerland says he had 300,000 cannot settled, he has got a friend with 200,000 cannot settle, cannot get them settled. I’ve got a fund in the South colony says they’ve tried mine but they can’t get delivery and they are just not going to buy because they cannot get, they cannot get what they buy to settle leave on giving anything turned into paper.
So at some point, I believe that people listening on the phone and including me, we own somewhere between 80% and 20% of what we think we own, depending on how much of the kind of its stock, this has been allowed to wash into the system. I think I’ve got a judiciary duty that’s to inform people that now, again you guys believe anything you want to believe I’ve told you, some of the facts that’s as I know them and that make up to your mind. While I do predict, I am not telling anyone of course to buy stock, to buy or sell, make your own decision. But if you buy stock and you just, 5,000 shares and ask for proofs for settlement and its, I’ve talked to lots of folks on Wall Street who are having, who are getting quite an eye-opening experience when they try to do that. But now it couldn’t really be that 97% of the stock trading is FTD, I assume.
Okay going to the slide, I just kind of run through this, I think we’ve covered most of that, most of the questions here, I didn’t do it one for one but, I think we are ready to go to questions, Jenny.
Questions-and-Answer Session
Operator
Thank you. Ladies and gentlemen, in order to ask a question, simply press “*” “1” on your touchtone telephone. Again, simply press “*” “1” for your questions at this time. We will pause for just a moment to assemble the question queue.
We will take our first question from Aaron Kessler with Piper Jaffray.
Q - Aaron Kessler
Great thank you, hello Patrick and David.
A - Patrick M. Byrne
Hi.
Q - Aaron Kessler
Well, couple of questions, one in terms of reducing the advertising expenses, I believe you said, sales and marketing were coming down 2 percentage points for the first few quarters. If you do pull that back though, what sort of studies have you done to show what impact that would have on the revenue growth? And second, any expectation at this point for where G&A and technology expense on the year?
A - Patrick Byrne
Sure, on the revenue growth I can tell you should model 10% to 15% growth, just industry growth for the first 3 quarters. Just model 10% to 15% and expect our expenditures on marketing as a percentage of revenue to come down sort of 2%, 1% to 2% each quarter. And with a little bit of luck everything will be burned in and sometimes in the third quarter we’ll hit the gas again and see if we can get back on the higher growth or even hyper growth. Dave, do you want to handle the, I know the numbers, I am not sure what you want to release David, but what you want to say about G&A in fact.
A - David Chidester
Well I think we talked earlier that it would be somewhere in the $90 million to $100 million range and that’s still the case, probably on the high-end of that range.
A - Patrick Byrne
And might even go, no that’s right, high-end of that range. I can’t say on marketing, by the way, because I know people, some people saw this incredible ad and they are saying, well how did that chime into telemarketing. We have a model that, for the first couple years in terms of television and radio advertising the model said, our approach was kind of broader torture, it was the tap, tap, tap constantly and constantly and that, I think that’s how our brand build as successfully as it did, or, we are switching to a very different approach. Our total offline expenditures this year, will probably be about half, of what they were last year. And we are doing that, we are moving away from the broader torture, tap, tap, tap to a much lower level of background advertising on cable and so forth, much lower level punctuated by very big occasional very big buys, or real cookies incidentally that I remember users are reading that this was their philosophy, that they everybody already knows where it is so they don’t advertise on TV except for 2 weeks a year. Well they blitz the world and remind people of warriors, and that does more of their name recognition, brand and being continues about it. I guess when moving more towards that oriole approach, I don’t want to be too easy or it will just be occasional very big prominent ad, but the background level of ads has just has dropped, I think about 70% or 80%.
Q - Aaron Kessler
Great, and any sense for what the total I mean, your off line marketing as a percentage of the total marketing budget?
A - Patrick Byrne
Yeah, just a second, it’s a less than, I think about 15%.
Q - Aaron Kessler
Great, thank you Patrick.
A - Patrick Byrne
Thank you.
Operator
We’ll go next to Scott Devitt with Stifel Nicolaus.
Q - Scott Devitt
Thanks, hi Patrick.
A - Patrick Byrne
Congratulations on your own.
A - David Chidester
Name change.
Q - Scott Devitt
Yeah, thank you very much. I had several questions, if I you had…
A - Patrick Byrne
Take time?
Q - Scott Devitt
Yeah a little bit of time. First I want to touch on, I think you switched over from DHL to UPS at some point over the past couple of months, and I wondered if you could talk about that it detail, how it may have changed the customer experience and if it is just on the direct business or partner as well? And then I’ll follow up with other questions.
A - Patrick Byrne
We did on the first of November, switched DHL to UPS, we had a very good experience with DHL and I don’t want to slag them in anyway. We had a great experience for couple of years with them, I think that the UPS presentation to the consumer, is probably little bit better than DHL, do you have a different feeling on that?
Q - Scott Devitt
How do you know, I think there is shipment tracking is much better with UPS, which is the biggest benefit from my end?
A - Patrick Byrne
Yeah, and but even when the, truck pulls up with someone’s house, do you guess, its just a little bit better, I think people are bit more comfortable with it. But UPS came with us with a fantastic deal and it wasn’t, but it wasn’t as cheap as DHL. But on the other hand DHL, everybody was starting to hit us with oil surcharges that were changing the landscape anyway. But what UPS came to us with a fantastic package in terms of the what they were going to provide us, and it wasn’t just, it was a good competitive price, but they wrapped it up with a lot of very attractive offers, that and part of it was the tracking, when we went with DHL. If we zone skip which means to save money, we load up an 18-wheeler at our solid city warehouse, and we drive it to someplace in Western Ohio or Pennsylvania or something depending on this just a bit, and drop it off there, and it just saves us a lot more, and when we were with DHL, to be honest, the customers couldn’t get tracking information with our full period, but now you get to scanning it out our warehouse. So, before it goes, before it leaves on the zone skipping. So the customer gets the information, doesn’t have to wait 3 days for tracking them, starts getting information within 3 or 4 hours to place any order off to them generally. So that’s attractive, as far as getting the partners to roll over on to UPS, that takes, we actually tried that couple of years ago, forget which carrier was with. And if, I can’t remember as of here you know, 45% of our total target has come out of our Warehouse the rest are, elsewhere the problem is if we gave our partners our shipping numbers, they could ship on it and there was a heck of lot of work for Dave and his crew to reconcile at the end of the month, to make sure people, but they’re using our up in LA, as part of what we want to do with UPS is to resolve that and Dave you are the guy who have to do the work, what did that stand for?
A - David Chidester
I think it is probably a big project, because we have so many partners, but, we’ve done it sort of experimentally with certain big partners and that had it worked just fine. So it’s something that we’ll look at doing especially if our rates are some any better than theirs.
A - Patrick Byrne
Remember, we’re likely to have to generate a total of about, close to $100 million of shipping charges this year, between the partners and the core business. So for that size, for that volume, people are willing to do extra things for us, and if we can create, I am very excited about that idea Scott, I wanted to do it for years, and I would love to sort of convert all of our partners to our shipping account, and get the benefit of our favorite nation rates, and backup that much, that volume of business to whatever carrier we are doing business with, but working out things so its not a nightmare for Dave to reconcile each month is isn’t the problem so far.
Q - Scott Devitt
Okay and then, to follow-up more financial related question. In 2006 you gave up a lot of financial metrics, so I was just wondering if you can just put them all together and give us an understanding of your capital needs in front of the inventory build in the fourth quarter and the maturity of the foreign currencies and specifically focused on EBITDA and free cash flow as well as the first three quarter cash needs and if you can bridge all those numbers together I think that would be very helpful?
A - Patrick Byrne
Okay. Shall I give a start to this Dave and then you sure back and correct me. First of all, I will talk about our instrument. I guess it’s about time we are close enough we, this maybe partly with Harrigan but I am not sure we’ve ever getting this much detail. We have a foreign currency instrument with Lehman Brothers, it just really two instruments, each for 25 million and I was really a hedge against the basket of the Asian currencies. The way that the, the way it is structure is was that if the dollar went down against the Asian currencies over that roughly 2 years of the bond. We got 85% of the benefit as of we adjust, convert it into Asian currencies. If and the unlikely so we thought scenario that, that the dollar appreciated against Asian currencies, our hedge did not loose us money. Well, it looses its money quarter-by-quarter but if we hold the, the bonds and maturity, it matures when we get all of that back. So, something that I am sure surprised many of us, it is the dollar did depreciate and so this instrument has lost money and I think at this point what’s sort of accumulated loss is that, David?
A - David Chidester
2.6 million.
A - Patrick Byrne
2.6 million has flown through our income statement, but if we just hold it to September, we actually get that 2.6 million back. And, we get it and this comes in mid September is 25 million and mid November is 25 million. So anything else Scott on the, on the Asian currency estimate or should I go to the rest of your question?
Q - Scott Devitt
No, you can move on and if you grow in CapEx as well?
A - Patrick Byrne
Okay. CapEx should be a little bit less that half of last year, its 25 million to 30 million. Set that aside our depreciation in the first three quarters will be what David about 22 million?
A - David Chidester
Yeah. 20 million to 23 million.
A - Patrick Byrne
And you guys know I hate talking about EBITDA, but if one would talk about EBITDA, one would say that should all come out breakeven, EBITDA and I hate talking about EBITDA for bunch of reasons, because people don’t like to count the cash want to go out of the door when they buy the product and when they buy the machine and if they don’t want to count at it as it depreciates, at some point they spent the money and if they just live on EBITDA, however, yeah, that never hit pricing, than it should never count that I had to write that check. On the other hand, there seemed to be 2 times when the EBITDA matters. One is when you may, a huge capital investments that you can, that you really can’t now live off for sometime and the other time EBITDA matters is, if people are raising questions about liquidity. So in this case, I think that the losses you’re going to see over the next 2 or 3 quarters should approximate depreciation, so what that means is or you don’t have implication of that, basically EBITDA breakeven. And, then you said well we do have CapEx on top of that, so that’s going to be a cash range, yeah that is, but we ended up with, our hump was filled because we have this deceleration and we have at the year, we ended up with far more inventory than we need. So, we’re actually bringing that down fairly aggressively 15, 20 million over the first 2 quarters and that should more or less pay for the CapEx. David Chidester you want to…
A - David Chidester
And I would just add to that, because we do have some cash needs as you say during the first 9 months Scott, we have this, we have an instrument Wells Fargo we can borrow against the bonds and make them liquid. So that will come back to us 25 million September 20, 25 million November 1 and then we won’t need to borrow we have the liquidity. So, that’s just a short-term liquidity needs we can borrow against those bonds and we have an additional inventory line we can borrow against the inventory if we need to, so that provides liquidity even though those bonds technically aren’t liquid right now.
A - Patrick Byrne
Right, the Wells line and I have to do a plug here for Wells. Wells has been a fantastic partner. We have a line against those, that 50 million and it’s not, we can’t, the 50 million of Lehman instruments and is not for the full 50, but we just have, several 10s and millions of borrowing capacity on that. We also have another Wells line against our inventory for 50 million on very attractive terms. So that’s why, so I don’t think we really have to dig very far into that, given everything else I’ve told you but all, that’s why, I think we’re just fine on cash and we should have to, we should not have to raise cashes here.
Q - Scott Devitt
That’s all I had thank you.
A - Patrick Byrne
Thank you.
Operator
We’ll go next to Frank Christina with Avondale Partners.
Q - Frank Christina
Yes thank you for taking my questions. I’d like to try to get an update on some of the businesses that you’ve launched in the last 2 years and just get an idea of what your thoughts are for growth? And then if possible I’d like to, that there’s some costumer metrics that you’ve given historically but, they are not available on this slide during the press release, but could you give us an update on Ski West in particular, this is supposed to be their fourth quarter, its supposed to be their strong seasonal quarter, can you give us an idea of how much of revenue is comprised from Ski West?
A - Patrick Byrne
A very little on a GAAP basis and I think that you are going to see, we actually had gross merchandise sales, if we include auctions and travel, I think we must have been about, David you report our gross merchandise sales is about 870 for the year right?
A - David Chidester
Correct.
A - Patrick Byrne
And there’s really 60 more in Ski and auction. So 930. Ski West is okay, but this has we bought made money through the second half of the year. We are on top of that, we already had started development of the travel business that we sort of integrating, we spent 6 months integrating into Ski West and writing off, we wrote off all. The development cost of code and different things we’ve done, we wrote to zero, so travel as a whole show the loss for the second half of the year but the business we bought made, made money, made nice real chunk of money, and on top of that we’ve gotten everything we think fetched at together travel. So even at January, the whole business made money, not just the business we bought that, now everything works together, this making money, it made by slow some in January. As far as how it affects on our GAAP numbers, it won’t change because we don’t book anything to grow its all net there.
Q - Frank Christina
Okay, so roughly 60 million in gross merchandise sales, is that for the full year?
A - Patrick Byrne
The 60 million was for, I am sorry, we did 30 million of auction JMP for the full year and we did about 30 million of Ski West GMB for the half year.
Q - Frank Christina
Great, okay thank you that’s helpful. You had mentioned that you guys have about 100 million in shipping charges each year, how did much of that do you think you are going to be able to get the consumer to pay in ’06, in other words, really if the another way to look at this is how much of your gross margin pressure that you’ve seen is a function of unit, the loss of free shipping and moving forward free shipping?
A - Patrick Byrne
Well, some has definitely put some pressure on things, the 100 million on that should imply, in other words if we do 1.1 billion or something this year, that’s kind of deal between our partners and ourselves, we’ll cut checks for 100 million to UPS, versus DHL. Definitely price, people are competing in shipping fees, now in our case we don’t, we’ve never really we’ve build our shipping, our true cost of shipping and the products, and then we’ve charged this 295 on top of that, which is to pay for, one thing is to keep people from too many small purchases and so forth, so I don’t think the competitiveness on shipping rates affects us as much. We never have to give up more than that $2.95.
Q - Frank Christina
Fair enough, but if you are building it into the price of the product, my next question was about, some of the competition I’ve seen, specifically linen, it seems like some of your piers are really pushing into that, in particular Amazon, they are pushing apparel and linen, are you seeing any price pressure on your products to maintain your discounts to what at one point were premium vendors?
A - Patrick Byrne
I am not aware of that, Dave Chidester?
A - David Chidester
No. I am not aware of that, we haven’t seen anything directly that, that affected our business.
Q - Frank Christina
Okay great, and then in terms of kind of housekeeping, can you give us an idea of your new B to C customers and the unique B to C customers, maybe an average order price, or if you put this in your press release just direct me to it?
A - David Chidester
We can get that detail too, we didn’t provide that in this call but you can talk to Kevin Moon and get that detail, I think the average order size is actually up to about $103 in the fourth quarter. And I think that’s first time it’s touched over $100.
A - Patrick Byrne
That’s with B to C included.
A - David Chidester
That’s all included…
A - Patrick Byrne
Well, now that’s with, with BMVG included.
A - David Chidester
With the BMVG, yeah.
A - Patrick Byrne
Yeah we have it but not BMVG reorders of over $120.
Q - Frank Christina
Okay, I was really interested in the customer acquisition cost, any…
A - Patrick Byrne
Come from on this year.
A - David Chidester
Yeah the GPA is included; it was $21.05, so it actually came down from the last 2 quarters.
Q - Frank Christina
And that shifts forward to B to C or is that all includes…
A - David Chidester
Actually, I apologize $21 is for the whole year, so you sort of have to back into what Q4 was because we are not giving quarterly information.
Q - Frank Christina
Okay.
A - David Chidester
But we will have that available soon.
Q - Frank Christina
Okay, well thank you for taking my questions.
A - Patrick Byrne
Sure. Thanks Frank.
A - David Chidester
Who we up with? Rebecca, Oh! Rebecca Kujawa.
Operator
We go next to Rebecca Kujawa with Stanford Group.
Q - Rebecca Kujawa
Thank you very much. I am a little bit confused about the guidance for the revenue growth. Going through the slide presentation, the information that you provided about the conversion rate, I think that was really helpful. It seems like you actually started to get and you are little bit of read your momentum back, again at the fourth quarter, but if, you are pulling back fairly expensed in your sales and marketing and expect a significant deceleration in growth. Why was that? And why is your strategy changing so much, I mean, I know you said it’s hard in systems but I’m not able to understand why?
A - Patrick Byrne
Well its just a hard systems, we feel that we’ve been raising down the street trying to overhaul this thing every years and we want to, just we have, when we create the list every year we create the list of projects we want to get done. And usually we take a 2 years worth of work and try to cram that to one year and then that halfway through the year where with 3 auction what we really need, what we don’t.
Q - Rebecca Kujawa
Right.
A - Patrick Byrne
But this time we just want to take 6 months and just focus on getting done the projects that, some cases should have been done several years ago. And so we just want to come off the accelerator and take a little bit of the pause. And, I am all forward by the end of the second quarter and the beginning of the third, I’d probably want to be, I’d say, “Hey! we can stop the gas and get back up there”, but of course having with all tiers, said no, we need that full 3 quarters, but the fourth quarter, I think you’ll see us go back through much higher, well I would like to thank, I expect this to go back to higher than industry growth rate by the fourth quarter.
Q - Rebecca Kujawa
Okay.
A - David Chidester
And Rebecca, some of the point of fixing the things, we want to fix things that we’ve already implemented in important place and make them better and we’re hoping that that actually helps increase conversion is that, rather than do new projects, fix all the things and make sure they’re working correctly in all of our systems including the website, including personalizations, some other things that we started but haven’t really got finished, that will help increase conversion in of itself.
Q - Rebecca Kujawa
Okay.
A - David Chidester
So that’s, that’s really what we are thinking.
Q - Rebecca Kujawa
Okay, a clarification question. Patrick said a couple of times you would decrease sales and marketing as a percent of sales 2%, do you mean like 2 full percentage points so if that were, 10% in for full year 2005, we’re talking about 8% sequentially for Q1 and Q2?
A - Patrick Byrne
Yes
Q - Rebecca Kujawa
Okay.
A - Patrick Byrne
But I actually mean sort of 8% for Q1, 6-7% for Q2 and sort of backing off to settle that way.
Q - Rebecca Kujawa
Okay. And then there’s last question and I know there is a lot of other people waiting but, you’ve indicated you expect industry growth rate for the next couple of quarters, but I would have expected you would, you are referring to industry growth rate is 20% to 25%. But I think I heard you say 10% to 15% for the next couple of quarters. Are you looking at the subset of the industry or did I misunderstand?
A - Patrick Byrne
No I think the industry grows in the fourth quarter and so there’s a 20% to 25%, but during the year I think that is growing more 13, 15, 17%, do I have that wrong?
Q - Rebecca Kujawa
I think the comp store data and commerce department data is actually suggesting still to 20% to 25% for most of the year and comps for you is that for the full year is 24%. That could be slightly off on that but I am pretty sure I’m not off by 10 percentage points.
A - Patrick Byrne
Like ’05 or would they expect for ’06.
Q - Rebecca Kujawa
For ’05, all retroactive.
A - Patrick Byrne
Well, I don’t think, I don’t think the industry was growing over 20 in the first two quarters of last year from but we maybe looking at different data. But anyway I think its sort of 15% as above with the industry grows during the year and then it surges for 24% or something and then it averages about 20.
Q - Rebecca Kujawa
Okay, great that’s helpful. Thank you.
A - Patrick Byrne
Thank you.
Operator
We will go now to Paul Keung with CIBC World Markets.
Q - Paul Keung
Yeah, hi Patrick.
A - Patrick Byrne
Go ahead, Paul.
Q - Paul Keung
I guess, the question is actually the same as Rebecca’s, just the one thing that’s still confusing is, in the past you’ve talked about how the things of the brand, the organic growth in China get little more loyalty by improving that consumer experience on the side. So, if you are still spending, I guess the size on our sales and marketing and I know, you don’t think that still not deliver, what would your organic growth be industry aside. If you count us the metrics, and where is January for that matter, it looks as if you’re surpassing a little of that right now?
A - Patrick Byrne
Okay, well I doubt we are going to release January, February, but Dave…
A - David Chidester
Yeah, we could not talk about January today.
A - Patrick Byrne
So, I don’t know how to predict what you said, I’d just try to avoid abrupt control movements, I am trying to, but I don’t want to cut our marketing from 10 to 4 overnight and I want to back it off and see, I don’t really know what the equilibrium is Paul, in terms of if we just, you know on the steady state if we just said some steer on that what would we have to spend to grow the industry rate, or, I would imagine with the 3% to 5% range, but that sort of over a year period not quarter-by-quarter.
Q - Paul Keung
Yeah, just interesting to see that you are spending a sizable marketing budget and you are one-third well into the quarter, and I think the number is that’s 10 to 15 or even 15 it seems it suggest, maybe no sales growth in the back half of this quarter. And this is what confusing about the numbers?
A - Patrick Byrne
Well its more, part of the issue that the quarters that we are, last year is the first quarter was an extraordinary quarter. So it’s a fairly tough comp. And yeah, then the third quarter its going to be an easy comp. And so you have to sort of factor that into it too.
Q - Paul Keung
Okay, all right thanks a lot.
Operator
And ladies and gentlemen due to time constrains, we will take our final question from Justin Post with Merrill Lynch.
Q - Justin Post
Thank you, question about your partners, obviously kind of missed your forecast, six months ago and there has been a lot of technology integration, how is the partner outlook right now?
A - Patrick Byrne
Justin?
Operator
We apologize sir, could you press “*”, “1” for me once again.
A - Patrick Byrne
Of course now, if Paul doesn’t, if Jus doesn’t comeback I’ll just take the question as it is. First of all, our partners are strange they put up with, Justin if you comeback on just interrupt me.
Q - Justin Post
Can you hear me?
A - Patrick Byrne
Yeah go ahead.
Q - Justin Post
Just asked about the partners, I think you do disclose it in your 10Q, or 10K, I’m sorry, how many partners you have at the end of the year. What’s the count and what’s the mood right now and how they made it through the integration. And then just a quick question can you remind us that the take rate on the GNB on the travel side?
A - Patrick Byrne
Okay for take rates above I think 1%, industry standard. But, as far as the mood of the partners, I’d say that the August, September, October, November mood was not so good. Although their mood was great we did, we were hurting them, although the way we got over that, was when we could not get our accounting precise which was the case through several payment cycles we overpaid them and we did it, we paid them more than we do, what else could we, we actually just could account for a while taking their return is deduction. And so when product come back from us, we as our partner product, it head out and then gets return to us, in Salt Lake City, we normally take some amount of their payment. We actually just handle it by saying our systems problems are our fault. We will, we will just keep overpaying you for while and then chewed it up later when we get back to the having granular information as for I can tell that half of December….
A - David Chidester
Yeah and Patrick we had the information we could account for, we just we didn’t have the detail for them to look out to see what they are getting paid. And we’re deducting, so we didn’t want to detect until we can provide the detail but did have the right accounting on the transactions.
A - Patrick Byrne
Yeah we did have we couldn’t have, giving them the information so they could reconcile was a problem. And so, we did but, we did what we, first of all, I think that there are, I think they were saint, they were patient. Remember our relationships with our partners are not like, yeah, we don’t want 50,000 partners we’ve got lot of them mom and paps who we know depend on us for 50%, 70%, 80% of their business. And we were together we’ve really do see each other I think as business partners. So, they were, pretty understanding, yeah I heard grumbling dispute but in front even when people express their grumblings to me, it was all with it, we are not some distant company that I’m we are very good close terms with all of them and so they, they probably said, we understand they have consistent problem, no, no problem. Some of them starting to think that this is really turning into a pain on them, but I cant get a reconcile even though you are paying the, but you all may or even or little more I can’t get reconcile this, so that’s was really the issue. But, we certainly didn’t understand we’re losing a single partner over it, and I apologize or apologize again the next partners that we discomforted. David what are we up to, in terms of total partners?
A - David Chidester
You know, I don’t know the number I think its approximate 400 partners is about over up to now.
A - Patrick Byrne
Richard Tango is here. He says 460.
A - David Chidester
Yeah, okay.
Q - Justin Post
And then I guess for the take rate on the GE sets, 30 million in GNB I’m trying to get to the revenue take rate which I think is going to be higher than one, maybe I didn’t say our question correct?
A - David Chidester
I think our travel just to clarify the travel business we have which includes Ski West which is much higher than most, global travel business.
A - Patrick Byrne
Yeah, with the partner.
A - David Chidester
Yeah it runs much higher than 1%. It’s run to the double digit.
Q - Justin Post
Okay.
A - Patrick Byrne
Rest of double digits and that would shows up this GAAP revenue too.
Q - Justin Post
Yeah.
A - David Chidester
So, it doesn’t have an appreciable effect on GAAP. I’m sorry, take rate that use here to mean, what I’m see the guys in the travel industry are user like conversion.
A - Patrick Byrne
Yeah, net revenue which is generally about 10% so.
Q - Justin Post
Great thank you.
Patrick M. Byrne, President
Thank you it is to be pointed out we are having arrived that’s 10:03. I thank everybody on the call. So, listen I have to look forward to talk in a few months again. Lets go to the system, I think its pretty efficient to have people email in the couple of days before the earnings call to email questions and then we can produce a slide show that has with most of the questions. Thank you all.
Operator
Once again ladies and gentlemen, that concludes today’s call thank you for your participation. You may disconnect at this time.
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