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Bon-Ton Stores Inc. (NASDAQ:BONT)

Q4 2007 Earnings Call

March 11, 2008 10:00 am ET

Executives

Jean Fontina – IR

Bud Bergren – President & CEO

Tony Buccina – Vice Chairman & President Merchandising

Keith Plowman – Exec. VP, CFO & Principal Accounting Officer

Analysts

David Glick - Buckingham Research

[Terry McInerney] – Banc of America Securities

[Reid Kim] – Merrill Lynch

[Bill Royder] – Banc of America Securities

Karen Eldridge – Goldman Sachs

Emily Shanks – Lehman Brothers

[Karu Martinson] – Deutsche Bank

Carla Cassella – JP Morgan

[Bob Wettinhall] – Royal Bank of Canada

Operator

Good day ladies and gentlemen and thank you for standing by. Welcome to today’s Bon-Ton Stores Inc. fourth quarter 2007 earnings conference call. (Operator Instructions) And now I’d like to turn the conference over to Ms. Jean Fontina, please go ahead.

Jean Fontina

Good morning and welcome to the Bon-Ton fourth quarter and fiscal 2007 conference call. Mr. Bud Bergren, President and CEO, Mr. Tony Buccina, Vice Chairman and President of Merchandising and Mr. Keith Plowman, Executive Vice President, Chief Financial Officer and Principal Accounting Officer will host today’s call.

You may access a copy of the earnings release on the company’s website at www.bonton.com. You may also obtain a copy of the earnings release by calling 203-682-8200. Before we get started I would like to remind you of the company’s Safe Harbor language.

The statements contained in this conference call which are not historical facts may constitute forward-looking statements within the meanings of the Private Securities Litigation Reform Act of 1995. Actual results might differ materially from those projected in such statements due to a number of risks and uncertainties all of which are described in the company’s filings with the SEC. As a reminder this call is being recorded Tuesday, March 11, 2008 and at this time I would like to turn the call over to Mr. Bud Bergren, President and CEO.

Bud Bergren

Good morning and thank you for joining us this morning. I will begin with my comments on the fourth quarter and full year 2007 and my outlook on 2008. Keith will then provide details of the fourth quarter and full year 2007 financial results and outline the financial guidance and assumptions for 2008. Tony will review the fourth quarter merchandise results and discuss the merchandise and initiatives for ’08. I will make closing remarks and then we will available to address your questions.

As I stated in this morning’s press release I’m proud of how our team executed through an extremely difficult year, especially in the fourth quarter when the macro economic environment reduced consumer spending during a crucial weeks prior to holidays. Although we were disappointed with our earnings results, we made the necessary adjustments to our operating plan as December unfolded maximizing the sales opportunities that were available to us, controlling our expenses without hurting the service levels in our stores and managing a reduction in comparable store inventory levels by 4% despite the difficult sales and promotional environment.

We managed in response to this difficult retail environment we accomplished the goals we established for the second year of our integration plan. We anniversaries our common assortment in all stores along with the marketing promotional calendar. We increased the level of private brand penetration company wide. We also improved store-by-store assortments as our planning and allocation division begin to fine tune the offerings. We successfully launched our new ecommerce site in October and we opened two new furniture galleries, reopened three stores that were reconfigured, remodeled and expanded, and opened a new Parisian store in the Detroit Metro area.

In the fourth quarter we achieved strong performance in several key merchandise categories including Missy outerwear, large size sportswear, shoes, children’s and hard homes. Our full year 2007 categories have performed well, were better Missy sportswear, shoes and children’s. We are fully integrated and 2008 will be our first year as our own company. At this time I’d like to give you my perspective on 2008.

We expect the difficult macro economic environment to continue for 2008, therefore we will operate on a very conservative plan. We will maintain our strong financial positions. We will stay focused on inventory control. We will identify and target new cost savings opportunities. We will control capital expenditures while maintaining focus on growth opportunities and reduce debt with cash generated from the business. And we will capitalize on our new ecommerce site and continue with system enhancements and the roll out of our point-of-sale system which ultimately will deliver better service to our customers.

In essence the retail environment is challenging right now. It could improve in 2008 or not. Therefore we control what we can control. We continue to implement our strategic plans and welcome this challenge as a means to make our organization even better and look forward to enjoying the benefits when the market turns. Our strategies are sound. We have many opportunities in 2008 to offset some of the macro headwinds as we realize benefit in our first comparable year as a fully integrated company. We believe that improvements in merchandising content and inventory control that have been implemented over the past six quarters will keep us on top of our customers’ minds and permit us to improve merchandise margins. This combined with stringent costs controls will maximize our earnings and cash flow potential in this challenging environment and provide upside to our comparable store sales and earnings when conditions improve.

So while our near term earnings results are likely to be pressured we feel very good about our business and the organization that is emerging here at Bon-Ton. Ultimately we are confident about our long term outlook for Bon-Ton as we manage in the short term. I would now like to turn the call over to Keith, Keith?

Keith Plowman

Thank you Bud and good morning everyone. I will review the income statement and balance sheet components and then discuss our fiscal 2008 guidance and the assumptions reflected in that guidance. The fourth quarter was more challenging than initially expected as the affect of the macro economic issues resulted in a weakened and very promotional environment for our company. Consequently comparable stores sales and gross margins were under pressure. For Bon-Ton this negatively impacted the results for the fourth quarter and for the year.

Before getting into the financial details I want to emphasize our current financial position and that despite the weaknesses in sales and lower gross margin we maintained a strong balance sheet and going forward have the flexibility to invest in long term initiatives to grow the business as the macro economic environment improves. For fiscal 2007 we have achieved our goal and remain on track to exceed the full costs savings of $33 million in fiscal 2008 that we targeted at the beginning of the integration process in 2006. We believe we have an appropriate debt structure in place and our total debt at the end of fiscal 2007 was $1,155 million as compared to $1,197 million at the end of fiscal 2006, a reduction of $42 million as we used cash flow generated in fiscal 2007 to reduce our debt. And our excess borrowing capacity was $351 million at the end of fiscal 2007 which was $10 million above the prior year and $276 million above our required covenant of $75 million.

Reflected in this increase is the excess borrowing capacity reflects lower advance rates on our inventory borrowings which was planned for 2007. During 2007 we had a decrease of 5% in our advance rate on inventory which was part of the original terms negotiated with the original revolver in March of 2006. This would have brought down the availability by approximately $35 million to $40 million.

Moving to a discussion of the fourth quarter and fiscal 2007 financial results. Net income for the 13 week period ended February 2, 2008 was $75.2 million or $4.43 per diluted share compared to net income of $88.4 million or $5.00 per diluted share for the 14 week quarter of fiscal 2006. Net income in 2007 was negatively impacted by an asset impairment charge of $4.1 million on a pre tax basis or $0.16 per diluted share and fiscal 2006 included a state tax benefit of $4.1 million or $0.24 per diluted share and a charge of $1.9 million on a pre tax basis or $0.08 per diluted share to write-down the value of duplicate assets.

For the 52 week period ended February 2, 2008 net income was $11.6 million or $0.68 per diluted share compared to net income of $46.9 million or $2.78 per diluted share reported for the 53 week period of fiscal 2006. Net income in fiscal 2007 was negatively impacted by an asset impairment charge of $4.1 million on a pre tax basis or $0.16 per diluted share and net income in fiscal 2006 was positively impacted by a state tax adjustment of $4.1 million or $0.24 per diluted share and negatively impacted by a charge of $2.9 million on a pre tax basis or $0.12 per diluted share to write-down the value of duplicate and impaired assets.

For the four quarter of fiscal 2007 Bon-Ton and Carson’s combined comparable store sales decreased 3.6% compared to the prior year period. Total sales for the 13 weeks of the fourth quarter of fiscal 2007 decreased 8.9% to $1,138.9 million compared to $1,249.6 million for the fourth quarter of fiscal 2006 which consisted of 14 weeks. Fiscal 2007 Bon-Ton comparable stores sales decreased 6.5% for the year. For informational purposes only fiscal 2007 Carson’s combined comparable store sales decreased 1.6% and a combined Bon-Ton and Carson’s decreased 3.3% for the year.

Total sales for the 52 weeks period of fiscal 2007 increased 0.1% to $3,365.9 million compared to $3,362.3 million for the prior year period which consisted of 53 weeks. And fiscal 2006 did not include sales for the Carson’s stores for the first five weeks of the year.

Other income in the fourth quarter of fiscal 2007 decreased to $32.3 million compared to $35.9 million in the fourth quarter of fiscal 2006 primarily reflecting the sales volume decrease and result reduction in the program revenue received under the credit card program agreement with HSBC.

Other income in fiscal 2007 increased to $101.7 million compared to $93.5 million in the prior year period. This is primarily due to the inclusion of 13 weeks of Carson’s operations in the first quarter of fiscal 2007 as compared to eight weeks of Carson’s operations in the first quarter of fiscal 2006.

Gross margin in the fourth quarter of fiscal 2007 decreased $50.8 million compared to the fourth quarter of fiscal 2006. The fourth quarter gross margin rate decreased to 37.5% of net sales as compared to 38.3% of net sales in the prior year period reflecting increased markdowns and the weak sales environment.

In fiscal 2007 gross margin dollars decreased $27.7 million compared to the prior year period. Fiscal 2007 gross margin rate decreased 0.9% point to 36.1% of net sales as compared to 37% in the prior year period. Year to date gross margin rate reflects a negative margin impact of the sales for the first five weeks in the first quarter of fiscal 2007 in the Carson’s stores which were not included in the first quarter of fiscal 2006 as well as increased promotions and markdowns.

SG&A expenses in the fourth quarter of 2007 decreased $39.9 million to $284.9 million compared to $324.8 million in the fourth quarter of fiscal 2006. The fourth quarter SG&A expense rate was 25% compared to 26% for the prior year period. SG&A expenses for fiscal 2007 increased $9.3 million compared to the prior year period. The increase in SG&A expenses are primarily attributable to the inclusion in the first quarter of fiscal 2007 of 13 weeks of Carson’s operations as compared to eight weeks of Carson’s operations in the first quarter of fiscal 2006.

Fiscal 2007 SG&A expense rate was 31.7% compared to 31.4% of sales in the prior year period. And year to date integration expenses of $3.5 million combined with integration/transition costs of about $2.1 million brought our total integration costs to $5.6 million on a full year basis.

EBITDA earnings before interest, taxes, depreciation and amortization, decreased $14.4 million in the 13 week fourth quarter of fiscal 2007 to $174.9 million compared to $189.3 million in the 14 week fourth quarter of fiscal 2006. EBITDA is a non-GAAP term. For a reconciliation of EBITDA to net income, please refer to our earnings press release.

Fiscal 2007 EBITDA in the 52 week period decreased $28.8 million to $251.8 million as compared to $280.6 million in the 53 week prior year period. Depreciation and amortization expense including amortization of lease related interest in the fourth quarter of fiscal 2007 increased $4.7 million to $35 million compared to $30.2 million in the fourth quarter of fiscal 2006. This is primarily due to increased expense associated with the depreciation of current and prior year capital expenditures and the impairment charges recorded in the fourth quarter of 2007 compared to the prior year. Depreciation and amortization expense in fiscal 2007 increased $19.2 million to $126.1 million compared to $106.9 million in the prior year period. The increase in the year to date depreciation and amortization expenses is primarily attributable to the inclusion in the first quarter of fiscal 2007 of 13 weeks of Carson’s operations as compared to eight weeks of Carson’s operations in the first quarter of fiscal 2006 and the increased expense associated with the depreciation of current and prior year capital expenditures.

Fiscal 2007 includes a charge of $4.1 million to write-down impaired assets. Fiscal 2006 included a charge of $2.9 million to write-down the value of duplicate and impaired assets. Interest expense net in the fourth quarter of fiscal 2007 decreased $2.2 million to $25.9 million compared to the fourth quarter of fiscal 2006. Interest expense net in fiscal 2007 increased $1 million to $108.2 million compared to $107.1 million in the prior year period. The increase in the year to date interest expense is primarily attributable to the inclusion of 13 weeks of Carson’s operations in the first quarter of fiscal 2007 as compared to eight weeks of Carson’s operations in the first quarter of fiscal 2006 which was then partially offset by a charge of $6.8 million recorded by the company in the first quarter of fiscal 2006 reflecting the write-off of fees associated with a bridge facility and the early pay off of the company’s previous debt.

Reviewing some key ratios and balance sheet amounts, we have a strong balance sheet and we believe we will generate cash flow in 2008 to invest in our business and to continue to pay down debt enabling us to achieve our objective of increasing shareholder value. Our working capital increased to approximately $426.5 million compared to $402.4 million last year, an increase of 6% or $24.1 million. Merchandise inventories at cost decreased $32.7 million or 4.2% compared to last year reflecting reductions in reaction to the macro environment. Our retail inventory for comparable stores decreased 4%. Total debt to total capitalization including capital leases was 76.1% at February 2, 2008 compared to 77.6% in the prior year period. Total debt including capital leases was $1,155 million at February 2, 2008 compared to $1,197.1 million at the end of fiscal 2006, a reduction of $42 million yielding a debt to EBITDA ratio of 4.6x.

The components of our debt are revolver at $311 million, our CMBS facility at $252 million, other mortgages at $13 million, our capital leases at $69 million, senior notes at $510 million; and this is what comprises our $1,155 million of debt at the end of the year.

We have $100 million of swapped items and are fixed rate debt to funded debt was 80.6%. Excess borrowing capacity at the end of the fourth quarter of fiscal 2007 was $351 million compared to $341 million at the end of 2006. A covenant in our revolving credit facility requires $75 million of minimum requirement.

Book value per share was $21.07 this year versus $20.28 in the prior year, a 3.9% increase and our capital expenditures net of landlord contributions were approximately $96 million.

Moving forward to fiscal 2008 our full guidance is as follows:

EBITDA in the range of $230 million to $237 million

EPS in the range of $0.20 to $0.45 per share

Assumptions reflected in our 2008 guidance include:

comparable store sales of a negative 1% to a negative 2%

gross margin rate flat at the fiscal 2007 rate of 36.1%

SG&A dollars flat to a slight increase over fiscal 2007

capital expenditures at $80 million net of landlord contributions which will still reflect several stores, the continuing roll out of our POF system, a new financial system and a new planning and allocation systemic

we will continue to make strategic investments in our business to sustain and enhance brand quality and to support future business

our weighted average diluted shares at fiscal 2008 year end will approximate 17.3 million to 17.5 million

we are targeting to generate in excess of $50 million to pay down long term debt

We expect the retail environment to remain difficult in fiscal 2008 but we will continue to position our company for the future and create a stronger company to additional operating efficiencies. Our Form 10-K for fiscal 2007 will be available by April, 17. At this time I would like to turn the call over to Tony.

Tony Buccina

Thank you Keith. The fourth quarter started off on a promising note as we posted solid results in November and we believe we were positioned for success going into the final three weeks before the holiday. However it didn’t happen. Aside from weather related issues that we in the north face all the time, the impact of the macro economic environment slowed consumer spending considerably and we weren’t getting the traffic we anticipated despite adjustments to our promotional calendar. As a result we aggressively moved fall and holiday merchandise into our markdown and clearance process. We reduced receipts and got ready for spring with more conservative inventory levels.

Before I discuss our plan and initiatives for 2008, I’ll go over fourth quarter results; what worked and what did not. Our franchise businesses in total grew in percent to total sales and outperformed the total company sales. Ladies shoes and large sized sportswear delivered solid performances. Our biggest disappointment was cosmetics which was a change in the trend coming off of a third quarter with a plus comp sales trend and beating our plan. Our store wide key item strategy which generate to margins higher than total store margin penetrated at approximately 24% of total store and our IVP, our incredible value program, which is our most profitable key item program penetrated at 5% of total store.

Product differentiation, both national and private brands grew in percent to total sales in the fourth quarter to slightly less than 34%. Unique merchandise from domestic brands grew to 16% of total sales, up from 15% in the prior year and private brand, a key initiative in differentiating our company’s assortment, penetrated at 17.4% versus 16.4% in the prior year period. Private brand grew in penetration in ready to wear, men’s, accessories, children’s and home. Our private brand margin while below expectations, were above branded merchandise in the fourth quarter and on an annual basis. GMROI and turnover were also above branded merchandise.

Our Northern Lodge strategy which tailors the assortments for select stores with a more casual, outdoor lifestyle produced better sales than the non Northern Lodge stores as well as generating higher margins and better turnovers than the non Northern Lodge stores. Ruff Hewn continues to perform extremely well and is becoming a more important part of our Northern Lodge strategy. Ruff Hewn at home we launched in the fall and performed above our expectations. We are adding approximately 19 more stores to bring the total to 125 stores with this Northern Lodge assortment.

Our best performing businesses in the fourth quarter were Missy outerwear, large sized sportswear, ladies shoes, children’s and hard home. Our weakest performing categories in the fourth quarter were dresses, moderate sportswear, juniors and accessories. We also moved our legacy Bon-Ton stores average price closer to that of the Carson’s stores. It grew to 86% of Carson’s average price from 82% last fourth quarter. Our average selling price in the Bon-Ton legacy stores was up 3.6% in the fourth quarter versus the prior year period with strong sales in shoes, center core and home. We grew the average price in the Bon-Ton stores in most areas but the biggest growth was in the home store and center core areas.

Our retail inventory at the end of the fourth quarter on a shifted basis was down 4%. Timely and affective clearance activities while pressuring margin did get our inventory more in line with our sales trend. While we are being conservative with our 2008 sales and inventory plans our focus is all about execution, execution, execution. We will continue to grow our franchise businesses faster than total store. We’ve also added three businesses to focus on starting in 2008 that we feel can explode over the short term and build over time into franchise business. They are handbags, men’s casual outdoor apparel and our furniture galleries. We believe handbags and men’s outdoor apparel will drive total store traffic and furniture galleries will drive total company profitability.

We will continue to strengthen our key item strategy to 20% to 25% penetration with the focus on newness and flawless execution. We will address our differentiation and merchandise from our competition by growing private brands, exclusive brands and exclusive merchandise from competitive domestic brands targeting low to mid 30% of our assortment.

I’m very excited about new product launches in private brand which is 60% of our differentiated product as well as domestic exclusive brands that will be 40% that will really get strength in our differentiation strategy. And private brands will have a new product introduction in Missy [inaudible] sportswear, accessories, shoes and special sizes. You’ll hear more about that in a very short time. And in our home area, there will be new and expanded product in Laura Ashley, Karen Neuburger and Ruff Hewn. And in men’s Kenneth Robert sportswear our most successful brand in men’s furnishings, will be rolled out to a 100 doors.

We will have new brand introductions for the third quarter in Evan Piccone sportswear produced by Jones Apparel exclusively for us and JH Collectibles produced by Li & Fung exclusively for us in our markets as well as our own relatively signature brand to compliment our relatively sportswear brand.

This past fall a very important franchise business for us moderate update sportswear which we define as affordable, fashionable work clothes, which is important in all of our markets, was in turmoil with many important brands sold by the owners. Jones Apparel closed Bandolino and Evan Piccone, Liz Claiborne sold JH Collectibles, Emma James and Tape Measure to Li & Fung. Evan Piccone and JH Collectibles are now exclusively ours in our markets and we will control our own relatively signature brand. This business of affordable, fashionable wear to work clothes will gain strength for the fall 2008.

We plan to capitalize on our ecommerce business with significantly more offerings, direct shipment of product from the manufacturer and customer product review along with additional enhancements. And we will continue to review and identify opportunities on a market by market basis to our store by store review. 2008 is the first comparable year for us. We gained a great deal of information over the past two years and we expect to capitalize on this knowledge. We believe we have the right strategy in place to deliver improved performance in 2008 all beginning with a focus on execution. With this focus on she decides to shop, she’ll come to the right place; Bon-Ton Stores because of newness, styling, quality and value. And at this time I’d like to turn the call back over to Bud.

Bud Bergren

Thanks Tony. While we recognize we are currently operating in a difficult retail environment Bon-Ton’s strategic plan is in tact and we are confident in the long term potential of the company. Our strategies are sound and we have many opportunities in 2008. I am confident we have a talented team in place that can execute the strategies and identify additional opportunities. 2008 will be a challenging year in retail and the decisions we make this year will ultimately make us a stronger company. At this time we’d like to open the call for questions.

Question-and-Answer Session

Operator

Your first question comes from the line of David Glick – Buckingham Research Group

David Glick – Buckingham Research Group

I was wondering if you could give us at least some color on how you see the year progressing from a comp store basis and any color you can give us on earnings. Obviously if you look at your comp run rate in the fourth quarter and maybe that was distorted by the 53rd week, maybe you can shed some color on losing the first week of November in the fourth quarter, but what gives you the confidence that the run rate can improve from Q4 and February’s rate into ’08 and how do you see that playing out.

Keith Plowman

What I see David is that if you really look at the shifted weeks in the fourth quarter we actually on a shifted week basis in the fourth quarter actually down 1.9%. If you look at the whole fall on a shifted week basis we were down 2.4% and we think that that’s achievable numbers on a 1% to 2% decrease that we’re forecasting here for the 2008 period.

David Glick – Buckingham Research Group

Okay great, that’s very helpful to give us the unshifted.

Keith Plowman

We’re also indicating up the first quarter last year was actually our best performance on a shifted comp basis so we’re up against those tougher numbers right now. They actually get weaker in the second quarter and in the third quarter.

David Glick - Buckingham Research

Great and Tony can you give us some more color on some of these exclusive brands and in the moderate world clearly that’s one of toughest zones throughout the department store industry, are you looking at some of these brands as a growth opportunities over the levels that you were at least in terms of volume rates that you were running before since you’ll have them exclusively, can you give us some idea of how aggressive you’re going to be.

Tony Buccina

Yes, we’re expecting significant volume increases in one, our own brand that we actually decided to do when our moderate update resource structure was in turmoil with Liz and Jones selling many of these brands and I actually, to be honest with you, like what I see happening in both Li & Fung with them producing the JH Collectibles line. I think its fresher, I think it’s a better value and they’re doing a better job with it than Liz did and I also see the same thing with Evan Piccone. You got the current Jones Apparel design staff actually, Suzie Rieland and her team working with us on that and if you look at our franchise businesses, actually we actually outperformed the store and that whole business for us which we track was under siege. We actually had very little receipts from the Jones brands as well as the Evan Piccone brands in the fourth quarter. We were winding that down and in the spring we actually are almost dark on the Evan Piccone brand and JH produced by William Fung will start hitting us in the July/August period. So I think that’s, we want to move our moderate business to a younger, more affordable customer and we think that these guys as well as our own brand are going to do the job much better than had been done before.

David Glick - Buckingham Research

Great thank you Tony, one last follow-up, it was interesting that you noted handbags as one of your new focus businesses because that’s an area that seems to have been slowing down, I’m just curious what you see in terms of newness in that category to perhaps to jump start that business, not that it was a huge underperformer but it’s certainly seems like the growth rate has been slowing from…

Tony Buccina

No, we actually did good in the third quarter and it did slow down in the fourth quarter and in February it popped back up again. I still think that’s a destination business for us that we want to focus on and we think that the handbag is really a badge for women. If you David like watches and you like cars and women like shoes and bags so we think that that’s, we think bags are not going to go away and we want to make that a best of class destination for us.

David Glick - Buckingham Research

Great, thanks for the color, good luck.

Operator

Your next question comes from the line of [Terry McInerney] – Banc of America Securities

[Terry McInerney] – Banc of America Securities

Just to go back to the comps for a minute, you said that you were down two and change in the fall but it seems like trends have decelerated since the fall, and where it should have been a comparable month year over year calendar wise, wasn’t it?

Bud Bergren

Yes it was Terry but we always forecast and thought February would be difficult. We were up 98 last year and it’s kind of a transitional month with clearance and so forth so we didn’t expect a great February. We’re also not expecting a very good March, that was strong last year and this year we don’t expect it to be good but we do expect to have a very strong April. April was very weak for us last year and the forecasts this year are for it to be strong and that’s how you’re going to see the first quarter play out.

[Terry McInerney] – Banc of America Securities

Okay, and then can you give some sense of how you see those comps through the year, you mentioned that you have easier comparisons a little bit later in the year.

Bud Bergren

Yes, as Tony said last year we had a good February and March and a bad April and then the second quarter and the third quarter were very difficult for us somewhat weather related and we don’t anticipate that this year. September and October were difficult for us last year as well as December and as Tony said our shifted trend in the fourth quarter last year was down 19 and on a fall basis it was 24. So we see opportunities to be able to increase that. We also will have a major push on our internet for growth this year. We kicked it off last year in the fourth quarter and a lot of the private brands that we’ll be rolling out in the second half of the year will be a plus for us that we didn’t have last year which Tony indicated a few minutes ago.

[Terry McInerney] – Banc of America Securities

Okay great, thank you.

Operator

Your next question comes from the line of R. Kim – Merrill Lynch

[Reid Kim] – Merrill Lynch

Just a couple of questions, I just wanted to know looking forward in ’08 on a CapEx that being scaled back a little bit, you do have projects moving around with the IT and so on, I was wondering if you could just give us the break out of the CapEx budget and how much is going towards ongoing store facelifts and improvements and so on.

Keith Plowman

I would say in round terms about 20% of that number will still be going to stores, to facelifts so forth, small openings that we’re going to be doing probably on a percentage basis you’re looking at a 30% to 40% will still be going for IT. We talked about a couple of projects as we’re going through our information here that we’ll still have focus on. And then we do have maintenance capital. We’ve talked in the past that inclusive in that maintenance capital I put a lot of that in our IT area where we need to maintain systems and upgrade them. But overall we still think that our maintenance capital is somewhere in the range of $50 million.

[Reid Kim] – Merrill Lynch

Okay. And the second question I had was just on, you used to break out what your store level and corporate level expenses were and I was wondering if you mind giving us that, looking backwards last year and where you think more of that savings leverage is going to be in ’08.

Keith Plowman

Sorry I haven’t been tracking the same way, I track it pretty much together because we have initiatives that take the total dollars out. We’ll take that under advisement going forward. We have been pulling dollars out of both the store and corporate arenas as we’ve gone into cost savings. We had identified, if you go back to the original $33 million we talked about you were looking at a good portion of that coming out in the corporate side from the marketing, from the IT, from the finance, the merchandising areas as we combined all the operations, private brands so forth. On a percentage basis as best as I recollected I believe you were looking probably at about 60% to 70% was coming out of the corporate side and somewhere around 30% to 40% was coming out on the store side and we still feel pretty comfortable with that. We’re trending towards that direction. Actually as to cost savings we have gone to a run rate that essentially is between $9 mill and $10 million in the fourth quarter takes us somewhere to $27 million to $28 million for this year above the $22 million we were targeting and we certainly feel right now in our run rate that we will exceed the $33 million in fiscal 2008.

[Reid Kim] – Merrill Lynch

Okay and then just last one, the other income line related to your credit card program on a percentage of sales basis that was down about ten basis points year over year if you could just maybe help us understand what was going on there if anything and also there have been some other occasions out in the industry where terms have been changed on those programs, if you could just talk to your productivity in the program and whether any changes have occurred given the credit markets.

Keith Plowman

Yes, in looking at fiscal 2007 we actually performed pretty strong in our credit card portfolio again but I will be very candid we are concerned like everyone looking forward. We know the American Express news out there which says there is a shift in the client base and who’s being impacted now by the credit issues, credit worthiness and whose getting impacted by sub prime and everything else, it’s rolling through to car loans and so forth. From that standpoint we actually were within about 600th on our write-down rate in fiscal 2007 versus 2006 so we ran fairly strong but I will tell you going forward we like others are continuing to watch that. We know that it is an area of concern for HSBC, they’ve got to watch what’s happening on the portfolio. You know there is no recourse on the receivables so certainly we do expect to see some I’ll say tightening of standards. We expect the approval rates will be impacted as we go forward into 2008. We’re not going to know better on that until we go forward here a little bit but we do expect that there will be some impact there as we go forward. In the other income as far as the percentage we really held fairly close on the HSBC on a year over year basis on a percentage. What has impacted us some is we do have other items that go in there, some leased departments and such. And we did have some impact in those leased departments and that was enough to, your [inaudible] is really a close rounding on that tip there and really we don’t think it’s as much in the HSBC side as what we’ve seen more on the leased department side.

[Reid Kim] – Merrill Lynch

Great, very helpful, thanks a lot.

Operator

Your next question comes from the line of [Bill Royder] – Banc of America Securities

[Bill Royder] – Banc of America Securities

I know you guys have consistently said that maintenance contracts would he about $50 million and my sense is is that’s to kind of keep the stores in their current shape, let’s say we had a complete store meltdown, do you guys have a sense of could we cut CapEx for one year period to the $20 million range?

Keith Plowman

I don’t know if I’d say exactly a number on that Bill, to your point when I talk about $50 million that is to keep the stores where we think the condition should be, doing some improvements as we go forward. Additionally it does have some IT capital in there. What we need to do to maintain systems. That’s really trying to keep us where we don’t allow things to start getting ourselves into issues that on a long term basis we’d have problems. I think the short way of answering your question is that’s what we feel we need to do on a normal basis not necessarily looking for improvement in a tight time, could we cut that number, I’m sure we can cut out 30%, 40% something off that number and reduce it below the $50 million.

[Bill Royder] – Banc of America Securities

Okay and I was wondering if you could comment on how the coat category performed in the quarter. Our sense was there was a little chillier year over year.

Tony Buccina

Yes I said that ladies coats were one of our best performers for the quarter. I didn’t highlight men’s because we don’t, it’s not as big as volume. Coats as well as well as cold weather accessories were terrific for us in the fourth quarter.

[Bill Royder] – Banc of America Securities

Okay and then I guess just one last one if I could, in terms of the POF system that you guys are going to install this year, I guess how should we think about how this is going to affect results in, over what time period I guess, how do you guys quantify this at all or if you can give us any color in terms of how you guys are going to use the system.

Bud Bergren

Well basically the system just is a more of a customer friendly setting than anything else. It enables our associates to take care of the customer on a quicker transaction. The other registers that were in the Carson’s division were kind of antiquated and slowed down the process so it’ll, during busy days it’ll make the transactions go quicker and also enable us to actually open credit cards quicker and get more information. The associates can look up online then where our products are at other stores. We do training online on those. The new registers we put out are actually APC so they’re easily to be programmed in the back to change things so it makes our whole operation a lot more efficient.

[Bill Royder] – Banc of America Securities

Do you guys track anything in terms of the customer’s history in terms of shopping patterns and stuff like that with this system or …

Bud Bergren

Yes, we do, we do a lot of that.

[Bill Royder] – Banc of America Securities

Okay great, thanks a lot guys.

Operator

Your next question comes from the line of Karen Eldridge – Goldman Sachs

Karen Eldridge – Goldman Sachs

You mentioned March will be difficult and I’m sure that’s in part due to the early Easter do you have any special promotional activity that you’re doing to try and insight traffic into the stores?

Bud Bergren

Really no different than last year, the promotional activities are about the same. Just changing the timing of them because of the early Easter.

Karen Eldridge – Goldman Sachs

Great and if you look to the year how much of a benefit are you hoping to get from the stimulus package. I don’t know if you’ve looked back in history to see what kind of lift you’ve gotten.

Keith Plowman

We expect the checks will be coming through. We do expect that in the third quarter there should be some lifts from that however I think everyone is reading the same thing, the consumer has stretched themselves in certain cases and how much of that stimulus will be utilized to actually reduce their own debt and bring down credit card balances and such, we don’t know. What we do see as benefit comes back to an earlier question I believe from Reid you know essentially that we think it will help strengthen the financial for the customer or the consumer that we have out there and anything that strengthens them will be good for all of us as we go forward.

Karen Eldridge – Goldman Sachs

Great and final question, you mentioned a lot of exciting new lines and some new franchise businesses, are these kind of strategies that you have in place for when Tommy Hilfiger goes exclusive to Macy’s.

Tony Buccina

I’m not sure I understand the question.

Karen Eldridge – Goldman Sachs

Sorry, when you mentioned some of your private label brands and some of the new franchise businesses are these some of the replacement businesses that you are thinking of for Tommy Hilfiger when it goes exclusive?

Tony Buccina

Not really to be honest with you. The, Tommy Hilfiger really for us a better casual resource. The new brand that we have is really more of the wear to work oriented business. But what we’re doing is we’ve got pretty exciting business that Tommy was strong for us in the jeans category which we see multiple guys that we can go to that are really doing well whether it’s Calvin Klein. We’ve got a big growth strategy there as well as DKNY jeans and then similar on the men’s side between Calvin and DKNY and on the women’s side in the casual sportswear we have, we’re very aggressive with the Jones sport category so we see the ability to replace that.

Karen Eldridge – Goldman Sachs

Great, thank you very much.

Operator

Your next question comes from the line of Emily Shanks – Lehman Brothers

Emily Shanks – Lehman Brothers

I just wanted to see if you could give us a little bit of color if you’re seeing anything by your competitors on their promotions and then specifically couponing by Macy’s?

Tony Buccina

Well we’re seeing a lot of, no more promotional than normal from you know our biggest competitors in almost every mall are Kohl’s and Penny’s and we see them basically the same and those guys basically have three ways to go to market; on a Sunday, midweek and on a weekend and we’re basically there with them. And we take them on on a market share week whether it’s a Mother’s Day or a Father’s Day week or an Easter week. On the Macy’s, Macy’s has been promotional and we still see them promotional.

Emily Shanks – Lehman Brothers

Okay that’s helpful. And if I could this is a little bit more abstract but in light of Macy’s restructuring and realigning into Macy’s central as it relates to your geographies, are you anticipating any changes or how are you looking at that as it relates to you?

Tony Buccina

We like the way that’s happening. We think a regional in a regional area is the way to go and I think when you’re running in mid west region out of New York City I think it’s to our advantage.

Emily Shanks – Lehman Brothers

Okay and then if I could, just one more housekeeping I think the last release that we saw indicated that you would be opening one store in fiscal year ’08 in Blaine, Minnesota, is that still the case?

Bud Bergren

Yes that is, that will open in September.

Emily Shanks – Lehman Brothers

Okay and that’s if for store openings this year.

Bud Bergren

We have two, one furniture store that will be opening in a couple of weeks in Orland Park. Then an expansion in Okemos, Michigan.

Emily Shanks – Lehman Brothers

Okay and then actually if I could just squeeze in one last one, what are you baking into your projections for working capital for this coming year. Is that free cash flow number that you gave us, does that include any type of source out of working capital?

Keith Plowman

No it does not, if you look at what I gave you there when I talked about the working capital essentially if you look at where depreciation would be versus capital and then you look at where we are for earnings based upon our guidance it really does not have anything in working capital although I will tell you based upon the environment and based upon the guidance we have here we do have internal goals to manage the inventory and to reduce the working capital on a year over year basis.

Emily Shanks – Lehman Brothers

Great, that’s what we were looking for, thank you.

Operator

Your next question comes from the line of Grant Jordan – Wachovia

Grant Jordan – Wachovia

First question, you talk about the difficult consumer environment in ’08 and your forecast for a negative comp of 1% to 2%, maybe if you could just give us a little more color on how you think gross margins are going to remain flat for the year.

Keith Plowman

I think Grant as you take a look at there’s a couple of things that are sitting there. In 2007 I know we were criticized but we were a company that was really looking to grow our sales volume. We did get impacted by weather in a couple of quarters. We had talked about it in the first and third. But we really weren’t sure of how much was weather, how much was macro. It was sort of an open question that we struggled with last year and we continued to keep the inventory there to try and serve what we thought was the kind of demand that was going to come back from the consumer and then what happened in December really primarily in the fourth quarter we absolutely saw that the consumer was retracting so we got caught and had some downward impact to our gross margins in 2007 from having to take excessive markdowns to move through inventory and get ourselves to the point now where actually on a comp basis, we’re lower than the prior year. We believe by continuing that in 2008 rather than having ourselves at higher inventory levels, we’ll be able to be a little bit more timely on the markdowns and not have to take so many to clear inventory and believe that that’s going to give us some benefit as we go forward. And the other thing is we did have to take some additional markdowns towards the end of the year to get our inventories to stay at fair value. We’ve talked in the past how we write our inventory and what we believe is a fair value. We believe by having our inventory in line is going to assist us as we go forward in not having to take the same level of markdowns which was really the big factor in where our gross margin rate dropped on a year over year basis. And we do also have some upside potential from the standpoint of internet and private brand. Tony talked about some of the lines that we’re bringing in. we expect to realize a better margin on those as we bring them in and feel that that also will help a little bit in bringing the margin rate up which as you know is significantly below where we were targeting at at 36.1, we expect to be in the 37s so we believe we have some initiatives that will help put some pressure on to offset the promotional 2008 environment.

Grant Jordan – Wachovia

Great, that’s helpful. So overall for the year you’d expect to plan inventory on a per store basis to trend down from last year.

Keith Plowman

That is correct.

Grant Jordan – Wachovia

And then my last question, you talked about the one covenant in the revolver as a minimum availability of $75 million can you just remind us I believe in the real estate facility there’s a couple of stipulations that require a minimum EBITDA level there.

Keith Plowman

Yes, in the TMDS facility there are two requirements. One is 80% EBITDA and one is 60% EBITDA. If we drop below 80% EBITDA just for those store locations we have to maintain half of the, I’ll call it the differential in the cash flow which in a total terms is probably about $6 million difference a year between the rent stream and the expenses. We would have to leave half of that $6 million sit there as a reduction of the principal amount. If we drop below 60% EBITDA again just for those locations we’d have to leave the full $6 million sit in there. I will tell you right now we still have not trended below the 80% and at this point we feel confident with what we have in the guidance that we’ll be okay in fiscal 2008 and as we go forward and it recovers, we don’t expect to leave anything in but I believe the important point to note here is it’s minimal dollars and it sits in there and reduces the principal of balance.

Grant Jordan – Wachovia

And just so at max you’re talking about having $6 million of incremental cash trapped there.

Keith Plowman

That’s right. And that would have to drop below 60% and if you remember when we put this altogether we were talking about $280 million of EBITDA which is for the total company. Obviously can’t talk about the [inaudible] or the locations that are in the facility itself but think about 40% going against that number so that you have to drop down below $200 million in EBITDA before you would probably be in the same situation in the store locations.

Grant Jordan – Wachovia

Great, I really appreciate the detail Keith. Thanks.

Operator

Your next question comes from the line of [Karu Martinson] – Deutsche Bank

[Karu Martinson] – Deutsche Bank

In terms of your comps outlook for 2008 I was wondering how much of that is based on mall traffic versus the ticket?

Bud Bergren

Probably the majority of it is traffic.

[Karu Martinson] – Deutsche Bank

Okay so you feel that the ticket will remain kind of flat but you’re going to generate more traffic.

Bud Bergren

Even in the fourth quarter it was really transactions versus the average ticket going down. Our average ticket has been doing very well.

[Karu Martinson] – Deutsche Bank

And in terms of the hard home, you are kind of running counter to the industry performing well on that front, what’s driving that category do you feel?

Tony Buccina

A couple of things that really two categories really have put us over the top is what we call an area called tent trek which is really where, [inaudible] really are digital frames and navigation system. We feel that that drove traffic into our company and it’s not margin rich but it does drive traffic and we had a really good performance in the fall as well as the fourth quarter as well as February and the other piece of the hard home that’s been really good has been the decorative house wares business and dinner ware, casual dinner ware has been very good for us and we’re seeing the most, even a more recent trend right now, last 60, 90 days in the cook ware business.

[Karu Martinson] – Deutsche Bank

One of the issues kind of for the upcoming year has been in your commentary that there really is not must have fashion items. What are you expectations for what’s going to help drive and sustain this traffic going forward?

Tony Buccina

I don’t have a crystal ball. The only thing that I have is we make bets all the time and we’re betting on the, from the domestic market as well as our own private brands, the categories that we really believe in. Its not just the fashion trend, our whole program, our whole merchandise strategy is built on the backbone is really the franchise businesses, our key items and our product differentiation and we try to do the right trends in each of those but it’s, there’s not just one trend that we feel is going to drive the female apparel business. If you were to ask me what’s selling right now in women’s apparel we’re selling the jeans category very well. We’re selling cut and sewn knits very well that exceeded our expectations. We’re selling dressy shoes very well, we’ve actually reordered several styles from the domestic market and there are things that are sticking their head out. Its just not one overall trend that I think that you can bet the house on.

[Karu Martinson] – Deutsche Bank

And just lastly we know the Midwest has been hit by a couple of major storms here and Ohio just recently as well, and I’m kind of wondering what impact that’s had on some of your recent comp numbers and how should we look at that going forward?

Tony Buccina

Well we didn’t want to talk about weather, you guys are sick of us about talking about weather but if you look at the business that we attribute to snow, where we actually do look at snow store closings, it affected us. We feel it had a little bit over a 3% affect on our comps in the month of February.

[Karu Martinson] – Deutsche Bank

Thank you very much guys.

Operator

Your next question comes from the line of Carla Cassella – JP Morgan

Carla Cassella – JP Morgan

Two questions, one on the SG&A front, for 2008 you’re forecasting SG&A to be up slightly even though you’re targeting some cost saves as well. Can you tell what the offset is, is it more marketing in certain markets or …

Keith Plowman

Some of it is marketing, we are certainly not going to touch anything in the store selling or the marketing area, Carla we want to make sure that we don’t make it happen from the standpoint of what we’re doing. We don’t want to chase the consumer away. We also do as Bud mentioned we have a couple of stores that are coming in that are more than what we are closing in a year. He talked about Blaine and then he also talked about a furniture and an intensification, the Orland Park and the intensification we’re doing so that increases some of the costs and then beyond there unfortunately as everyone is experiencing and there’s talk about it in the news we do have the inflation that’s hitting the fuel costs, our insurance costs, everything like that is just putting some pressure on. So when you think about it an overall inflation rate of about 2% on a billion dollars says you’ll go up about $20 million and we’re certainly not looking to be going up 2%. We certainly believe that we either be flat or we believe we’ll be less than a 1% increase on what we have on SG&A so we’re utilizing the costs savings and reduction integration and so forth to offset those expenses.

Carla Cassella – JP Morgan

Okay great and then in the past you’ve talked a bit about market share and I know of, cosmetics is one way to measure that and that was the area that was weak, do you think you’re losing any market share or are any of your competitors are starting to I guess specifically Macy’s take any share back that they’ve been losing to you?

Tony Buccina

No we look at the doors and we know that Macy’s in our markets were actually had a decrease that was, we actually outperformed them in our markets and same malls.

Carla Cassella – JP Morgan

Okay great and I guess in conjunction with that, are there any specific geographies that you can point to that were either particularly weak and then on the strong side as well.

Bud Bergren

On the strong side actually Buffalo, New York was one of our strongest markets as well as Des Moines and Minneapolis and Toledo of one place. Our toughest markets tend to be somewhat the auto industry which is Michigan and parts of Ohio and Indiana which are running almost 1.5% to 2% less than what the company’s running.

Carla Cassella – JP Morgan

Okay and I forgot to ask, on the, you mentioned that weather had 3% affect on February same store sales, the March weather has been I guess even worse so far than February so do you expect a similar impact?

Bud Bergren

Yes we had a pit last weekend especially in the Ohio markets which got buried in the snow and closed our stores for a day. So there’ll be some affect in March which another reason why we think March could be weak.

Carla Cassella – JP Morgan

Great thank you.

Operator

Your final question comes from the line of [Bob Wettinhall] – Royal Bank of Canada

[Bob Wettinhall] – Royal Bank of Canada

I was just curious, what do you estimate in the coming year your private label contribution will be, you said it was 17% in terms of penetration?

Tony Buccina

Our plan right now for spring and fall is to go, we’ll be at about 19% penetration and this year we were about 18.1 in total for the year.

[Bob Wettinhall] – Royal Bank of Canada

Is the higher penetration offsetting negative sales leverage which is essentially why you’re keeping your gross margin flat?

Tony Buccina

Yes, actually we think we’ve got upside in private brand. Actually our margin last year from the domestic market was actually a little higher than it was the prior year and the private brand is really where we have some issues on our margin even though it was higher than the domestic market. And that’s because we really didn’t have the ability to cancel a lot of on order as the economy got tougher. So we had to take more markdowns.

[Bob Wettinhall] – Royal Bank of Canada

That’s helpful and one small housekeeping issue, what was your rent expense for last year?

Keith Plowman

Rent expense runs right about the $105 million.

[Bob Wettinhall] – Royal Bank of Canada

That’s great, good luck in the coming year.

Operator

And gentlemen I’ll turn the call back over to you for any additional or closing remarks.

Bud Bergren

Thank you. We will be presenting at the Banc of America Conference tomorrow, March 12th in New York City and encourage you to listen via the webcast on our website. We look forward to speaking with you about the first quarter 2008 results on our conference call in May. Thanks for being with us this morning.

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Source: Bon-Ton Stores Inc., Q4 2007 Earnings Call Transcript
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