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Executives

Sally Frame Kasaks, Chief Executive Officer

Michael Henry, Chief Financial Officer

Analysts

Adrienne Tennant – Friedman, Billings & Ramsey

John Morris – Wachovia

Janet Kloppenburg – JJK Reasearch

Tracy Kogan – Credit Suisse

Lauren Levitan – Cowen & Company

Jeff Van Sinderen – B. Riley & Company

Liz Pierce – Roth Capital Partners

Unidentified Analyst - Piper Jaffray

Crystal Kallik – D.A. Davidson.

Betty Chen – Wedbush Morgan

Pacific Sunwear of California, Inc. (PSUN) F1Q08 Earnings Call May 22, 2008 4:30 PM ET

Operator

Ladies and gentlemen, welcome to the Pacific Sunwear of California Conference Call announcing the company’s fiscal first quarter 2008 financial results. This call is being recorded, and the playback will be available starting today approximately 2 hours after the call through midnight May 29, 2008. This can be accessed at 1-800-642-1687, or 706-645-9291, using passcode 47112660. The call will also be archived on the PacSun website at www.pacsun.com through midnight May 21, 2009. Your speakers today are Ms. Sally Frame Kasaks, Chief Executive Officer, and Mr. Mike Henry, Chief Financial Officer. Today’s call will be limited to one hour, and questions will be limited to one per participant.

Before I turn the call over to Ms. Kasaks, I’d like to note that during this earnings conference call, certain statements and responses to questions may contain forward-looking information including forecast of future financial performance and estimates of amounts not yet determinable as well as our future prospects and proposed developments or business strategies. Actual results could differ materially from those projected or reflected in our forward-looking statements, and reported results should not be considered an indication of future performance. Pacific Sunwear’s future financial condition and results of operation as well as any forward-looking statements are subject to change and to inherent known and unknown risks and uncertainties. Pacific Sunwear does not intend and undertakes no obligation to update its forward-looking statements to reflect future events or circumstances. All forward-looking statements made in this conference call reflect Pacific Sunwear’s current analysis of existing trends and information and represents Pacific Sunwear’s judgment only as of today. You should not assume later in the quarter or year that the comments Pacific Sunwear makes today are still valid. Actual results may differ materially from current expectations based on a number of factors affecting Pacific Sunwear’s business including changes in consumer demands and preferences, lower-than-anticipated comparable store sales, higher-than-anticipated markdowns, competition of other retailers, and uncertainties generally associated with apparel retailing, in particular the timing and the amount of actual charges and expenses relating to the company’s demo and One Thousand Steps stores may differ from our initial estimates as plans and activities are finalized. More information on factors that could affect Pacific Sunwear’s business and financial results are included in its annual report on form 10-K for the fiscal year ended February 2, 2008, and other public filings made with the Securities and Exchange Commission. In addition, please note that during this call today, additional references may be made to Non-GAAP financial results. Investors are encouraged to review these non-GAAP financial measures as well as the reconciliation in our press release of these measures to the comparable GAAP. Our press release was attached to our 8-K filed with the SEC today, a copy of which can be found on our website at www.pacsun.com. This call, the webcast, and its replay are the property of Pacific Sunwear. It is not for re-broadcast or use by any other party without the prior written consent of Pacific Sunwear. If you do not agree with these terms, please disconnect now. By remaining on the line, you have agreed to be bound by these terms. With that said, I will now turn the call over to Ms. Kasaks.

Sally Frame Kasaks

Good afternoon, and thank you for joining us. I will begin today’s call with an overview of the quarter and then hand it over to Mike Henry, our Chief Financial Officer, who will discuss the financial results. We will then open the line for questions. On an overall basis, our results were disappointing. Like others, we have seen the impact of the economic environment. Even so, we have remained focused on our strategy and have continued to make progress against the long-term objectives that we’ve set for ourselves. In addition, we have made major inroads on four key strategic initiatives that we believe will ultimately strengthen Pacific Sunwear as we concentrate on our core PacSun business. Let me take a moment to update you on where we stand on these initiatives.

First, we completed the liquidation of our demo division. During the quarter, we closed 153 demo stores, and by the end of the quarter, we had successfully come to an agreement regarding approximately 85% of our demo lease obligation. Next, we successfully consolidated our distribution activities into our distribution center in Olathe, Kansas. Our supply chain in IT team did an exceptional job with planning and executing a nearly seamless transmission from two distribution centers into one. Following our decision to close the Anaheim distribution center, we actively marketed this property. As announced, we have entered into an agreement to sell the facility, and assuming all contingencies to closing are met, we anticipate that this sale will net approximately $33 million to Pacific Sunwear toward the end of fiscal 2008.

Finally, toward the end of the quarter, we further reduced our dependence on footwear. We transferred sneakers and fashion footwear out of our PacSun stores and consolidated and re-ticketed the product. This inventory has now begun to flow to our PacSun Outlet Division and a selected number of PacSun locations. This effort was designed to create an effective and measured liquidation of these categories, maximize merc margins and minimize disruption and distraction to our PacSun stores. This strategy will also help to protect our brand. We anticipate this activity will continue through fall. As a reminder, there is impact on our same store sales as we go through this transition. Our goal is to have footwear represent 6% to 8% of our sales. Implicit in this is a negative 50% same store sales decrease within footwear through the end of the year. Overall, we are pleased to be putting these activities behind us, so we can focus our full attention on growing the PacSun business.

Turning now to the first quarter: As you recall, our vision for PacSun is to be an apparel business with a limited offering trend-right accessories and footwear. Our strategy is to offer a mix of national and proprietary brands rooted in the youth culture and fashion vibe of Southern California, and we remain confident that this direction offers significant long-term potential. There is no doubt that our 1% same stores decline for the quarter was disappointing. As I commented earlier, economic conditions created a difficult external environment. Though we believed our plan was reasonably conservative and our guidance was based on strong early indicators including a positive 6% same store sales increase we achieved in February, ultimately, our end result fell short of our initial expectations.

Importantly, we did see some very positive signs in response to our strategy. Apparel same store sales generated a +13% increase for the quarter. At quarter end, apparel accounted for 77% of our total sales, compared to our long-term goal of 80%, and sales were evenly divided between young men and juniors. Young men’s apparel continued its solid performance with a 5% same store sales increase. Primary strengths were T-shirts and Bullhead denim. These gains were partially offset by weakness in swim and shorts. Although we experienced improvement in these categories in April, it was not sufficient to offset the weakness we experienced in March. Branded goods represented approximately 75% of the product mix during the quarter, consistent with our plan. Junior same store sales were up 23%. Strength in Bullhead denim, tops, and dresses was partially offset by weakness in swim wear and shorts experienced in both March and in April. We were encouraged by our customers’ response to fashion, color, and trend-right assortments. This demand resulted in chasing Bullhead denim and other trendy categories during the quarter. In line with our plan, we achieved a 50-50 mix of proprietary to branded product.

While in the short-term, the decrease dependance on footwear and some accessory categories has pressured same store sales and productivity, we expect there will be a benefit to merchandize margins of this strategy long return. Although we believe that we can generate increased top line sales from apparel and accessories in the space formerly projecting footwear, even flat same store sales with our changed product mix would result in merchandize margin improvement. In the first quarter, we achieved improvement in merchandize margins as a result of product mix, initial markups, disciplined inventory management, and a reduced level of markdown and POS activity. This is an encouraging indication that we are on the right track.

Improving store productivity is a cornerstone of our strategy leading to same store sales growth. As the external selling environment proves to be difficult, we continue to focus intensely on in-store process improvements. The reduction of our dependence on footwear has some hidden benefits. First, the back rooms that were committed to footwear inventory have been converted to accommodate appropriate levels backstop in key categories such as denim and tops, allowing for frequent replenishment on the selling floors. We also believe there will be more effective use of store payroll as brand reps devote more time to engaging customers and less time doing tasks related to footwear. With the successful transition to Olathe, we continue to identify supply chain improvement that will reduce costs while improving service to the stores. Product is now arriving in stores more quickly, creating the opportunity for faster replenishment of our most productive classifications. We have also implemented more pre-packed and form-ready shipments resulting in our store chains devoting less time to receiving, sorting, and labeling goods. Although our supply chain improvements are still in their infancy, we believe that there were some immediate benefits in efficiency, and over time, additional expense reductions.

Our store refresh efforts are also an essential component of our long-term plan. Nearly 40% of our original refreshes are in the regions where we have experienced the greatest same store sales decline; however, these refreshed stores continue to outperform the non-refreshed stores in their areas. We are now focusing a greater number of our store refreshes in the Northeast, Mid-Atlantic, and the Midwest, and the results have been very encouraging. We continue to look for ways to reduce the amount of time the stores are closed and for ways to bring down the costs. We opened 18 refresh locations during the quarter bringing the total of new format stores to 138 stores for 17% of the chain. Our plan remains to refresh approximately 40 additional stores in fiscal 2008. This will bring the number of updated stores to approximately 19% of the chain.

In addition, we continue to invest in our e-commerce business with enhancements to increase revenue and to improve the experience of PacSun’s online community. We have been pleased by the improvements to the website that have resulted increased on-line speed and transactions. While there is still work to be done, we are moving in the right direction.

Finally, we continue to invest in technology as a means to improve our business, stores, merchandizing, and supply chain.

So, in summary, this was a challenging quarter for the company. The regional concentration of our stores makes us especially vulnerable to the external environments in markets such as California, Florida, Nevada, and Arizona. However, we continue to take the necessary steps to position the business for the future including growth initiatives focused on increasing our apparel business to 80% of total sales with improvement in merchandize margins driven by a 50-50 balance between young mens and juniors and a mix of proprietary and national brands, improving store productivity, investing in store refreshes and improved technology, and strengthening our talent. While we cannot control the external environment, we remain focused on managing what we can control and are taking appropriate actions to effect the variables. Our efforts are directed towards improving merchandize margins with disciplined inventory management, product mix, and brand management, reducing and managing expenses while not risking our business strategy, and finally focusing our store teams on improved customer experiences with friendly and helpful brand reps and improved in-store presentation. We know that we need to be agile and flexible in the current climate while remaining focused on our long-term vision. Our team understands and recognizes the urgency of adapting to today’s uncertain business environment. I am confident that the difficult decisions we have made and the significant and measured actions we have taken and continue to identify will ensure that we successfully meet the objectives of our strategy and long-range plan. I appreciate your continued support, and will now turn the call over to Mike.

Mike Henry

Thank you, Sally. Our discussion of financial performance today will focus on PacSun and our GAAP earnings from continuing operations, which excludes all income statement impacts from the discontinued demo concept.

Total sales for the first quarter of fiscal 2008 were $266.9 million versus total sales of $ 268.1 million for the first quarter last year. We ended the quarter with 942 stores this year versus 962 stores last year. In a tough external environment, same store sales decreased 1% and transactions down 2% and the average sale up 1%. In the challenging retail markets of California, Florida, and the better Southwest, which represent 24% of our store base and represented 28% of our first quarter sales, same store sales were down 8% for the first quarter. E-commerce sales grew over 60% during the first quarter to $8 million this year from $4.9 million last year.

Gross margin including buying, distribution, and occupancy costs increased 20 basis points in the first quarter to $75.5 million, or 28.3% of sales from $75.2 million, or 28.1% of sales in the first quarter last year. Merchandize gross margins increased 250 basis points, primarily due to reduced markdowns and improved IMUs associated with our increased emphasis on apparel and disciplined inventory management. We did not sacrifice our merchandize margins by being overly promotional as the quarter got tougher. We ended the quarter with inventories down 4% per square foot of cost versus last year. Non-merchandize margin categories which include buying, distribution, and occupancy costs were up 230 basis points. Occupancy was up 130 basis points as a result of deleveraging these costs and the negative 1% same stores sales result. Distribution expenses were up 50 basis points including $1.2 million, or 40 basis points in one-time transition costs associated with the consolidation of our distribution activities within our Olathe, Kansas, distribution center. Buying costs were up 50 basis points due to de-leveraging against the negative 1% same store sales result and inclusive of $0.3 million for certain severance obligations.

SG&A expenses increased 730 basis points during the quarter to $95.8 million, or 35.9% of sales, from $76.7 million, or 28.6 of sales in the first quarter last year. Significantly impacting this increase was a one-time asset impairment of 320 basis points, primarily due to the $8-million pre-tax charge associated with the materials handling equipment in our closed Anaheim Distribution Center which I will refer to hereafter as ADC. Due to the negative 1% same store sales result, many general and administrative expense categories de-leveraged versus sales. The primary categories of SG&A de-leverage include G&A payroll of 110 basis points due to the carryover impact of prior year hires and inclusive of another $0.3 million in severance charges, depreciation of 90 basis points due to the impact of accelerated depreciation associated with store closures and relocations, legal and related dispute settlement expenses of 60 basis points, store payroll of 50 basis points, primarily due to the impact of minimum wage increases enacted during fiscal 2007. Of the remaining 100 basis points of SG&A de-leverage, several other expense categories, each de-leveraged 30 basis points or less including e-commerce expenses, consulting associated with IT projects, and system support expenses in that order of magnitude.

Our income tax rate for the quarter was 38.9% this year versus 37.2% last year. We currently expect our effective rate to remain at 38.9% for the year.

For the quarter, we incurred a net loss from continuing operations of $12 million, or $0.17 per diluted share including the $0.07 asset impairment charge associated with the materials handling equipment in our closed ADC.

Turning now to our balance sheet, we ended the quarter with $43 million in cash and $154 million in working capital. Significant uses of cash during the quarter included the payment of $40 million in demo lease termination and the repurchase of 799,000 shares of our common stock for $10 million. Again, inventory per square foot at the end of the quarter was down 4% versus the prior year. We carry no borrowing-based debt and have zero exposure to auction-rate securities.

In consideration of the reduced earnings guidance for the year, we now anticipate ending the year with approximately $145 to $155 million in cash including the anticipated net proceeds from the sale of the ADC. For the quarter, cash used in operations was $24 million inclusive of the demo lease terminations previously noted. Capital expenditures and depreciation were both approximately $22 million. During the quarter, we opened 3 new stores and closed 15 stores exclusive of the discontinued demo concept.

Now turning to earnings guidance. At this time, we believe a more conservative outlook on the second quarter and full year of fiscal 2008 is prudent when considering the impact of the current difficult economic environment and the significant regional exposures we have in the challenging retail markets of California, Florida, Nevada, and Arizona. In consideration of these factors, assuming same store sales would range from negative 3% to flat for the second quarter, we would anticipate earnings in the range of $0.03 to $0.08 per diluted share. For the full year, assuming a flat comp in the second half of the year, we would expect non-GAAP earnings per share in the range of $0.59 to $0.64 per diluted share. This range excludes the $0.07 per diluted share asset impairment charge incurred in the first quarter and the anticipated gain of approximately $0.23 per diluted share from the sale of the company’s closed ADC, which is currently expected to occur by the end of fiscal 2008.

On a GAAP basis after giving effect to the impairment charge and anticipated gain associated with the sale of ADC, the company anticipates earnings from continuing operations for fiscal 2008 in the range of $0.75 to $0.80 per diluted share. Further details regarding the ADC transition can be found in the company’s form 8-K filed with the SEC on May 2, 2008.

In closing, our management team remains firmly committed to our business strategies, and we are working hard to improve our results. Given our more conservative outlook on the year, we are identifying opportunities to reduce and defer expenses in a manner appropriate to the current environment. We have revisited our payroll management both within our home office and in our stores. We have and continue to challenge our supply chain cost, now that we are fully transitioned to Olathe. We are reviewing all consulting and other contractual relationships attached to planned IT and marketing initiatives in order to appropriately defer or reduce expenses while operations remain challenging. That being said, we believe our strong apparel results indicate that we are on the right track toward our broader long-term business strategy. We plan to stay the course with regard to the rebalancing of our merchandize assortments and investing in our refresh program and IT capabilities in order to drive improved productivity.

Operator, we will now take questions.

Question-and-Answer Session

Operator

At this time, I would like to remind everyone in order to ask a question, press *, and then the number 1 on your telephone keypad. If you would like to withdraw your question, press the # key. We will pause for just a moment to compile the Q&A roster.

Our first question comes from the line of Adrienne Tennant with Friedman, Billings & Ramsey.

Adrienne Tennant - Friedman, Billings & Ramsey

Good afternoon. Question on the guidance – so if we’re looking at the SG&A dollar growth from Q1 to Q2 and then into the back half, it looks like excluding the asset impairment charge, it was maybe 14%, and then we’re looking at maybe 9% or 10% growth in Q2, and then for the guidance, it looks like it seemingly drops down to maybe flat to low single-digit growth in dollars. Is that a fair way to look at it?

Mike Henry

That’s pretty fair. The percentages might be up or down one to two as you go quarter by quarter, but directionally, you’re pretty close there.

Adrienne Tennant - Friedman, Billings & Ramsey

Okay, and the reason for that is that we start to anniversary the heavy SG&A investments that you’re making into the stores in the back half of the year?

Mike Henry

Right.

Adrienne Tennant - Friedman, Billings & Ramsey

Okay, and then do you have any comment on just the May month to date business trends?

Mike Henry

As usual, we don’t say anything about business mid month, but I would point out, obviously, the last week of April was our weakest as we finished April, and that was leading into Q2. We have some very significant weeks coming up. We have the Memorial Day weekend coming up here this weekend, and there’s lot of business to be done yet in the second quarter.

Adrienne Tennant - Friedman, Billings & Ramsey

Okay, great. Thank you very much and good luck.

Mike Henry

Thanks.

Operator

Our next question comes from the line of John Morris with Wachovia.

John Morris – Wachovia

Thanks. Good morning. With respect to some of the changes that you’ve made on the product assortment with respect to the branded goods, you’ve instilled a lot of newness that we’ve seen. Can you update us on that progress? Where’re you striking new relationships, and then, Sally, maybe, you can go a little bit deeper on private label. What still needs to be done there? What kind of goals have you already achieved and where is the opportunity of a private label side? Thanks.

Sally Kasaks

Thank you. In terms of the various brands we’re testing and bringing in, we’re not going to comment on that because we are testing and trying some new things out there, and certainly as some these newer brands begin, some of you for example, have seen [inaudible] out there as commented, so I will mention that. Over time, I think we will be adding more to that, but right now, that is doing reasonably well, and we are pleased with the direction that that’s providing us. In terms of our proprietary brands, it will continue to grow. The extent of the pants will be 50-50 in juniors, and we are pretty much beginning to approximate that right now. In young mens, it is probably eventually going to be 70-30; right now it is about 75-25. I would have to suggest that we look to the denim season very much ahead of us. Much of our proprietary products in the young mens business is in our Bullhead denim brands, so we are really pretty much on track. The margins are moving in the correct direction, and we are pleased with the progress in that area.

John Morris – Wachovia

Thanks.

Operator

Our next question comes from the line of Janet Kloppenburg with JJK Research.

Janet Kloppenburg - JJK Research

(Pause)

Sally Kasaks

Hello, we can’t hear you.

Operator

Janet, your line is open.

Mike Henry

Maybe we should move onto the next question. We’ll circle back to Janet.

Operator

Our next question comes from the line Paul Lejuez with Credit Suisse.

Paul Lejuez - Credit Suisse

(Pause)

Sally Kasaks

Hello Paul? We seem to have a problem here. Operator?

Operator

One moment. I’m sorry; it appears we are having technical difficulties. One moment please. Our next question comes from the line of Christine Chen with Needham & Company.

Sally Kasaks

Hello Christine, are you there? Operator, we’re not hearing anything.

Operator

One moment.

Christine Chen – Needham & Company

…we can hear you.

Sally Kasaks

Hi, anybody there?

Christine Chen – Needham & Company

We’re all sort of here.

Sally Kasaks

Are we getting any questions? I apologize to everybody. This was not intentional. (Everyone laughs.)

Operator

Okay Christine, go ahead with your question please.

Christine Chen – Needham & Company

Trying again, can you all hear me?

Sally Kasaks

Yes Christine. We hear you now, loud and clear. Thank you.

Christine Chen – Needham & Company

It was actually pretty funny. We could all talk amongst each other, but you couldn’t hear us, but thank you for taking my question. I was curious as back to school approaches, if there is difference in timing to the floor sets and what are some of the areas where you felt like there were missed opportunities last year on the apparel side? Thank you.

Sally Kasaks

The floor sets are essentially aligned with last year, though there may be a little bit more projection on a couple of categories as we come out of the July 4th weekend. Clearly, last year, we know that we left an awful lot business on the table with our denim line, so clearly that is going to be an area of major focus both in young men’s and the juniors. We’ve been testing styles, and don’t forget, this time last year, there was some debate as to whether Bullhead denim for girls was going to work. We found that it has worked in a resounding way, and we’ve been testing and looking at both young men’s and juniors products, so that clearly is a major opportunity, and there is continued opportunity, particularly in the tops business both for young men’s and juniors. We’ve had some good reads on some ideas now, but you can see that denim will clearly be driving a lot of the business.

Christine Chen – Needham & Company

And what denim styles are currently trending? Is it skinny? Are you seeing the wider leg emerge?

Sally Kasaks

We have not seen any reaction to the wider leg.

Christine Chen – Needham & Company

Okay, thank you so much.

Sally Kasaks

It still seems to be much more on the skinny side.

Christine Chen – Needham & Company

Thank you and good luck.

Sally Kasaks

Thank you, Christine.

Operator

Our next question comes from the line of Lauren Levitan with Cowen & Company.

Lauren Levitan - Cowen & Company

I wanted to get some additional thoughts on the loss of sales from footwear. Obviously, you knew when you were reducing that business that there was going to be this business that needed to be made up. The shortfall that you’re now looking for in the back half of the year, how much of that is associated with a timing lag of when you’re able to get the consumer interested in these incremental businesses or how much of that can you associate with the concentration geographically in regions where you’re particularly hurt and any other macro factors? Any help on that would be really useful. Thanks.

Sally Kasaks

Lauren, I think, going into the first quarter, we certainly had made commitments to juniors, and remember, we did have deficiencies in swimwear and in shorts, and we were offsetting that with other products, so we were putting goods forward on a regular basis. Don’t forget too that we did finally pull the plug on this footwear business in the onset until January, and by then, it was a little bit hard to be as flexible in our young men’s business, so on balance, we’re pleased with the double-digit comp that we saw. We believe that we left denim on the table in both young men’s and juniors. We just could never get caught up with that business. Though young men’s was able achieve and begin to get back on track with the board shorts. We never caught up in the junior for swimwear and shorts, so we are beginning to recoup that and move up goods. I think as we go into June, you’ll see a much stronger impact on certain categories, particularly in the denim business, and we are now continuing to adjust those inventory levels. On a regional basis, certainly the swimwear/shorts was probably a little more pronounced in California, though on balance, it was pretty much across the county in juniors. The regional differences tend to be less on style and just on sheer rate of sale, so I think we feel we haven’t seen any significant difference from region to region, vis-a-vis the footwear. It just seemed like the level of business just completely softened in the California, Nevada, Arizona, and Florida areas.

Lauren Levitan - Cowen & Company

In light of that, where do you see any possible leverage on the expense side to possibly lower the comp breakeven level to able to get some leverage on expenses?

Mike Henry

I called out in the script several areas that we have looked at for opportunities, and not all the saving that we see or opportunities that we see are necessarily baked in to what the guidance reflects, so there are opportunities to improve versus where our guidance sits right now.

Lauren Levitan - Cowen & Company

Great! Thank you and good luck

Sally Kasaks

Thank you, Lauren.

Operator

Our next question comes from the line of Janet Kloppenburg with JJK Research.

Janet Kloppenburg - JJK Research

Hi Sally. I’m checking. Let me know.

Mike Henry

Yes, we’ve got you this time.

Janet Kloppenburg - JJK Research

I was just wondering if we could talk a little bit more about the second quarter guidance, Mike and Sally. Is this attributable to the seasonal product that is not selling well or is it more attributable to the fact that the Southern California, Nevada, Arizona, and Florida markets are so difficult right now? Just wondering if we could get a little clarification on what’s going on with the guidance there.

Sally Kasaks

Okay. In terms of the sales, we certainly have not seen any major pickup in the swimwear business, so clearly that is a reducer, and it has been a significant part and a pretty good measure, I would say, as much of Southern California business particularly because of those categories and the amount of penetration even in Q2, so it’s a combination of both. I know Mike wants to pick up on that point, but it is the combination of both.

Janet Kloppenburg - JJK Research

Both of those factors are what’s leading to it Sally?

Sally Kasaks

Correct.

Mike Henry

And one thing that I would point out – because of that difficulty in the swim and shorts in particular, we are acknowledging we may have to work our way through that during the second quarter, and so some of the merchandize margin improvement that we saw in Q1 would be very difficult to have repeated in Q2, specifically, as we try to work through these categories that really didn’t kick in for us in March and April.

Janet Kloppenburg - JJK Research

So, will you take a more stringent inventory approach, Sally, to go to these markets for the back to school period? How will you manage through this period with these extraordinary regions?

Sally Kasaks

Clearly, we also don’t want to create a self-fulfilling prophecy. It’s sort of a fine line, particularly as we go into back to school which is a major time for us. I think we feel very confident that from a competitive point of view, our assortments look strong and we don’t have quite some of those seasonal variable products. We do, though, continue to look at trending sales, so I think you will see probably a couple of strong product statements that we hope will be ultimate because they’re good margin builders as well sales builders that will perhaps give us a better market share in some of these markets, because I think some of the assortments just look tremendous going into that late July-August time period.

Janet Kloppenburg - JJK Research

I imagine that you’re hopeful on the denim given how strong it’s been.

Sally Kasaks

Yeah, particularly the denim. Again, we’ve had various reads that we’ve been working towards that give us confidence on that area.

Janet Kloppenburg - JJK Research

Okay, good. Lots of luck to you guys!

Sally Kasaks

Thank you.

Operator

Our next question comes from the line of Paul Lejuez with Credit Suisse

Tracy Kogan – Credit Suisse

Thanks. This is Tracy Kogan filling in for Paul. We are wondering if the current environment and your revised guidance have changed the way you are thinking about your CapEx and expense growth for ’09. Thanks.

Sally Kasaks

From the CapEx point of view, as I made a statement in my commentary, we’re continuing to invest in IT, but clearly we’re scrutinizing because there’s also attendant expense that goes along with that, so we have to make sure we’re really prioritizing in our information technology area, so we continue to review that. In terms of our stores, our commitment today is to continue, but clearly we’re looking for ways to reduce some of the costs. We have learned a lot with the first group of refresh stores, and I think as we go into 2009, cutting down in terms of where the store are shut and reducing costs will certainly impact to our capital, but from a door point of view, we would continue to want to keep that 50-60 refreshes a year, because we really believe that’s an essential part of our strategy. We just need to manage the capital better.

Tracy Kogan – Credit Suisse

On the store closings, would you consider an accelerated store closing program rather than waiting for the stores to roll off lease?

Mike Henry

No. Because of the significance of our growth 10 years ago on a year by year basis, there are significant enough leases coming up for renewal, or even in recent years that might have kick-outs that there are going to be plenty of opportunities to reevaluate stores as go forward in the normal course of business, and we just came out a very difficult period of time in closing Steps in closing demo, and our landlord groups are an important partner to our business as well, and we need to be cognizant of that. We think we can improve the overall productivity of the chain through the normal course without creating additional difficulties with our landlord partners.

Tracy Kogan – Credit Suisse

Thank you.

Operator

Our next question comes from the line of Jeff Van Sinderen with B. Riley & Company.

Jeff Van Sinderen - B. Riley & Company

My first question is in terms of the swim and shorts business, do you feel like any of that has just been an issue with merchandize content or is that not really much of a factor?

Sally Kasaks

I don’t think it was a factor. There might have been a color here or a pattern there that we dropped in. Again, the fact that we were able to recover in the young men’s side, I think, the assortment is generally right. I think there was lot of slipping on spring break and a number of those factors. I’m not going to use those as excuses. I think the same thing happened in the junior area. I’ve been at probably 30 to 40 stores over the past 2 months and that’s the question, ‘what is wrong with the assortment.’ They continue to say it’s the best we‘ve had, so I think there were probably a number of factors including hitting that spring break bump that we typically would get in March. It was a much more prolonged spring break period which never gave us the momentum. We have starting to look at price points. We’re looking at all of that again right now, but on balance, last year was probably about the strongest swimwear use we’ve seen, so I don’t want to use that as an excuse, so it’s a combination of factors. I think what’s been important though is how strong our top business has been, how strong other categories - the dress business has been incredibly strong, so we’re seeing some counter-bailing businesses in juniors, but unfortunately, swimwear just never happened for us. So far it hasn’t happened for us the way it should, particularly the juniors business

Jeff Van Sinderen - B. Riley & Company

Okay, and looking at some of the slower regions that are in - Southern California, Arizona, Nevada, and Florida, how are you approaching inventory management as we headed into back to school for those regions?

Sally Kasaks

As I sort of indicated a little bit earlier to a similar question, obviously, we’re looking at the stores and we’re looking at trends, but we also need to make sure that in these key markets for back to school, our inventories are strong, and we’re particularly focused on denim and certain traditional categories. Clearly, we have a distribution center that we can hold back goods and redeploy as we need throughout the season, so we don’t have put everything out there initially, so we can replenish and refill to trends, so we’re looking at getting a core assortment out to the entire company, certainly in trending areas, looking to raise the inventory where appropriate, and areas that have been soft, we don’t want to preordain a self-fulfilling prophecy. We want to get a reasonable level that gives us the density and the impact we need, and then, certainly, as we need to replenish on certain key categories like denim, hoodies, tops, and juniors which are very strong for us now, we’ll be able to respond to individual store trends.

Jeff Van Sinderen - B. Riley & Company

And then finally, what should we expect in terms of your promotional gains this quarter?

Sally Kasaks

I think the only thing you’ll see is probably us being a little more aggressive in the swimwear part of the business, and also, we’re trying different things. Right now, we’ve got a 3 for 25 on tops. Margins my dip driving transaction, so you’ll see us try things that we weren’t able to do in the past when we didn’t have as much proprietary products, so I think that’s a big win, particular in the junior’s side of the business and also in the young men. It is not that we’re doing a major pull-out-the-plug though kind of situation because there’re some very strong categories that we’re going to continue to support.

Jeff Van Sinderen - B. Riley & Company

Okay. Very good! Thanks very much and good luck.

Sally Kasaks

Thank you.

Operator

As a reminder in order to ask question please press *, then the number 1 on your telephone keypad. Our next question comes from the line of Liz Pierce with Roth Capital Partners.

Liz Pierce – Roth Capital Partners

Sally, a two-part question really on back to school. First of all, it sounds like hoodies and denim is the outfit of the season again, and so first, do you feel like this is enough newness because it seems that is what customers in this kind of environment are responding to – price, value, newness, and then secondly, are you guys aware of any kind of change with respect to tax reselling days? If you heard are more states going to do this because of the economy and if the calendar is kind of the same because I know last year, there was a pretty big shift with schools starting a little bit later? Thanks.

Sally Kasaks

Thanks Liz. I’ll answer the last one first. We just got a list about 2 weeks ago, I guess, and it seemed pretty comparative with last year. Who know, it can always change a bit because we don’t have control over that, but as of maybe 3 weeks ago, the comparisons were very similar to last year, but certainly we’re keeping an eye on that. Number two, I think you’re going to continue to see the denim trend obviously continuing. I think we’re pretty well priced where we are, a lot of new washes, so there is direction within that area and outfits that we feel fairly confident about, so the school uniform, though we have seen some nice indicators and some other classifications that might balance some of the, shall we say, the lame part of the business, I think we’ve had a good mix of fashion and yet also the fallback position with great denim.

Liz Pierce – Roth Capital Partners

And you feel that 2 for 55 would become pretty much the standard price that represents the kind of value? You are getting traction with it now so you can kind of extrapolate?

Sally Kasaks

Yeah. We see that, and again, we’ve tested various things, and it’s a good center of gravity for us.

Liz Pierce – Roth Capital Partners

Alright, great! Good luck. Thank you.

Sally Kasaks

Thank you

Operator

Our next question comes from the line of [inaudible] with Piper Jaffray.

Unidentified Analyst - Piper Jaffray

Good Afternoon. Any comment on comp and traffic trend differences between your outlet and mall stores?

Sally Kasaks

We don’t see. I think our balance it’s pretty much the same. I think certain weeks one does better than the other. There seems to be a shift more between weeks or periods of time, but not over the quarter.

Mike Henry

It’s been fairly consistent regionally as we look at the difference between our mall stores and our outlet stores, and there’s not been a dramatic difference in terms of comp.

Unidentified Analyst - Piper Jaffray

Though the outlet stores and those challenged markets remain relatively similar to the mall stores.

Sally Kasaks

They may be a little better.

Unidentified Analyst - Piper Jaffray

Okay, and then secondly what leverage threshold do you think you have for comps that you need in order to get any leverage on the SG&A line?

Mike Henry

We’ve stated previously that it would take a 5 to 6 to get leverage on SG&A over the course of the entire year. In the second quarter, it needs to be a mid to high single, and then as you go third quarter and fourth quarter with the largest volume and back to school and holiday obviously, then your lever point can drop to 4 to 5 and then 3 to 4.

Unidentified Analyst - Piper Jaffray

Okay, great. Thanks for taking my questions.

Sally Kasaks

Thanks.

Operator

Again, in order to ask a question, please press *, then the number 1 on your telephone keypads. Our next question comes from the line of Crystal Kallik with D.A. Davidson.

Crystal Kallik - D.A. Davidson.

Good afternoon.

Sally Kasaks

Hi Crystal.

Crystal Kallik - D.A. Davidson

I know everybody has been trying to get to this. I’m going to try one more time, just as a little bit of clarification. When we’re looking at the Q2 guidance, you made it pretty clear that the biggest disappointment has been the sell-through in swim. Could you give us directionally maybe some percentage of how large is swim as a percentage of the business and then when we look at denim as a percentage of the business in Q2, so we get some feel where the shortfall is coming in and how much you plan to offset by ramped-up sales of denim?

Mike Henry

I don’t have anything in front of me to get to that level of detail. We’d have to look some things up for you and be able to give you a call back.

Crystal Kallik - D.A. Davidson.

That’s fine. Juniors’ inventory – it sounds like you’re chasing some category there. What are you feeling in general? We’re seeing such strong response in the stores that are marketed. It seems like you’re selling out on quite a few styles pretty regularly.

Sally Kasaks

I think we’re trying to learn what the right numbers are, the right density crystals. Particularly, the tops business that has been very strong. We’ve been out of sizes denim, but also, the same thing holds true in our young men’s business, because if you were to look at the tables on that side, they are a little bit skinny right now too, so I think it really goes back to T-shirts, knits on both sides of the business, and the continuing denim. I’ve been out in stores where as I said you can see in some markets we’re just bone dry on the right sizes there, so we’re moving into position. We’ve just gotten some inventory to get our size scales right, and certainly I think by June 8th or 10th as we anniversary the relaunch of denim last year, we should be able to have pretty good full-blown presentation out there.

Crystal Kallik - D.A. Davidson.

Great, and then finally it looks like your e-commerce trends are really starting to kick in. Do you have commentary for us about it as far as how we should look at the growth of that business? Are you seeing anything different regionally or by category than what you’re seeing in the retail stores?

Sally Kasaks

It appears to be pretty consistent. I think what we’ve seen though is we did some upgrade, as I mentioned in my commentary, to the web site. We’ve added some speed to it. We’ve expanded the assortments a little bit, and what is happening is it is just driving really very encouraging revenues. We’ve also just relocated our fulfillment to our distribution center in Olathe, so there have been a number of things going on as we’ve taking control of that, but I think the good part was though the expansion some product lines as well as speeding up the transaction time on the web site itself. In fact, we just did another upgrade day before yesterday, so I would urge you to look at it. It’s getting stronger on an ongoing basis, and the customer is responding.

Crystal Kallik - D.A. Davidson.

The web site looks really just so much better than it did a year ago.

Sally Kasaks

Our team has worked really hard at that. Thank you, Crystal.

Operator

Our final question for today comes from the line of Betty Chen with Wedbush Morgan.

Betty Chen – Wedbush Morgan

Good afternoon.

Sally Kasaks

Hi Betty.

Betty Chen – Wedbush Morgan

I know in your opening remarks you mentioned that you were still quite pleased with the performance of the refurbished stores in the markets outside of the 4 problematic areas. Could you remind us what kind of comps or what kind of luster you are seeing from those refurbishments, and then I had a couple of followups.

Sally Kasaks

When we go into these, the projection will be at least a 15% comp increase, so that is where we begin, and anything over that makes it a home run, so we’re beginning to see that as I said in certain parts of the country. In many ways, when we originally opened up in California and in some of the markets that are a little slower right now, with the exception of a couple of stores, we saw those kinds of numbers. Of course, the pullback has pulled those down as well, but we’re encouraged, we’re seeing the numbers that we need to achieve. I think all of the spring ones, I don’t have the most recent list with me, but the ones that we are opening this spring, all appear to be moving to achieve that 15% hurdle.

Betty Chen – Wedbush Morgan

That is great.

Mike Henry

And maybe a little additional caveat to add to that too - even in the difficult markets, the refresh stores outperformed the nonrefresh stores within the same regions by at least 10 comp points, and they have better junior penetration and have 250- to 350-point basis points improved merchandize margin as well, so even in these difficult markets, the fact that we have refreshed quite a few stores in Southern California and some of these other areas, those stores are outperforming the nonrefresh stores by a good chunk.

Sally Kasaks

May I just say one thing - the stores that we’ve opened up this spring did not have footwear, and we are achieving our numbers that we would expect on pure comp basis, so that’s been also very encouraging, but they just never opened up the footwear from the past. These are now pure Pac go-forward refresh stores.

Betty Chen – Wedbush Morgan

Okay. That’s very helpful. And then, sorry to ask the question again, but I was just curious in regard to the swim and shorts that have been a little bit weaker, are you seeing variances in branded versus private label sell-through in those categories?

Sally Kasaks

I’ll tell you we’ve had more success with our proprietary brands. There was a style change that happened also. The fashion went from Bermuda to I guess 2-1/2 to 5-1/2 inch length at this point, and mostly the 2-1/2’s, so what we’re seeing though is the short shorts is really what the fashion is about, though clearly not at a rate of sale that we would like to see, so I think that there is no brand outperforming our proprietary. I think it’s just where we had the right pattern and the right length, it worked. Where we didn’t, nothing happened.

Betty Chen – Wedbush Morgan

Great, and just a couple of housekeeping for Mike. Could you remind us again the CapEx and G&A plans for the year and then also the mix between stores versus for IT for CapEx, and then lastly also the number of locations you’ll be opening this year?

Mike Henry

All of that is in our last earnings call script. I’m going to speak to it off the top of my head, but review the numbers in our last script to make sure I’m not off base here, but directionally, we’re talking about $90 million as CapEx with about two-thirds of that dedicated to stores and approximately $20 million dedicated to IT. We said we’ll open somewhere in the neighborhood of 10 to 15 stores this year – new stores, that’s not changing. We called out the 40 refresh stores in our script for new additional refresh activity, and I’m sorry, did I miss any particular point that you described?

Betty Chen – Wedbush Morgan

No, I mean I was wondering about G&A, but it sounds like that also has not changed since the last call.

Mike Henry

No, it’s still in the neighborhood $75 to $80 million.

Betty Chen – Wedbush Morgan

Okay, perfect. Thank you so much and good luck.

Sally Kasaks

Thank you, Betty.

Operator

There are no further questions at this time. Are there any closing remarks?

Sally Kasaks

No, thank you, and I’m sure we’ll be hearing from some of you over the next few hours or the next day. Thank you very much.

Operator

Thank you for your participation in Pacific Sunwear of California’s conference call announcing the company’s fiscal first quarter 2008 financial results. You may now disconnect.

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Source: Pacific Sunwear of California, Inc., F1Q08 (Qtr End 05/03/08) Earnings Call Transcript
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