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Executives

Jean Fontana - Senior Vice President

Brendan L. Hoffman - Chief Executive Officer, President and Director

Keith E. Plowman - Chief Financial Officer, Executive Vice President of Finance and Principal Accounting Officer

Analysts

Edward Yruma - KeyBanc Capital Markets

Michael Exstein - Credit Suisse

Kristina Westura – Telsey Advisory Group

William Reuter – Bank of America Merrill Lynch

Karru Martinson – Deutsche Bank AG

Jordan Hughes – Goldman Sachs Group Inc.

Mary Gilbert – Imperial Capital LLC

Carla Casella – JP Morgan Chase & Co.

Chris Fetes – JPMorgan Chase & Co.

Jason Alper - Tejas Securities Group, Inc.

The Bon-Ton Stores, Inc. (BONT) Q2 2012 Earnings Conference Call August 16, 2012 10:00 AM ET

Operator

Good day, and welcome to the Bon-Ton Stores Inc. second quarter Fiscal 2012 Results Conference Call. Today’s conference is being recorded.

At this time, I would like to turn the conference over to Jean Fontana, Please go ahead.

Jean Fontana

Good morning, and welcome to the Bon-Ton second quarter fiscal 2012 conference call. Mr. Brendan Hoffman, President and CEO; and Mr. Keith Plowman, Executive Vice President and CFO will host today’s call. You may access a copy of the earning’s 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.

The statements contained in this conference call, which are not historical facts, may constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those projected in such statements due to a number of risks and uncertainties including those set forth in the cautionary note in the earnings release and all of which are described in the company’s filings with the SEC.

I would now like to turn the call over the call over to Mr. Brendan Hoffman.

Brendan L. Hoffman

Good morning and thank you for joining us. I will begin with some highlights from the second quarter, followed by an overview of our four focus areas and opportunities. Overall, in the second quarter we achieved our first positive comps since the fourth quarter of 2010, and instituted several changes to our business that we believe position us well for improved performance in the second half. We evaluated and made adjustments to our merchandise assortment and marketing programs to drive store productivity. In addition, we made enhancements to e-commerce and took steps to create a store environment that emphasizes a customer first experience.

We successfully completed the exchange of our senior notes in July and seamlessly transitioned to our new partner Alliance Data for our private label credit card business.

We are also on track to achieve the $40 million annualized expense reductions, with an estimated benefit of $30 million to fiscal 2012. Keith will get into more details in his remarks.

Moving on to the merchandise and marketing discussion. All the work we did during the season to adjust the mix of the traditional and updated assortments is beginning to pay dividends. In July, we saw a significant improvement in our Ladies Ready-to-Wear businesses, particularly Moderate Sportswear and Special sizes.

Our best performing businesses for the quarter were Hard and Soft Home, Shoes and Cosmetics, while our toughest businesses were Juniors and Dresses. We are working to identify opportunities to turn these categories around. E-commerce business continues to trend at double-digit sales increases. Our Private brand penetration was 20.3% compared with 21.2% in the second quarter of 2011.

We tested some new marketing events, which really communicated the value we offer through a more consistent and simplified messaging. We were very pleased with the customer’s favorable response and will expand on these in the fall.

Turning to some thoughts in the second half of the year, beginning with merchandising. We continue to evaluate and make adjustments to our assortment. We went too far, too quickly in the recalibration of our moderate traditional versus updated merchandise mix. While we think it is important to attract the updated and younger customer, this cannot be at the expense of our loyal, moderate traditional customer. Going forward, our merchandise assortment will be better aligned with our customer both existing and new. This will be a key driver of profitable sales growth.

Private brand accounted for approximately 70% of our shortfall to the merchant’s gross margin plan. We shifted the assortment too far to the updated customer and combined with price increases, this hurt performance. We adjusted these issues and we were able to rework most of our offering for the fall. We expect sales increases in our private brand categories as we have adjusted our merchandise assortment and have the ability to offer more attractive price points in response to lower costs coming from oversees. Overall, we see prices returning close to 2011 levels by the first quarter of 2013 in many areas particularly apparel. And today, we have implemented to various degrees strategic initiatives designed to support our growth strategy in over 120 doors.

I had spent a lot time with our buyers and market. Our partnership with our vendors is stronger than ever. The vendor community has been very supportive and is working with us to drive sales through intensifying additional doors and online.

Regarding our marketing initiatives, Luis Fernandez, our new Chief Marketing Officer has now been with us for a little over three months and we’ve already seen our marketing message benefiting from Luis’ expertise. We were delivering a clear and more concise message around our plan for motions and product initiatives, resulting in improved overall shopping experience for our customer.

We have learned a great deal in this quarter and will continue to test promotions and new ideas in the fall that am confident will drive our business and do so profitably.

We’ve also made great strides towards becoming an omni-channel retailer through aggressive use of digital and new media to drive traffic online and in our stores. We will give our customers both existing and new reasons to shop with us.

Regarding our stores, our customer first program continues. Our associates have received intense training sessions focused on selling skills, credit and order management. Additionally, associates now have the ability to track in real-time how they are performing in sales, new account solicitation and email address collection.

We are rolling out our Shoe culture and intensifies all areas of the Shoe business including supervision, selling skills, operational processes. Shoes is an area we are going to become dominant in.

Email addresses are being actively solicited from our customers. We are growing our list at an increasingly faster rate. We know that communicating to our customers through email is fast, efficient and increasingly more important way to deliver our message and trigger a visit.

While it has only been a few weeks, our stores have already told us how happy they are with our new proprietary credit card provider ADS. Process for opening new accounts has been streamlined for customers and new account solicitation has been reinvigorated.

Another initiative involving POS order management in our store kiosks. Both vehicles allow customers to find their size or color if not in stock. Training was executed in stores to improve associate proficiency on POS order management as well as with our kiosks.

We have restructured our store organization, establishing a selling supervisor position and placing more supervision on floor to lead our customer first expectations. Our new selling supervisors have received leadership training to allow then to be more effective in their responsibilities.

And finally, we are re-engineering our in season and end of season liquidation processes which includes four clearance stores within four existing stores. We want a more efficiently and profitably move through and dispose of the prior season’s inventory.

Turning to e-commerce, we expect to drive both store traffic and online sales through our digital media efforts. Our primary focus will be on display advertising and affiliate marketing. As discussed under store initiatives we are also expanding our email efforts by increasing email address collection rates and strategically segmenting emails by channel. We will drive online conversion to an enhanced navigational experience for the customer which will make it easier for her to shop by brand and filter on size and color.

In addition to increased tagging on our web pages, we are also enhancing product copy and adding vendor focused pages to improve our national search rankings.

Regarding real estate, we look forward to a grand opening next week of our renovated Boston Store, Southridge location, here in the Milwaukee market. In October we will enter a new State for us, Idaho, with a grand opening of our Herberger's Pocatello store.

In summary, while we saw sequential improvement in our sales trend, our gross margin and bottom line were below last year. We have identified opportunities to turn this around and expect to see benefits in our fall results. I believe that progress we have made over the course of the season has laid the ground work for meaningful improved sales and earnings trends beginning in the back half of the year and ultimately for long term future growth.

And with that, I would like to turn the call over to Keith to review the financials.

Keith E. Plowman

Thank you, Brendan, and good morning everyone. Some notable points for the second quarter. We successfully completed an exchange a 10.25% senior notes due 2014 for ten and five-eighths percent senior notes due 2017. $330 million of principal amount of a 10 ¼ notes were tendered in the exchange offer, representing approximately 71% of the outstanding notes. We believe the extension of the maturity dates of July of 2017 for the exchange notes have enhanced our financial position.

We completed the transition to Alliance Data Systems, our new provider for our proprietary credit cards. The transition went extremely well and we are already experiencing stronger approval rates, our credits limits have streamlined new accounts opening process and improved marketing and store solicitation support.

As discussed on our first quarter conference call, we are focused on reducing unnecessary costs and improving the efficiency of our operating structure. We are pleased with our efforts and progress through the second quarter and believe we are on track to achieve the $40 million of annualized expense reduction with an estimated benefit to fiscal 2012 of approximately $30 million.

At the end of the second quarter, our excess borrowing capacity under our revolving credit facility was approximately $382 million, this compares favorably with the prior year when you take into account the $46 million reduction in our outstanding senior notes. And our debt levels were $905.6 million, an approximate 4% reduction from the prior year period.

Some details of the second quarter include the following; comparable store sales increased 0.1%, totals sales decreased 0.1% to $594.9 million. Gross margin dollars decreased $7.4 million to $214.1 million, our gross margin rate decreased to 36% of net sales compared with 37.2% in the prior year period. Decline in the gross margin rate is largely attributable to increased net mark-downs.

SG&A expense was $219.4 million compared to $219.8 million in the prior year period, the SG&A expense rate was even with the expense rate for the second quarter of fiscal 2011 of 36.9% of sales. SG&A expense in the second quarter of 2012 includes severance and other onetime costs associated with the company’s targeted reduction, administrative and other support functions.

EBITDA, inclusive of the $4 million charge for severance and other onetime costs related to the targeted reductions to the company’s cost structure decreased to $7.1 million. And removing the impact of the severance and other costs, adjusted EBITDA was $11.1 million as compared to $15.6 million in last year’s second quarter. EBITDA is defined as Earnings Before Interest, income Taxes, Depreciation and Amortization including amortization of lease related interest and loss on exchange or extinguishment of debt. And for a reconciliation of EBITDA to net loss, please refer to our earnings press release.

Interest expense net decreased $2.1 million to $20.7 million compared to $22.8 million in the prior year period. The decrease primarily reflects reduced borrowings and interest rates.

The company recorded a $6.3 million loss on the exchange of debt related to fees associated with the exchange of its senior notes, and income tax provision of approximately $419,000 was recorded in the current period compared with an income tax benefit of $2.3 million in the prior year period which included a $3.2 million re-classification from shareholder’s equity associated with the interest rate swap contracts that expired in July of 2011. Our net loss totaled $45 million or $2.43 per diluted share compared with a net loss of $32.3 million or 1.78 per diluted share for the second quarter of fiscal 2011. The second quarter of fiscal 2012 reflects a pretax charge of $6.3 million or $0.34 per diluted share for fees associated with the recently completed exchange of senior notes and a pretax charge of $4 million or $0.21 per diluted share for severance and other onetime costs related to the targeted cost reductions in the company’s structure.

A few notables for the first half of the year. Comparable store sales decreased 0.6%. Total sales decreased 0.8% to $1.2356 billion. Gross margin dollars decreased $18.5 million to $433.7 million and our gross margin rate decreased to $35.1% of net sales compared with 36.3% in the prior year period. The decline in the gross margin rate is largely attributable to increased net mark-downs.

SG&A expenses increased $5.9 million to $447.7 million compared with $441.8 million in the prior year period. The increase in SG&A expense includes $6.9 million of severance and other onetime costs associated with the company’s targeted expense reductions. And our net loss was $85.8 million or $4.66 per diluted share compared with a net loss of $68.3 million or $3.79 per diluted share for the prior year period. A reminder that the current and prior year net loss at our per diluted share amounts are impacted by charges and other items as noted in our press release.

Moving to some key ratios and balance sheet amounts, our total balance sheet inventory at the end of the second quarter decreased 0.8% as compared with the prior year, our accounts payable decreased to 4.8% reflecting the decrease in the inventory and timing associated with reduced in-transit accruals.

Fiscal 2012 year-to-date capital expenditures before netting out third party contributions were $38.9 million compared with $26.7 million for the prior year period primarily reflecting increased expenditures for strategic initiatives, visual support and POS equipment.

Components of our total debt at the end of the second quarter of fiscal 2012 is as follow; senior notes due 2014 $134 million, senior notes due 2017 $330 million, revolving credit facility $153 million, CMBS facility turn at $28 million and mortgage notes and capital leases $61 million for a total debt including capital leases of $906 million. And our letters of credit outstanding were $2.8 million.

Looking at our guidance, we are reaffirming that our fiscal 2012 guidance for EBITDA is a range of $160 million to $190 million. However, reflecting the fees associated with the recently completed senior notes exchange, we are revising our guidance for loss earnings per diluted share to a range of a loss of $1.35 to income of $0.20 and for cash flow, and we do remind you to see note 2 in our press release for a definition, we are adjusting that to a range of $30 million to $55 million.

Based upon our second quarter performance and the initiatives we have in place in the second half of 2012, assumptions reflected in our guidance include the following; comparable store sales in a range of flat to a growth of 1.25%, gross margin rate in the range of 35.5% to 36%, SG&A expense flat to up slightly to find is less than 1% from fiscal 2011 and that includes a 53 weeks in fiscal 2012 as well as the discussed expense initiatives net of the onetime costs associated with those initiatives, tax rate of 39%, capital expenditures not to exceed $70 million net of external contributions and an estimated 19 million to 20 million average diluted shares outstanding.

Our Form 10-Q for the second quarter of fiscal 2012 will be available by September 6 of 2012.

At this time, I would like to turn the call back to Brendan.

Brendan L. Hoffman

Thank you, Keith. I believe Bon-Ton is a great company with strong brand equity and we are taking the right steps to realize its full potential. While our second quarter results did improve compared with our first quarter, they did not meet our expectation. I am proud of the work our team has done to better position our company for future growth and I look forward to reporting improved financial performance in the quarters ahead.

And with that, we will happy to take your questions

Question-And-Answer Session

Operator

(Operator instructions) We’ll go first to Edward Yruma, from KeyBanc Capital Markets.

Edward Yruma - KeyBanc Capital Markets

My question, I know that you had retooled a number of your promotions during the quarter and you decided that as being kind of at least really reaping successful. How do we think about your focus on promotions towards the back half? Is it the expectation that promotions are equal to last year but maybe reorganized, are you intensifying them or you are reducing them? Thanks.

Brendan L. Hoffman

Well, a little bit of all that Ed. There are just going to be different. First of all, we are lengthening the promotions and have fewer of them. So had very choppy two or three day promotions that cost us to have to re-launch and reintroduce these promotions two or three times a week and I think that’s unnecessary and an opportunity for us to save some expense dollars, so we are going to lengthen promotions. We are also going to strengthen promotions that we think the customer really understands and responds to, things like friends and family, which we had a very successful event in June as we expanded on that. We are going to have another Black Friday event actually next week which we did in May as well. That’s an event that obviously in the real Black Friday is a huge deal for us and we see that as a great rallying cry for our customers. So we are really looking on an everyday basis, going through it meticulously myself, the merchant team, Luis Fernandez, our CMO, Keith to really try and understand what each event drove and how it can be strengthened and done more efficiently.

Edward Yruma - KeyBanc Capital Markets

Great. And I know you talked about some of the changes you are making both to the moderate assortment as well to the operational model within Shoes. Is there significant expense associated with these tweaks and how quickly can you get that rolled out?

Brendan L. Hoffman

Well, the moderate – that was the case where we just made two abrupt to right hand turn. We have traditionally been a moderate traditional dominated company in terms of our customer base and our assortment. Really about 70/30 traditional updated and this past spring we planned it at 50/50, and that really let down our core customer and we couldn’t attract a new customer quickly enough. So we were on the fly retooling that and as I talked about in my remarks started to see some improvement in July. So that really – there’s not so much of cost associated with that outside that market, it took to liquid the product that didn’t sell. So we feel like we are entering in a clean position as we go into fall and our inventories are much more aligned with our customer base.

On the operations side with Shoes, we think the growth in Shoes will far exceed any incremental expense and part of my reasoning for wanting to come in here so abruptly and remove $40 million of expenses as Keith laid out, was so that we have some room to use expense where we think it can drive additional sales. So I think we have that well baked into our assumptions and I think it will certainly be in the positive in fall and beyond.

Edward Yruma - KeyBanc Capital Markets

Great. Thanks so much.

Operator

We’ll go next to Michael Exstein, from Credit Suisse.

Michael Exstein - Credit Suisse

Good morning everyone. Now that you had a little so to set the store base. Can you give us your impressions on whether you think there are any stores that need to be rationalized, that’s the first question? The second question is what do you see promotionally out there? And third, the expense cuts are pretty dramatic. Do you think they are going to have any impact on the sales?

Brendan L. Hoffman

Okay. Thanks, Michael. So by rationalizing, do you mean are we going to close any stores?

Michael Exstein – Credit Suisse

More size down stores, lease out half the space something like that.

Brendan L. Hoffman

Right. Well, I think we’ll certainly be open to anything to make the stores in our overall store base more productive. Right now we don’t have any additional stores that we’ve identified for closing but we are constantly looking at how we can make them more productive. Working on better arrangements with our landlords, looking to see if in the market there are better boxes for us, whether that means bigger or smaller or with better location for us to swap into. I certainly am a believer that sometimes smaller is better and we have identified a few doors that we are testing artificially shrinking by hanging up just some curtains and really compressing the stores. So it’s not so cavernous, based on its volume. As I mentioned in my remarks, we used that logic to find space for four clearance floors, which are just opening now and four of our existing store bases sometimes that was a floor that we could close and consolidate down into the other floors, sometimes it was a portion of the store. So I think yes, that’s an ongoing activity for us. In addition to looking for new opportunities to open stores are we do in the Pocatello.

Promotionally, obviously there is a lot of talk and a lot of activity with our competition around what they are doing, with their promotional activities. We are trying to really focus in on what we need to do as I mentioned to Ed, we are looking on a daily basis as to how we can strengthen our marketing and promotional calendar. I do believe that includes being more aggressive with our use of coupons. I think that it helps frame a discount for the customer and it’s something that we’ve always used here but we have kind of done it intermediately and I think that by being more open with it both to our customers and to our merchants and store organization, we can use it more aggressively but do so more efficiently. And so that’s something you’ll see as we go into the fall season.

Then I think you asked about expense cuts and their effect on driving business. Obviously we are very careful in where we made the expense cuts to impact the customer not at all where possible. As I mentioned in my remarks, we added a lot of selling supervisors on to the floor. So by changing the way we structure the store base and the associates there, we actually feel like we are able to provide more coverage for the customers particularly during the hours they are shopping. So we think that we are able to do more with less and we’ll obviously continually monitor that to make sure we haven’t done anything to take a step backwards.

Michael Exstein - Credit Suisse

Okay. Thanks very much, appreciate it.

Operator

We’ll go next to Grant Jordan, from Wells Fargo.

Grant Jordan - Wells Fargo Securities

Good morning. Thanks for taking my questions. My first question, on your gross margin guidance for the second half, looks like it’s a little bit lower than what we were expecting. Is there anything driving kind of why you are not getting better mark-up in the second half?

Keith E. Plowman

No. I think Grant as you look at the numbers what we are trying to do is provide a range as based upon what we’ve seen happen here in the first six months of the year and what we know is going to happen. Remember we are talking about our sourcing costs going down and right now what we see is essentially getting somewhere between a 5% and 8% reduction in the fall of this year versus where we were in the fall of 2011, in our private brand as well as the cold weather. So to your point, we think we have some real opportunities here as we go forward. But we are also learning a lot of things and you know we are doing some tests here as Brendan has mentioned, we are going out with some new initiatives and as you do that, you do have some bumps in the road and some missteps and you also have some real successes. So we think the prudent thing to do in the guidance was make sure that within the parameters of the guidance we provided that $160 million to $190 million, we’ve stressed it, we benefited, we’ve looked at a couple of different ways and at this point we feel confident with what we are doing and we believe that we’ll operate within that range of that $160 million, $190 million, and that’s certainly incorporates what we have in the gross margin rates that we put in there at this time.

Grant Jordan - Wells Fargo Securities

Okay. Brendan, you talked about how the design team may be moved too far way from the traditional sportswear for women. That category has been under pressure for a while. Do you feel like you are starting to see that come back a bit?

Brendan L. Hoffman

Well, I think it’s a little tough for us to say just because, as you said it’s kind of a tough environment overall for Ready-to-Wear and then the missteps we took just exasperated that. So I think certainly as we saw on July and towards the end of Q2 the changes were making will narrow any drop there. I certainly hope we can turn it into a growth area for us. But as you mentioned it’s still a delicate area so we’re going to try to be very careful there, really go to out to key items that we know have been proven winners in the past and really try to focus on that and let other areas in the store like we mentioned shoes and cosmetics and home really be the growth drivers for us while we get the ready to wear areas stabilized. But I feel confident that at the back half of the year it will be much more stable than it was in the spring season which really hurt us.

Grant Jordan - Wells Fargo Securities, LLC

Okay. And my last question. Keith, did you guys receive the upfront payment from ADS on the credit card?

Keith E. Plowman

Yes we did. We had it in in the second quarter.

Grant Jordan - Wells Fargo Securities, LLC

Okay. And that was $50 million?

Keith E. Plowman

That is correct.

Grant Jordan - Wells Fargo Securities, LLC

Okay, great. That’s all I had. Thank you.

Operator

We’ll go next to Kristina Westura from Telsey Advisory Group.

Kristina Westura – Telsey Advisory Group

Great. Thank you. Good morning. I’m just again trying to get at what you think is conservativitism on the gross margin, but specifically on the inventory side. Where do you expect inventory levels to be in the back half of the year given that it’s already reduced down about 1%?

Keith E. Plowman

Certainly there’s key categories that we think we have opportunities then in cosmetic, shoes, some other areas. We have some strategic rollout that we’re doing in the fall season. So we would expect more investments to support that but at the same time we are being prudent. We’re going to manage inventory to what we see in the sales trend and we’ll continue to react. I would say you’ll see it somewhat flattish as we go forward and as we see more opportunities we will chase that and bring that into being sales volume.

Brendan L. Hoffman

I’m quite proud of the fact that the team managed the inventory as well as they did despite the declining sales and obviously we took some lumps with the margin in the second quarter to make our inventories are clean. But I think it’s a great opportunity for us to be conservative there but also have the opportunity to let the sales out a little bit when we start to see opportunities.

Kristina Westura – Telsey Advisory Group

Great. Thank you for that. And just two other questions. Any color in terms of back half interest expense? And then also, can you just remind us where your credit card penetration is and can we expect the other income line to turn to positive? Thank you.

Keith E. Plowman

I’ll take the first question here and essentially from a standpoint of what I see going forward, I would say that you’re going to continue with interest to be essentially about what it was in the spring season. I don’t see a whole lot of changes. We don’t have anything anticipated there as far as changing our structure for our debt structure at this point. So anything we would choose to do, any opportunities that we find as we go forward now that we have the senior notes exchange the level we do would be additive to reduce the interest expense. I know you didn’t ask this question, but I’ll also say that essentially we do have some benefit here I think as we go forward on depreciation amortization and that normally runs about 95% of what we do in the second half of the year.

Kristina Westura – Telsey Advisory Group

Great. And then on the credit card…

Keith E. Plowman

Oh, the other income? I’m sorry, you had another question on the other income and essentially we’re very excited about the relationship with ADS as I tried to put in my opening comments. I think it is too early to see how we’ll get in benefit as we go forward. We certainly do have a great opportunity in that. We’re issuing new cards here and that will come up in October before the holiday season and there’s normally a lift that’s associated with that. So we’re very excited, but just the initial review or the initial impact that we see here as ADS is going to be a great partner. We’re very excited for this and we look forward to what’s going to happen over the next couple of years.

Kristina Westura – Telsey Advisory Group

Thanks very much.

Operator

We’ll go next to William Reuter from Bank of America Merrill Lynch.

William Reuter – Bank of America Merrill Lynch

Morning. In the past you had said that product costs were going to be downsized 10% in the second half. I don’t remember if you commented on how you guys are going to deal with that, whether you’re going to take down your prices or whether you’re going to just have a larger initial markup.

Brendan L. Hoffman

No. I think we will – we found that the price increases we had to absorb over the last 12 months really hurt when we were trying to market for the customer. So we’ll certainly go look for opportunities to have sharper pricing with the customer and move more product more quickly.

William Reuter – Bank of America Merrill Lynch

Okay. And then the $10 million incremental savings that are going to be achieved in 2013, have you disclosed or talked about what additional bucket it’s going to be?

Keith E. Plowman

No, we have not, Bill. Essentially what it was is timing because we went in and we talked about – we touched advertising. We touch corporate, we touch the store structure as Brendan had mentioned and we see that – at this point we’re very pleased with the performance. But essentially it was timing. We put those initiatives in place as we’re going through the second quarter. It’s a matter of now next year we’ll get to realize the run rate for the full year and that’s what it will take us and additionally you won’t have those onetime costs that we incurred this year.

William Reuter – Bank of America Merrill Lynch

Okay. And then lastly, the remaining 2014 notes that are outstanding, I’m curious how you guys are planning on using your free cash flow, whether you would think about buying these back opportunistically or whether you’ll probably wait closer to the maturity date.

Keith E. Plowman

Bill, I think all of the above. There’s going to be a lot of opportunities that’s for us as we go forward here. Certainly we know we need to address those by January of 2014, whether it will be open market buys, whether we’ll go out and call some, whether we’ll go out and issue a new note issuance somewhere down the road. There’s a lot of opportunities here for us. So as we go forward we’ll continue to consider all that and we think that we’re well positioned now compared to a year ago. We’re pleased with where we are.

William Reuter – Bank of America Merrill Lynch

Okay. That’s all for me. Thank you.

Operator

We’ll go next to Karru Martinson from Deutsche Bank.

Karru Martinson – Deutsche Bank AG

Good morning. Just so we’re clear, the cash that came in the door for the Alliance Data Systems, that one too paid down the revolver, correct?

Brendan L. Hoffman

That is correct.

Karru Martinson – Deutsche Bank AG

Okay. From a big picture perspective, one of your top customers has lost significant market share. You guys are kind of flat to slightly positive. Is there an exit of that customer? Where is that customer going these days to shop?

Brendan L. Hoffman

Well, as I said in my last quarterly comments, I think to some extent in the first half of the year the lack of traffic for these malls, particularly in these smaller towns we’re in where there is a lot of vacancies between the two anchors, I think in some ways it probably hurt us a little bit because we lost that traffic. I think as we build towards the back half of the year with some more natural shopping periods we need to take advantage of that disenfranchised customer which is another reason why as I have said a couple of times going through the promotional calendar on a day by day basis to figure out how we can strengthen and have greater calls to action that new customers will understand the value message we’re putting out there as opposed to the events that we’ve had around here historically which were somewhat camouflaged to a new customer and really only our existing customers appreciated what we were offering.

Karru Martinson – Deutsche Bank AG

Okay. And when you look at the four clearance stores that you have and the existing stores that you’re just launching now, is the plan to roll this out on a broader sense? Are these all in one geographic area or how are you guys approaching that?

Brendan L. Hoffman

Really it was just – when I got here and I saw that we really didn’t have a liquidation strategy. We just marked this stuff almost down to zero to get rid of it for the new season’s goods. It was just a quick way to build the better mousetrap and give ourselves an opportunity to get a much higher salvage value for the end of season merchandise and that’s what we’re doing. The stores are spread out amongst our geography based on where we had space or where we thought they could be most effective and it’s really just an experiment. I know it will be a net positive to us in terms of the liquidation opportunity and then we’ll take it from there, whether or not this rolls out to more doors, whether it goes to standalone doors. We’re also looking at the process before it gets to the clearance doors because we think there’s much opportunity there in the way we’\re working these good through the mark down cycle. So I’m very excited about this. Spending a lot of time on it because I think it’s where there’s great gross margin opportunity for us to recapture is in the mark down cadence and liquidation of the merchandise.

Karru Martinson – Deutsche Bank AG

Okay. And when we look at kind of back to school, I know we’re still early in the process but certainly it seems to be a lot more competitive. What are you seeing both from your own markets and in the competitive responses?

Brendan L. Hoffman

Well, we actually just launched – we’re just launching it now. We pushed it back a week or so from last year. We thought we were a little early. So it’s just launching as we speak. So it’s a little hard for me to give you a real reason of that yet. But we think we have more ammunition at the right time this year than we did last year.

Karru Martinson – Deutsche Bank AG

Okay. And just lastly, five day percent drop in private label costs for you here in the second half. What’s the 2013 benefit from cotton, the magnitude of the opportunity for you guys?

Brendan L. Hoffman

Well, I think it’s pretty dramatic. I think that was part of the missteps we had here in spring of ’12 was not only did we change design and change the customer we were going after, but then we also had to absorb tremendous price increases and raise prices for the customer. So I think that as we get to particularly 2013 bringing the prices back to their historical levels as well as changing the merchandise mix to more what our customer is looking for it should be a great benefit to us.

Karru Martinson – Deutsche Bank AG

Thank you very much guys. Appreciate it.

Operator

We’ll go next to Jordan Hughes from Goldman Sachs.

Jordan Hughes – Goldman Sachs Group Inc.

Good morning. I was wondering if you have any kind of worries that as you skewed your merchandizing towards – too far towards the updated side of things your traditional and moderate customer may not return in the back half of the year. Or is it pretty clear that kind of those lost sales haven’t been permanent?

Brendan L. Hoffman

I think that it wasn’t such a big gap. We have the opportunity to recapture her, particularly in most of our markets where the competition is going through their own transformation. We’re certainly cognizant of that as we tweak our marketing message. And we saw just even as I said the last half of the Q2, she came back as we were and started to shop again as we had merchandise she was looking for. So I don’t think that the gap was that long that it’s something we can’t recover for and so I just really alluded to, hopefully it should be an opportunity as we anniversary these numbers next year.

Jordan Hughes – Goldman Sachs Group Inc.

Right. And then can you give us a sense of how your pilot stores have been performing relative to your expectations as they roll out and any sense for the magnitude of the sales lift or traffic at those stores?

Brendan L. Hoffman

It’s really quite mixed. We have some like Lehigh Valley, Pennsylvania which are doing terrific. We have others in the Midwest where the results are a little bit more inconsistent. The nice thing is most of the initiatives there were very much in line with what I have seen in my six months here in the company. But as we go forward we’ll certainly look to tweak that to what the overall messaging is going to be for the company. Part of the – it gets a little hard to read these doors because they’re again we move so far away from our base customer into this new younger customer that it really muddied the results a little bit. So I’m pleased that the stores we have touched there’s no need to backtrack on what we’re doing there. They fit very much in line with what I see going forward. But we’ll certainly as we go forward look to make sure that all the stores are being touched and benefiting from our new messaging and positioning.

Jordan Hughes – Goldman Sachs Group Inc.

Okay. Quick question on e-commerce. Have you disclosed what percentage of your sales it is now and where you think it could be?

Keith E. Plowman

We had disclosed that at the end of last year. We’re running about 2% of sales and that we were targeting this year that we want to be able to beat north of 3%.

Brendan L. Hoffman

Right. There’s tremendous upside there, that’s bringing in Luis Fernandez and my background. That’s something we are giving a tremendous amount of focus towards both for the opportunity it has online, the way it drives into stores and also we do need to attract the younger customer. Just because we went too far it doesn’t mean that’s not something we need to do over time. And having a strong e-commerce business, having a strong digital strategy is absolutely necessary in order to attract her going forward.

Jordan Hughes – Goldman Sachs Group Inc.

Okay. And then real quick lastly, on the promotion of internet third quarter, any changes in promotional counter that could affect the comps in any given month that we should be aware of?

Brendan L. Hoffman

I think in each – as I said every day we try to strengthen the event, lengthening some events. But no, there were no major shifts like we had in the spring with franchise events moving from one month to the other.

Jordan Hughes – Goldman Sachs Group Inc.

Okay, thank you.

Operator

We’ll go next to Mary Gilbert from Imperial Capital.

Mary Gilbert – Imperial Capital LLC

Good morning. Could you talk about with regard to the pilot doors how many you have under way, any more that you’re touching? And then how many stores do you expect to have the expanded shoe departments completed let’s say going in holiday? Where we stand on that initiative.

Brendan L. Hoffman

I’ll take the first part on the strategic doors, the pilot doors. We had touched a little over 30 in the spring. We have another 30 that will go out and effectively they’ll be in place and ready for goodwill in September. So we’re moving as we had talked this year of being a little over 60, 65 doors that we would touch.

Keith E. Plowman

Yes. And then with shoes, I think it’s about 120 doors we’re going to touch as we enter the fall season. A lot of those aren’t with capital. They’re just kind of muscle moves. The stores now know that when I walk into the stores I want to see how they’re going to double the size of their shoe departments. They all have plans to do so because as I said in my remarks I think being a dominant shoe resources is an absolute opportunity for us and we can’t wait until we have the capital to do it. So we’re going ahead and doing muscle moves and getting results there as we’ve already seen and then we’ll come back in with the capital over time.

Mary Gilbert – Imperial Capital LLC

Okay. Mostly in 2013? Is that where we expect to open the doors or?

Brendan L. Hoffman

No. I think it will be an evolving process. I can’t say all the stores by 2013, but certainly we’re going to touch the majority of the stores and then by the time we’re done the ones we touched earlier we’ll have to go back and touch again. So it’s kind of an ongoing process.

Mary Gilbert – Imperial Capital LLC

Okay. And then following up on sending the balance of the maturity on the 10 in the quarter, so the timing of that. I know you brought up yeah of course we have to get this done by January 2014, but is there any plans or issue that you’d want to get it done let’s say before you have the year out so you don’t have to show it as current when you go to – come March of 2013 where you show it as current maturity?

Brendan L. Hoffman

I think because we have the excess capacity we do. We have the capability to take it out today if we so chose. We don’t think that’s the prudent thing to do. But we have that availability and when you look at from the standpoint of materiality to our balance sheet it’s a very small amount. So I’m not going to let something current versus long term dictate what I think is prudent for the company as far as optimal capital structure. So we’ll continue to review it as we go forward, Mary, and we’ll certainly be talking more about it in the future. But right now we have a lot of decisions to make.

Mary Gilbert – Imperial Capital LLC

Okay. And then could you give us an idea of what the extra week the composition or the magnitude of the extra week in the EBITDA guidance of 160 to 190 what that constitutes.

Brendan L. Hoffman

It’s very immaterial. When you look at what we get in sales, unfortunately the cost, the timeframe of it coming up to being in the week of January where it sits – February where it sits, it’s not a great month. So normally when we look at it, the impact of the EBITDA is very material to that 160 to 190.

Mary Gilbert – Imperial Capital LLC

Okay. And then the SG&A, just to be clear, the 160 to 190 already considers adding back the severance?

Brendan L. Hoffman

Yes. Now, when you say adding back, in other words it reflects the impact, the negative impact of the severance. Everything we gave you in the expense reductions as we went through it reflected the costs of putting the initiatives in place. So it is all included.

Mary Gilbert – Imperial Capital LLC

So when you’re saying it’s included we would add that back to say this is what the adjusted EBITDA is?

Brendan L. Hoffman

Yes. If you want to get to an adjusted, the 160, 190 we are giving you is not an adjusted EBITDA. That is off the financials as we defined it in the press release. If you want to get to an adjusted you would take the 6.9 million that we have through the second quarter.

Mary Gilbert – Imperial Capital LLC

And do you expect to have any further severance in the second half?

Brendan L. Hoffman

We don’t think there’s going to be material numbers. There could be some residual come through so I don’t want to sit here and say. We could have some additional dollars. We don’t think it will be of the magnitude we’ve had already.

Mary Gilbert – Imperial Capital LLC

Okay, that’s very helpful. Thank you.

Operator

We’ll go next to Carla Casella from JP Morgan Chase.

Carla Casella – JP Morgan Chase & Co.

Hi. The clearance stores within a store, are those strategically located in regions so that they can pull clearance from all the stores in an area? Or I guess have you disclosed where the stores will be?

Brendan L. Hoffman

I don’t know if we’ve disclosed them. It’s not a secret because they’re up and running right now, but we did certainly try to look at spacing them so we can do exactly what you said so we can try and limit the length they were on the road. But we were doing this on the fly so it wasn’t a perfect science. It was more about where we had stores that we thought could move through the merchandise and have the space that could be easily transformed to allow for these clearance stores. So we’re anxious to start to get some results particularly as we move towards Labor Day and start to get fall selling because this is last season’s fall merchandise. And then we’ll be able to I think certainly improve on it and grow it in the future.

Carla Casella – JP Morgan Chase & Co.

Okay, great. And then on the inventory, did you say how much of your inventory today is clearance and how that compares to last year?

Keith E. Plowman

No, we didn’t put that out. As far as what we call our normal F status and MC status, those are pretty much I would say year-over-year down a little bit. They’re very comparable as Brendan mentioned. We came out very clean at the end of the second quarter. So we felt good about that. The merchandise that we have in the clearing centers would be an increase over the prior year because we did not have the clearance center concept last year.

Carla Casella – JP Morgan Chase & Co.

Okay. But with that, you said even with the clearing centers you said overall in the inventory number it’s about the same. Is that right?

Keith E. Plowman

If you put everything together there is an increase for the clearance centers. But if you ignore that piece that we have a strategy and as Brendan said we’re testing it out there. We are down overall.

Carla Casella – JP Morgan Chase & Co.

Okay, great. And then I’m wondering if you’re seeing any impact – JC Penney just recently put in a couple of their shop-in-shops. I know that Levi Denim Bars has gotten a lot of press. Are you seeing any impact in your stores’ Levi business where JC Penney has done that? Any impact at other shop-in-shops so far?

Brendan L. Hoffman

No. I haven’t seen them yet myself nor have I heard from our store base yet that they’ve seen or heard of any impact yet.

Carla Casella – JP Morgan Chase & Co.

Okay. And then one last question. You mentioned that you expect prices to get back to 2011 levels by early ’13. How much lower on average would you say pricing will end up being in 2012 when it’s all said and done?

Keith E. Plowman

When you say how much lower 2012 I’m not sure if I understand you want to combine the spring and the fall because we were up still in the spring of this year compared to 2011. We had an increase in our cost. It’s the fall where those cost increases are starting to come down, but they have not come down to the level of 2011 yet and they’re not down to 2010.

Carla Casella – JP Morgan Chase & Co.

Okay, that’s helpful. Great, thanks.

Operator

We’ll go next to Chris Fetes from JPMorgan.

Chris Fetes – JPMorgan Chase & Co.

Good morning. I just wanted to follow up on a comment you made earlier Brendan and that’s with respect to the merchandise. I certainly can appreciate that last fall the changes they were too many too quick and so now you’re retrenching a little bit. But it sounds like strategically though you’re still not hitting your target customer who’s probably a little younger. And so I’m just wondering is the merchandise or the assortment migration, is that going to be a little bit slower and will that take place in 2013 or do you think it’s going to be maybe in the outer year?

Brendan L. Hoffman

Well, yeah, I think it just – it needs to be an evolution, not a revolution. I think everyone wants to get younger. We’re a department store. We carry a broad range of merchandise. We can’t be pigeonholed like a specialty store can into a narrow niche. So it is absolutely appropriate for us to try and play to a wider audience. Having said that, our core customer is the more mature modern traditional woman and we just try to move away from her away too quickly overnight. So we now have moved the inventories back in line that reflect our customer and putting in a more thoughtful and strategic plan over the next three, four years slowly migrate to a younger customer that hopefully the existing base won’t notice because we certainly don’t want to do anything to lose her as we did earlier this year. So I think it’s part science here. But it’s not impossible to do. We just need to do it a little bit – we need to evolve into it.

Chris Fetes – JPMorgan Chase & Co.

Sure. And along that line then, can you maybe update us on the search for the new chief merchant post Tony’s retirement? And is that going to be a critical piece to completing this evolution?

Brendan L. Hoffman

Well, we’re certainly out there looking and listening to as well as looking into our internal ranks. But right now I’m enjoying my presence out in the market. I’ve been out there quite a bit as I mentioned. I think that’s been helpful for us. And so I really have no – I don’t feel any pressure to get somebody in place right when Tony retires and will probably be beneficial if I took on the direct responsibility for a certain amount of time to ensure that the merchandising is moving along to support my agenda and vision.

Chris Fetes – JPMorgan Chase & Co.

Okay, great. And then finally, would it possible maybe to provide a little bit more context on maybe the change in the marketing methods and maybe if you think about the Bon-Ton, the banner, the brands and what the marketing message should be and just provide a little bit more I guess texture around what the changes are and where you think the company needs to go. Thank you.

Brendan L. Hoffman

Well, I think we’ll have more to come on that in the future. But I guess just to elaborate a little bit it’s as I said earlier making sure our messaging is very clear with events that the customer can relate to rather than kind of homegrown names that really don’t resonate with the new customer base. I think it’s stretching out the event so they’re not so choppy to eliminate some of the unnecessary marketing expense that is out there we launch these events. I think it’s changing the channels by which we’re talking to the customer. We spend only about 2% or 3% of our money on digital right now and I think that is woefully under penetrated. And we will dramatically increase our usage of digital which is both an efficient and effective means to drive traffic to the store and to drive traffic online obviously. So I think it’s a combination of a lot of things that will still be some trial and error during the fall season. But we feel confident through the initial results we’ve gotten. We’ll get a much better and more efficient response from our customer base.

Chris Fetes – JPMorgan Chase & Co.

Thanks. That’s helpful. Good luck.

Operator

We’ll take our last question from Jason Alper from Tejas Securities.

Jason Alper - Tejas Securities Group, Inc.

Good morning. Thank you for taking my call. I had a quick question about the decision to use the credit card the $50 million proceeds to pay down the revolver and not to buy back the 2014 notes at a discount. I was wondering if your fixed charge carriage ratio had anything to do with that?

Keith E. Plowman

No. We have two tests. We have to have excess capacity as well as fixed charge coverage ratio. There are two covenants out there that you can take a look at and there’s no issues with either one. The company is sitting fine within the requirements. First off, when we do something like that we always want to be in an open window. So we don’t want to do when we have information that others don’t we feel it’s prudent not to make any moves in the market. And second off, as we talked earlier we think there’s a bigger picture strategy here that we want to go through. We’re not precluded at any time from utilizing those funds. If you look at our excess capacity in year-over-year basis as we compare, we’re a little bit low. I think we’re a little bit somewhere around $4 million less than we were last year with the $50 million in there.

What you have to take into account is we spend about $27 million in buying back senior notes as to a year-over-year comparison. We had some prepayments of interest. We also fully funded the pension plan for this year, put the dollars in that we plan to contribute and then we had some costs associated with the transaction. All that added up is over $50 million. So we felt it was prudent to take care of those items. Some of them will come back to us as we go through the year because where we have projected cash expenditures we won’t need to make those and we’re really just going to sit tight here a little bit and at the prudent time we’ll make the moves that we need to make.

Jason Alper - Tejas Securities Group, Inc.

Okay. Thank you very much.

Operator

At this time I would like to turn the call back over to Brendan Hoffman for any closing comments.

Brendan L. Hoffman

Thank you for your questions and your interest in our company. We look forward to our participation in the in the Goldman Sachs 19th Annual Global Retail conference on September 5th. This is the first time we will be presenting at this conference. Our presentation is at 9:45 AM Eastern Time and will be webcast at Bonton.com. We look forward to speaking with you about the financial results of our third quarter 2012 on our conference call in November. Thank you again for joining us this morning.

Operator

That does conclude today's conference. We thank you for your participation.

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