Stage Stores, Inc. F2Q08 (Qtr End 08/02/08) Earnings Call Transcript

| About: Stage Stores, (SSI)
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Stage Stores, Inc. (NYSE:SSI) F2Q08 Earnings Call August 21, 2008 8:30 AM ET

Executives

Bob Aronson - Vice President, Investor Relations

James R. Scarborough - Chairman, Chief Executive Officer

Andrew T. Hall - President, Chief Operating Officer, Director

Edward J. Record - Chief Financial Officer, Executive Vice President

Analysts

Jeff Blaeser - Morgan Joseph & Co., Inc.

David Mann - Johnson Rice & Company

[David Berman - Berman Capital]

David Glick - Buckingham Research Group

Robert Drbul - Lehman Brothers

Operator

Welcome to Stage Stores conference call. (Operator Instructions) I would now like to introduce your moderator for today’s conference call, Bob Aronson, Vice President, Investor Relations.

Bob Aronson

Speaking this morning from the company will be Jim Scarborough, Chairman and Chief Executive Officer, Andy Hall, President and Chief Operating Officer, and Ed Record, Executive Vice President and Chief Financial Officer.

Before they begin I would like to point out that any reference to earnings per share during this morning’s call will be a reference to diluted earnings per share. I would also like to point out that our comments this morning do contain forward-looking statements. Forward-looking statements reflect our expectations regarding future events and operating performance and often contain words such as believe, expect, may, will, should, could, anticipate, plan or similar words. Our forward-looking statements include comments regarding the number of new stores that we plan to open in the 2008 fiscal year as well as comments regarding our sales, gross margin, SG&A expenses, and earnings outlooks for the third and fourth quarters of the 2008 fiscal year and full 2008 fiscal year. Our forward-looking statements also include comments regarding the number of Este Lauder and Clinique counters that we expect to open during the last half of the year. Such forward-looking statements are subject to a number of risks and uncertainties which could cause our actual results to differ materially from those anticipated by the forward-looking statements. These risks and uncertainties include but are not limited those described in our most recent annual report on Form 10K as filed with the Securities and Exchange Commission and other factors that may periodically be described in other company filings with the SEC.

With that said I would like to turn the call over to Jim.

James R. Scarborough

We appreciate you joining us this morning for our second quarter conference call. I’ll start off today’s call by spending a few minutes providing you with a high level overview of our Q2 results. Then Andy will follow me with a review of our operational highlights for the quarter. Once Andy is finished with his remarks, Ed will discuss our second quarter financial results with you in greater detail and he’ll also cover our Q3, Q4 and full-year sales and earnings outlooks. Then after Ed has concluded we’ll open it up for questions.

Although general economic conditions remained challenging during the second quarter, we were nonetheless pleased to see some relative strengthening in our business versus our first quarter trends. Based on our first quarter comp store sales decline of 5.4% we had projected comp store sales declines for the second quarter of between 3% and 5%.

However, as a result of our having positive comp store sales results in May and June our overall comps for Q2 were down only 1.4%. And while we’ve never been known to give ourselves pats on the back for negative comp store sales, given the current mentality of the consumer we were nevertheless pleased to have exceeded our sales forecast for the quarter. We believe that the drivers for our better-than-expected sales results for the second quarter were relatively favorable weather conditions throughout the period, successful sales events for Mothers Day, Fathers Day and Memorial Day and the beneficial impact from the tax rebate checks.

So with our sales coming in above the high end of our guidance range and due to our inventory and expense levels being tightly managed throughout the quarter, we were able to flow incremental dollars to the bottom line and we produced EPS that exceeded the high end of our guidance range and beat last year’s EPS results by $0.02 per share. As a result of our prudent inventory management practices, we ended the quarter very clean with our retail inventories down 8.9% versus last year on a comp store basis. Overall our inventories totaled $349.6 million this year versus $344.9 million last year reflective of the fact that we had 51 more stores in operation at the end of this year’s second quarter.

In addition to improving our EPS during the quarter we’re also pleased with the progress that was made during the quarter on a number of our key strategic and operating initiatives which Andy will discuss in great detail with you shortly.

Although we experienced some relative strengthening of our business during the second quarter, as we look ahead we still believe that the macroeconomic environment will continue to be difficult during the last half of this year. Accordingly, we are forecasting that our comp store sales will be down between 1% and 3% during the final two quarters of the year and we have planned our inventory and expense levels accordingly.

Just before I turn the call over to Andy, I want to wrap up and leave you with the following thoughts by saying that despite today’s challenging national economic environment, all of us here at Stage Stores remain intensely committed to growing and investing in our business. We are blessed with a solid balance sheet, strong cash flows, and ample liquidity which gives us the financial flexibility to move forward with our strategic growth plans. We believe that our focus and our investment in continuing to grow our store base and our geographic presence even during these current economic times position us to prosper especially once our economy starts to improve.

You know, Stage Stores truly enjoys a niche of operating stores in small town America and our customers generally appreciate the fact that we offer them solid value while meeting their needs and aspirations for quality brand name and private label merchandise in convenient, easy to shop hometown locations. Our long-term goals of sustainable top and bottom line growth and value creation for our customers and shareholders are our top priorities, and due to the dedication and efforts of our over 15,000 hard-working SSI associates we are confident that these goals will be met.

As always we sincerely appreciate your continued support and interest in Stage Stores, and we pledge to do all that we can to successfully navigate our company through these currently tough and challenging economic times and on to an even brighter future.

With that said I’ll turn the call over to Andy.

Andrew T. Hall

Good morning to all. As Jim mentioned we had a lot of positives during our second quarter. We stood out among our peers with our comparable store sales performance, we conservatively managed our inventory receipt flows and inventory levels, we tightly controlled our expenses, we achieved a 50 basis point improvement in our merchandise margins, and we delivered Q2 EPS that was $0.02 better than last year. Additionally, our second quarter cash flow from operations exceeded last year, we reduced our outstanding debt by $28 million since the beginning of the fiscal year, and our debt-to-equity at quarter end stood at just under 14%.

We had a successful and on-time July opening of our new distribution center in Jeffersonville, Ohio. Our third DC is strategically important to us as it increases our total distribution capacity to over 1,100 stores and will facilitate our store growth through approximately 2013.

And as always we provided our customers with exceptional service, great merchandise selections, and real value all of which are imperative as our customers continue to feel the pressure of high gasoline and food prices in a shaky job market. It’s clear that these economic issues are leading to reduced shopping trips.

For the quarter our dollar amount per transaction was flat to last year. The number of items per transaction decrease 0.4% and the average unit retail increased 0.3%. These statistics support that our 1.4% comparable store decline for the quarter was driven by reduced traffic coming into our stores. As we have previously said, we believe that the consumers are scaling back on their discretionary spending and are visiting our stores principally to event shop or to fill specific needs.

Moving now to a brief discussion of our major merchandise categories, cosmetics once again led the way with a strong 12.6% comparable sales gain for the quarter. The performance of this area continues to benefit from our rollout of Este Lauder and Clinique counters as well as strong men’s and women’s fragrances businesses. Other categories that achieved comparable store sales increases during the quarter included dresses, footwear, intimate apparel, and petites.

During the quarter we completed the installation of five new Este Lauder counters and one new Clinique counter. These second quarter additions brought the total number of Este Lauder counters to 147 and our Clinique counters to 133. Looking ahead we currently expect to open nine new Este Lauder and eight new Clinique counters over the last half of the year.

With regard to our comparable store sales by market size we are pleased to be able to report that our small markets were positive for the quarter at +0.3%. These results are part of our ongoing strategy of focusing primarily on small markets for our new store growth. Our midsize markets were down 2.3% and our large markets were down 4.5%. By region of the country we performed best in the Northeast which had positive comparable store sales and in the Mid-Atlantic, Southwest and Midwest which posted small negative comps. The Southeast was once again our weakest performing region.

Turning now to our store-based activities during the second quarter, we opened five new stores and relocated three stores. Two of the new stores were opened in Idaho which becomes our 36th state. We also closed three underperforming stores during the period and we ended the quarter with 719 stores comprising a total of 13.4 million selling square feet. During the first six months of the year we opened 28 new stores and we remain on track to open between 55 and 60 new stores in fiscal 2008. We still anticipate closing between nine and 11 stores this year.

Before I conclude I want to say a few words about our private label credit card portfolio, which is owned by Alliance Data Systems. As you are aware just under one-third of our business is done on our private label credit card. I’m happy to report that we have not seen a significant deterioration in the aging of our portfolio. We will obviously continue to monitor the condition of the portfolio but at this point we are pleased with the portfolio performance.

We do expect economic conditions to remain challenging throughout the last six months of the year. As such we will remain diligent in the management of our inventories and expenses while working hard to enhance customer loyalty and increase market share by making our stores the preferred destination in small town America.

That concludes my remarks so at this point I’ll turn the call over to Ed.

Edward J. Record

During the next few minutes I’ll provide a quick review of our second quarter financial results and then I’ll talk about our outlooks for the third and fourth quarters as well as our updated outlook for fiscal year 2008.

Sales for this year’s second quarter were $372.7 million while they were at $359.2 million last year. In analyzing the $13.5 million increase in sales contributions from net new stores of $18.4 million were partially offset by a reduction of $4.9 million in our comparable store sales.

Our second quarter gross profit as a rate of sales decreased by 80 basis points dropping to 28.6% from 29.4% last year. This 80 basis point decline in the rate reflects the combination of a 50 basis point improvement in our merchandise margins and a 130 basis point increase in the buying, occupancy and distribution components of cost of sales.

The 50 basis point improvement in our merchandise margins is attributable to reduced clearance levels as a result of our conservative inventory management practices.

70 basis points of the 130 basis point increase in the buying, occupancy and distribution component is due to higher rent and depreciation expense resulting from our increased store count versus last year as well as increased costs associated with the third DC coming on line. The remaining 60 basis points of the increase is related to store impairment charges associated with a few underperforming stores.

Looking forward we expect merchandise gross margin for the second half to continue to be strong increasing 20 to 40 basis points over last year while we expect total gross margins to be down slightly to last year due to the deleveraging impact of additional stores and fixed costs and the negative comp store sales environment. We expect Q3 total gross margin as a rate of sales to have a tougher comparison to last year than Q4 will.

SG&A expenses as a rate of sales decreased 70 basis points dropping to 23.8% from 24.5% last year. Store expenses, corporate expenses, advertising expenses, and credit all levered versus last year. Looking forward to the second half of the year we expect SG&A expenses as a rate of sales to lever versus last year at the low end of our sales range. We expect Q3 SG&A expenses as a rate of sales to have an easier comparison to last year than Q4 will.

Our new store opening costs were $1.2 million this year versus $486,000 last year. We opened five new stores and relocated three stores during the quarter this year while we opened two new stores and relocated two stores during the same period last year.

Interest expense was $1.2 million this year versus $1.1 million last year as the impact of higher debt levels comprised of revolving credit facility borrowings and equipment financing notes was offset by reduced borrowing rates. Our tax rate for the quarter was 38% this year versus 38.2% last year.

Overall our second quarter net income was $9.7 million this year versus $9.9 million last year. Reflecting the beneficial impact of our stock repurchase activities, our diluted share count this year was 39 million shares versus 43.4 million shares last year. This resulted in earnings per share of $0.25 this year versus $0.23 last year.

Our financial condition remained strong during the quarter. At the end of the period we had outstanding borrowings under a $250 million revolving credit facility of $24.4 million with excess availability under this facility of $173.1 million. As mentioned earlier we also had equipment financing notes outstanding at quarter end which totaled $43.8 million. With regard to cash flow net cash from operations for Q2 totaled $60 million this year versus last year’s $46.3 million.

Our capital expenditures for the second quarter net of landlord construction allowances totaled $22.6 million this year compared to $13.2 million last year. The higher cap ex is primarily due to the greater number of stores opened in the second quarter this year versus last year as well as the capital investments that were made in our third distribution center in preparation for its opening in July.

That completes my remarks on our second quarter financial results. At this point I would briefly like to review our outlook for the third and fourth quarters as well as our updated outlook for the full fiscal year.

As Jim and Andy stated, despite some strengthening in our performance during the second quarter we continue to believe that consumers will face economic headwinds during the last half of this year. Having said that, our comps should benefit due to easier year-over-year comparisons. As a result we are maintaining our forecast for comparable store sales to be down between 1% and 3% over the final six months of the year. Adding our comparable store sales expectations for the second half of the year to our actual first half results of down 3.4%, we expect our comparable store sales to be down between 2.2% and 3.2% for the entire year. This compares to our previous 2008 guidance for comparable store sales to be down 2.5% to 4%. Before I move on to the third and fourth quarter outlooks I want to point out that we are maintaining our previous sales and earnings guidance ranges for the last half of the year.

For the third and fourth quarters combined and as discussed during our first quarter conference call we still expect to report revenues in the range of $852 million to $870 million, an EPS of $0.81 to $0.95 per share.

For the third quarter we expect to report revenues in the range of $366 million to $373 million. We are projecting earnings of -$0.01 to +$0.05 per share. Our outlook compares to sales of $355 million and earnings of $0.06 per share for last year’s third quarter. In projecting earnings per share for the quarter we used an estimated diluted share count of 39 million shares versus 42.3 million shares last year.

For the fourth quarter we expect to report revenues in the range of $486 million to $497 million. We are projecting earnings of $0.82 to $0.90 per share. Our outlook compares to sales of $473 million and earnings of $0.78 per share for last year’s fourth quarter. In projecting earnings per share we used an estimated diluted share count of 39 million shares versus 40.5 million shares last year.

Looking at the full year and adjusting our sales and earnings outlooks for actual second quarter results we now expect to report revenues for fiscal year 2008 of between $1,578,000 to $1,596,000 and are currently projecting earnings to be in the range of $1.12 to $1.26 per share. Our outlook compares to sales of $1,546,000 and earnings of $1.24 per share for fiscal 2007. In projecting our 2008 earnings per share we used an estimated diluted share count of 39 million shares versus 42.7 million shares for last year. Recall that our fiscal 2007 results included a non-comparable gain of $0.04 per share related to the March 2004 sale of the Peebles private label credit card portfolio. So with that gain excluded we earned $1.20 last year on a comparable basis.

Lastly, we expect our capital expenditures net of landlord construction allowances to be between $80 million and $85 million in fiscal 2008 reflecting our current plans to open between 55 and 60 stores.

That completes my remarks, and with that we would like to open it up for questions.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from Jeff Blaeser - Morgan Joseph & Co., Inc.

Jeff Blaeser - Morgan Joseph & Co., Inc.

Based on the sales comps and store expectations, is it fair to assume a larger percentage of 3Q new openings versus 4Q?

Edward J. Record

Yes. Although we will open a few stores in November this year, we will open slightly more in the third quarter.

Jeff Blaeser - Morgan Joseph & Co., Inc.

D&A was a little bit higher. Was that the new DC opening? And any projections for the full year?

Edward J. Record

There was clearly the new DC coming on line but also the impairment charges that were booked in Q2 which will not obviously continue in Q3 or Q4.

Jeff Blaeser - Morgan Joseph & Co., Inc.

I believe in August is the Texas tax-free weekend. Would you expect the current environment to boost that weekend up a little bit on a relative basis?

Andrew T. Hall

I think the Texas tax-free weekend is passed us. We can’t really be very explicit about it. I would tell you that sales event is getting a little long in the tooth and I would tell you that the results of that weekend are consistent with the past few years’ results.

Operator

Our next question comes from David Mann - Johnson Rice & Company.

David Mann - Johnson Rice & Company

On the new DC, can you just walk through the ramp up of the DC? How many stores it’s handling now? How that will progress and when would you begin to start perhaps leveraging that or getting some benefits from that?

James R. Scarborough

It opened July 5. It opened with roughly 150 stores and that’s where we expect it to stay throughout the rest of the year. It will cause some headwinds as we talked about in gross margin in Q3 but by Q4 we expect it to be up to the same productivity as the other two DCs.

Andrew T. Hall

And your question about when will we start seeing benefits, we’ve already started seeing benefits. We’re getting the transit time from DC to that northern band of stores has already been reduced by a full day. So the benefits were immediate. There is some ramp up headwind from a SG&A standpoint but we are already getting operational benefits as we speak.

David Mann - Johnson Rice & Company

Andy you talked a little bit about the credit card portfolio. Is there anything going on there in terms of how Alliance is extending credit or reducing limits or anything like that that you see is potentially affecting your ability to drive sales?

Andrew T. Hall

No. I think that’s the good thing about the credit portfolio and what we’re pleased about is that we have not had a contraction in the credit granting limits or the benchmarks in granting credit. And the aging of the portfolio has remained very strong. So that’s why we wanted to include those comments in the prepared remarks because we do think that’s a positive.

David Mann - Johnson Rice & Company

On the stores that you closed and also the stores that you’ve taken impairment charges, is there any common thread between them in terms of where they were located, what was not performing up to your expectations?

Andrew T. Hall

We’ve only closed three stores so far this year. There will be more to come in the fourth quarter but there was really no common thread. They were three different states. One was a previous BC Moore store, one was Peebles, and one was a Stage. There’s really nothing common there. As far as the impairment, all stores opened in multiple years in different states, different divisions.

Operator

Our next question comes from David Berman - Berman Capital.

David Berman - Berman Capital

I was just wondering if you could discuss and embellish on the competitive environment a little bit further and talk about the rebate checks to the extent that may have helped and may be more difficult going forward.

Andrew T. Hall

The only thing that we can say with the utmost assurety is the rebate checks didn’t hurt us. We think that anecdotally from things that Wal-Mart has said and from what others have said that we did get some type of benefit from the rebate checks. It’s impossible for us to measure. We didn’t see any change in the type of transaction between cash, credit, third party or proprietary credit so it is really hard for us to go out there and measure whether there was a benefit and how big the benefit was. Anecdotally we do think that we benefited in May and June but we just don’t know how much.

David Berman - Berman Capital

And the competitive environment, what are you seeing in your markets?

Andrew T. Hall

Again that’s the beauty of our business model. In the small town markets we really don’t have competition. I think as I mentioned in my prepared remarks we were +0.3% comp store sales in those small markets and I think that’s partially a reflection of the lack of competition that we operate in in those markets.

David Berman - Berman Capital

Turning to the balance sheet, your share count went down. Can you just comment on the share repurchase program please?

Andrew T. Hall

We currently do not have a share count repurchase in place. So any reduction which I don’t think it went down from Q1 to Q2.

David Berman - Berman Capital

No. Year-over-year from 42 million to 38 million shares.

Andrew T. Hall

Right. Last year we bought back $112 million in shares.

David Berman - Berman Capital

So we’re not looking to do that at the moment?

Andrew T. Hall

No.

Operator

Our next question comes from David Glick - Buckingham Research Group.

David Glick - Buckingham Research Group

I was just wondering if you could give us some color on the sales flow. I don’t think there are any major shifts in the third quarter but if you could touch on any in terms of the expectations of comps by month. And then the fourth quarter obviously with the calendar shift with one less week between Thanksgiving and Christmas that’s going to cause I would guess November to be a challenging month and shift some business into December. So any specificity on that would be appreciated.

Andrew T. Hall

As we look at the third quarter we think our comparisons get easier as we go out through third quarter. In addition to that, because we’ve been running our inventories so lean we are running less than last year in clearance inventories so August being a much larger clearance month we think will probably the softest of the quarter and we think the quarter should get stronger as we go. In regards to fourth quarter, we’ll probably give you more color at our next earnings release but you’re right on that the week shift out of November into December for basically going away will definitely hamper November and December should be stronger.

David Glick - Buckingham Research Group

Is that a double-digit type of shift? I’m just trying to get a sense for the magnitude.

Andrew T. Hall

We don’t think so. When it shifted in we didn’t pick up double digits so it’s definitely going to be a hit but I don’t think it’ll be in the double-digit range.

James R. Scarborough

So David clearly a headwind in November because you’ve got four weeks in November but this year all those weeks are pre-Thanksgiving where last year we had a week of post-Thanksgiving in there. So I’m not sure there’s a shift of November into December; I just think November’s a tougher comparison and December is a more normal comparison.

Operator

Our next question comes from Robert Drbul - Lehman Brothers.

Robert Drbul - Lehman Brothers

I guess that the one question I have is can you maybe just talk about some of the newer store openings and how they’re performing from the last couple of years and even the ones that you’re opening into this year. How are you planning those from a productivity perspective versus historical things?

Andrew T. Hall

On our new store openings this year our [inaudible] rates and metrics have not changed so we’re looking at our new stores opening at $100 a square foot sales productivity on the first 12 months of operations. That really hasn’t changed. That’s been our metric over the past few years. I would tell you that the 2008 new store openings are on track for that metric and the 2006 and 2007 stores, the 07 stores are on track for their second full year of operation sales productivity as well. As always in any given year of new store openings you’re going to have winners and you’ll have a couple losers, hence some of the impairment charges we had to take this quarter on some older stores. But for the most part we’re happy with the 08 store opening performance and the 07 store opening performance this year.

Robert Drbul - Lehman Brothers

On the inventory levels, they were a lot lower than I anticipated and I was wondering if you could maybe just elaborate on where the biggest inventory reductions have occurred or are occurring in your plans.

Andrew T. Hall

I’ll take it from a couple different angles. From a division standpoint we have challenged the churn rate over at the Peebles division more so than at the Stage division, so we’ve had bigger comp store decreases over at the Peebles division versus the Stage division as it relates to family and business or merchandise category over at Peebles. The challenge was pretty much across the board in most inventory categories. Some deeper than others - men’s and young men’s were challenged to increase their turn a little more than the rest of the store. At the Stage division the decreases have been pretty much across the board. Not a whole lot of variance between family and business.

Operator

Our next question comes from David Mann - Johnson Rice & Company.

David Mann - Johnson Rice & Company

Andy can you talk about what you’re seeing from your vendors in terms of the apparel pricing given all of the inflation talk out there?

Andrew T. Hall

There is a lot of inflation talk. For fall 2008 I don’t see a whole lot of impact on the apparel pricing. In spring 2009 private label placings we’ve seen some inflation that we’ll be able to deal with. You’re starting to hear a little more chatter and concern about fall of 09 placements and cost of those placements. I think like everybody we’re out there looking at those price increases trying to figure out where the appropriate sourcing should be to try to minimize those increases. A lot of the increases are coming out of China and you try to get some sourcing efficiencies maybe moving that production elsewhere. What we’re hearing is not any different than I think the rest of the retail community and probably what you’ve heard before.

David Mann - Johnson Rice & Company

In terms of real estate when you’re looking at your development activities, are you seeing number one, any impact on your real estate partners in terms of their ability given the financing environment? And number two, given all the bankruptcies that are starting to pile up in the retail world, what opportunities are you seeing now?

Andrew T. Hall

We have not seen any impact on the small town real estate community from either a financing standpoint; again remember we’re going into secondary used space so the facility already exists, it’s not a ground up development where a developer is trying to go out and get financing from the banking community to do a project; so we have been unaffected so far and I don’t foresee any concerns in that regard going forward from a real estate perspective.

Operator

I’m showing no further questions.

James R. Scarborough

We’d like to thank everyone once again for participating on our conference call today. We look forward to visiting with you again after the conclusion of our third quarter. Have a great day.

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