Bath & Body Works Inc (BBWI) 2008 Q3 法說會逐字稿

Good morning. My name is Mindy, and I will be your conference operator today. I would like to welcome everyone to the Limited Brands third quarter 2008 earnings conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks there will be a question and answer session. (OPERATOR INSTRUCTIONS).

And now I would like to introduce Amie Preston, Vice President of Investor Relations. You may begin your call.

Thanks, Mindy. Good morning, everyone. Welcome to the Limited Brands third quarter earnings conference call for the period ending Saturday November 1st, 2008.

As a matter of formality, I need to remind you that any forward-looking statements we may make today are subject to our Safe Harbor statement found in our SEC filings. Our third quarter earnings release and related financial information are available on our website, LimitedBrands.com. This call is being taped, and can be replayed, by dialing 1-866-news-ltd. You can also listen to an audio replay from our website.

Martyn Redgrave, EVP and CAO, Stuart Burgdoefer, EVP and CFO, Sharen Turney, CEO, Victoria's Secret, and Diane Neal, CEO Bath & Body Works, are all joining us today. After our prepared comments, we will be available to take your questions as long as time permits. So that we can speak with as many callers as possible, it is important that you limit yourself to one question.

Thanks, and now I will turn the call over to Martyn Redgrave.

Thanks, Amie. Good morning, everyone. You know, as we have been saying over the past year the retail sector, and of course our business, and we have been facing very stiff headwinds. And we have been taking a very defensive stance against these headwinds. Although we anticipated that the environment would be challenging this year, the latter half of the third quarter got tougher than any of us had expected. As I am sure you have heard from nearly all of our competitors the current environment is highly uncertain.

Now as last discussed at our recent Investor Update meeting on October 22nd, we have been and continue to be focused on being well prepared and steady in all of our thoughts, plans, and actions. Stuart, Sharen, and Diane will explain this in more detail, but in summary we continue to manage the business very conservatively, and to drive execution of retail fundamentals. We continue to tightly manage inventories. In fact, inventory levels have been reduced by 28% per square foot over the past two years, which has led to a positive impact on our merchandise margins.

In addition, over the last year, we have taken actions to reduce our expense base by $150 million. And we have also reduced our CapEx projections three times in the past year, from a high of $750 million in 2007, to around $500 million for 2008, and now to a target of roughly $350 million for 2009.

As a result, although the difficult environment clearly negatively impacted our comps during the quarter, our earnings per share result of $0.01 was within our initial guidance, principally as a result of this disciplined management of inventory and expenses. In fact, on a third quarter year-to-date basis, our apples-to-apples comparative operating income performance is up 14%, and EPS has increased 15%.

In addition to this disciplined and conservative management of the fundamentals, we are aggressively focused on bringing compelling merchandise assortments, marketing and store experiences to our customers, to maximize our upside, and as we are continuing to be opportunistic in this difficult environment. We believe our brands, which lead their categories and offer high emotional content at relatively low unit values, are well-positioned to capture more than their fair share of this holiday.

Now since we just provided a detailed update on all of our strategic initiatives at our Investor Update meeting, I won't spend time this morning repeating that information. The Update Meeting presentations are available on our website, and I would encourage you to review them if you missed the event last month.

But just to summarize, we continue to be on track with our technology initiatives and the direct business distribution center, and we continue to be very pleased with the performance of the new BBW stores that we have opened in Canada, and with the early reads on the three new Henri Bendel stores. By the way, our sixth BBW store opened in Canada this week, and our fourth Henri Bendel store will open in Florida next week.

Before I turn it over to Stuart, I would like to make some comments on La Senza's third quarter performance. Our third quarter results at La Senza were below our expectations. Third quarter sales were $111.3 million, and comps were down 5%. Operating income dollars and rate were both down significantly to last year. The most significant driver of La Senza's third quarter results was the significant weakening of the Canadian dollar, and the resulting negative impact on the merchandise margin rate, which is attributable to the fact that La Senza purchases merchandise in US dollars.

Thanks, and now I will turn it over to Stuart.

Thanks, Martyn, and good morning, everyone. Turning to our third quarter performance, as Martyn mentioned, we reported earnings of $0.01 per share, versus a loss of $0.01 per share last year, which excluded a gain of $0.04 per share related to the sale of corporate aircraft. All results discussed on this call exclude that 2007 gain.

Third quarter net sales were $1.842 billion, versus $1.923 billion last year, and comps were down 7%. The gross margin rate decreased 10 basis points to 31.5% as an improvement in the merchandise margin rate, was offset by buying and occupancy expense deleverage. The merchandise margin rate improvement was primarily the result of a decrease in sales in the lower margin massed sourcing function in the quarter, as the merchandise margin rate in the Victoria's Secret segment was about flat, and Bath & Body Works was down significantly. For the VS segment, improvements in the merchandise margin rates at Victoria's Secret stores and direct, were offset by a significant decline in the merchandise margin rate at La Senza, the reasons for which Martyn discussed earlier.

SG&A dollars declined by $30.9 million, and the SG&A rate improved by 30 basis points. Our improvement versus last year and our improvement versus our initial guidance were roughly flat dollars versus last year, and were driven by two different things. About two-thirds of the improvement versus last year was driven by the elimination of costs related to the technology joint venture that was closed last year, and the personal care business that we sold in the first quarter of this year. This impact was included in our guidance. The improvement versus our guidance was driven by a focus on expense reduction across our enterprise, in categories such as door selling and home office.

Total operating income increased $4.6 million to $41.2 million. By segment, the Victoria's Secret segment increased by $9 million to $74.9 million. Bath & Body Works decreased by $21.7 million, to a loss of $29 million. And the Other segment expense decreased by $17.3 million, to a loss of $4.7 million. Retail inventories per square foot at cost ended the quarter down 14% versus last year, and down 28% on a two-year basis. We repurchased 14.1 million shares of stock for $175.5 million during the third quarter. At the end of the quarter, we had 74.5 million remaining under our current 250 million authorization.

Now turning to our earnings outlook for the fourth quarter, we expect fourth quarter earnings per share of between $0.85 and $1.00, versus last year's $0.94, which excludes $0.16 in significant favorable items last year, related to gift card breakage and income taxes. The decline versus our previous estimate is primarily attributable to a reduction in our comp estimate for the fourth quarter, from roughly flat to down mid to down high-single digits, reflecting the current trends in the environment and in our business.

Additionally, we anticipate the need to be more promotional than previously planned. We will continue to focus on offsetting the declines in comps in merchandise margin by reducing expenses. We estimate that the fourth quarter gross margin rate will be down to last year, and we estimate that the SG&A rate will be roughly flat to last year.

Our fourth quarter guidance includes about $0.04 to $0.05 of anticipated accretion from our share repurchase activities. We ended the third quarter with 326 million shares outstanding. Inventory levels in the fourth quarter will continue to be down to last year, although the rate of decline will continue to moderate, as we lap last year's significant decreases. We expect to end the year this year with retail inventories per square foot roughly flat to down slightly to last year, and down close to 30% on a two-year basis.

Our revised fourth quarter guidance would bring the guidance for the full year to $1.20 to $1.35 per share. Note that our quarterly results will not add to the full year, due to the impact of the share repurchase on the fourth quarter. We continue to aggressively manage capital expenditures in light of the difficult environment.

As we noted last month at the Investor Update meeting, we are now projecting 2008 capital expenditures to be about $500 million. 2008 total capital expenditures will be down more than $250 million from the 2007 actual. We are targeting a 2009 CapEx budget between $300 million and $400 million.

Our free cash flow and cash position, along with additional amounts available under our revolving credit facilities results in very strong liquidity, which is more than sufficient to fund our working capital, capital expenditures, dividends, share repurchases, and any other foreseeable need. We expect to end the year with over $1 billion in cash, and do not anticipate having to borrow under our additional 1.3 billion in available credit facilities.

Thanks, and now I will turn the discussion over to Sharen.

Thank you, Stuart. Good morning, everyone. This is Sharen Turney, Victoria's Secret CEO. In the third quarter, sales for our total segment, including La Senza, were up 3% to $1.112 billion. Comp sales were down 8%. Total segment operating income increased 9 million, or 60 basis points to 74.9 million, significant increase in operating income at Victoria's Secret Direct, was partially offset by declines at Victoria's Secret stores and La Senza.

Turning to performance by channel, Victoria's Secret stores comps declined by 8%, while total sales were roughly in-line with last year at $731 million. Operating income dollar and rate declined significantly. Comp store sales for the quarter were below expectations, as our performance was hampered by the overall economic climate, and the resulting softness in mall traffic. Our core bra, panties, sleeper, and beauty businesses were down, while PINK posted year-over-year growth.

The merchandise margin rate was up to last year, this was the result of fewer promotions and better sell-through of inventory, particularly in fashion items. In addition, margins at PINK also improved due to better costing of product. Our gross margin rate, however, was down to last year. Increased real-estate costs resulted in buying and occupancy expense deleverage on the negative comp, which more than offset the gains seen in merchandise margins.

Inventory for the quarter ended down to last year on a square foot basis, and our unit inventory turn improved substantially over last year, as we continue to emphasize speed and agility. SG&A expenses were up to last year due mostly to increased marketing spend. They deleveraged on the negative comp.

Now let's review performance at direct. Sales for our web and catalog business were $269.5 million, up 20% as we lapped last year's issues with our distribution center. Operating income dollars and rate were both up to last year, driven by a higher merchandise margin rate and lower cost year-over-year, as we anniversaried the move into the new distribution center. Demand as measured by total orders received was below the spring trend. We believe the demand drop was a result of lower catalog and promotional activity in the quarter versus last year, but we have also seen some softening of our base customer demand.

I want to remind you that demand growth and sales growth do not always match, due to the accounting for revenue recognition, which means we do not recognize sales until we believe the product has reached the customer. This accounting helped sales results in the third quarter this year versus the overall demand trend, due to the shipping issues with the distribution center last year. We will return to historic levels of catalog circulation in early December, and we are testing different promotional vehicles to drive demand.

The new distribution center continues to meet shipping and accuracy milestones as it ramps up to the holiday capacity. However, we are not yet at the targeted levels of productivity. Looking ahead to fourth quarter, we have prepared our business for the continuation and potential worsening of the current negative consumer traffic trends. As I mentioned previously, we are focused on turning the our inventories faster, bringing new, fresh merchandise into the assortment earlier, and entering the next season with very clean inventories.

We are confident that we can end January with inventories flat to down to last year, even if our sales results fall at the low end of our expectations. With inventory risks understood, mitigation plans in place, and tight expense controls, our team is focused on maximizing upside potential during the holidays. We are leveraging the strength of the Victoria's Secret brand through exciting new products, a compelling in-store presentation and service experience, and remarkable marketing across an array of media channels.

We continue to differentiate ourselves from competitors who are focused solely on price by offering a unique emotional position, that we believe our customers value more than ever. We have accentuated positive selling trends in the PINK assortment, as well as best sellers in intimate and beauty, through reorders, floor set adjustments and pricing. We are leveraging our CRM program to derive incremental sales with bra offerings, panty samplings, gift with purchase, and purchase with purchase offerings.

In November at point of sale we are handing out millions of Secret Santa rewards cards that are worth from $10 to $500, and these cards are redeemable in December. We are also ready with several contingency promotions that we can trigger if we need to. We are hiring to staff our stores appropriate to trend, but are well-positioned to flex up to realize our upside potential, and give our customer the service she deserves. While we have maintained a conservative position in expenses, inventories and capital, we will continue to fund the creative work behind new products, and concepts that support our growth strategy.

Lastly, I would be remiss if I did not mention the Victoria's Secret Fashion Show. This is an important brand-building event for us. This year's show will be broadcast on CBS December 3rd at 10:00 p.m. Eastern. It is a spectacular show. We taped it at the legendary Fontainebleau Hotel in Miami Beach. Grammy Award winner, Usher, was the musical entertainment. The design showcase were fabulous. So be sure to tune in on December the 3rd, you won't want to miss it.

To close, while the environment will continue to be challenging, we believe we are well prepared. Our holiday assortment offers strong emotional content. We are positioned to get our fair share in the fourth quarter.

Thank you, and I will turn it over to Diane.

Thank you, Sharen, and good morning. Bath & Body Works third quarter comps were below our expectations at down 7%, versus a 3% decrease last year. Comp performance was primarily driven by continued softness in store traffic. Total sales for the quarter were $424 million, down 1%, or $6 million versus last year. The 6% spread between comps and total sales, represent sales from new stores and growth in our direct business. For the quarter, operating income versus last year declined $22 million to a loss of $29 million, driven by sales and gross margin decline, as well as increases in SG&A expenses.

Gross margin dollars and rate decreased significantly versus last year, driven by lower sales, merchandise margin rate, and the deleveraging of fixed buying and occupancy expenses associated with the negative comps. Merchandise margin rate declined significantly to last year, driven partially by increased customer response to traditional promotional activity in this tough economic environment. Although our circulation of our direct mail promotional activity was in-line with last year's levels, we saw an increase in the number of customer redemptions utilizing this vehicle.

SG&A expenses were up to last year due to enhanced marketing support for our signature collection restage, as well as store selling expenses driven by store growth. Consistent with previous years, we experienced increased SG&A spending in the third quarter, in preparation for holiday which deleveraged on a negative comp. During the quarter, performance of our E-commerce business met expectations. We continue to view the direct channel as both a revenue generator and marketing vehicle for our brand and collection of sub-brands.

Looking forward, we started the fourth quarter with a more traditional holiday theme, with a focus on seasonal gifts, home fragrance, and toiletries. December themes will continue to focus on Holiday collections, layering in additional newness each week throughout the month. In early November, we also implemented Phase 2 of a signature collection restage, which expanded the collection to 400 additional stores in the eastern half of the United States, adding to the 19 Columbus area stores which rolled out in September. Early reads from this rollout are encouraging, and should allow to us build excitement and momentum throughout the holiday, and the balance of the season. Lessons from this multi-phase launch will help and better prepare us for the rollout for the balance of the fleet occurring in early February.

Despite an improved holiday assortment that is better positioned than recent years, and having experienced success in the early phases of our signature collection restage, traffic across the fleet continues to be down to last year. As a result, we have a cautious outlook on the fourth quarter and into spring of 2009, and we will continue to take proactive measures, to manage discretionary spending and maintain inventory levels flat to last year on a square foot basis, to help mitigate any top line softness. With that I will turn the discussion back over to Amie Preston.

Thanks, Diane. That concludes our prepared comments, and at this time we would be happy to take any questions you might have. Again in the interest of time, and consideration to others, please limit yourself to one question. Mindy, I will turn it back over to you.

(OPERATOR INSTRUCTIONS). Your first question comes from Kimberly Greenberger from Citigroup. Your line is open.

Great, thank you, good morning. My question is on inventory planning, but could I just ask Stuart a clarification on his prepared remarks? Stuart, you mentioned buying and occupancy deleverage contributing to the gross margin decline. Could you help us understand the magnitude of that buying and occupancy deleverage on the negative 7% comp?

Kimberly, good morning. In terms of the magnitude of the deleverage, it is significant. We are not going to peel it apart, but as would you expect with the negative comp it was significant in the quarter, but we are not going to break it down specifically. As we discussed, it largely offset the improvement in merchandise margin.

Okay. And then just on inventory planning, I wonder if the brand presidents could comment on how you are thinking about inventory for the spring season of '09? Are you assuming that the current trends in the business just continue on into the first half of next year, or are you looking for some sort of acceleration? Thanks.

Thanks, Kimberly. We will go to Diane first, then we will go to Sharen.

Hi, Kimberly. It is Diane Neal. We are actually looking at our spring inventories, and probably planning them down from last year on a square foot basis.

Hi, this is Sharen Turney. As we look at the spring season, we are going to approach it very conservatively. We are right now looking at speed and agility, and we are going to develop our manufacturers across the world. We will be right now going into the inventory levels a little bit down to last year, and what we are looking at is being able to chase and to react to the business.

Thank you.

Thanks, Sharen. Next question.

Your next question comes from Jeff Black from Barclays Capital. Your line is open.

Thanks, good morning, everybody. Question for Sharen, I guess. Can you just spell out where you are seeing the softness in direct demand, how this compares to recent trends, and trends in the past? And regarding the merchandise margin, how comfortable are we with the amount of clearance, the fashion content, and really our ability to hold merchandise margin up in 4Q? Thanks.

Jeff, the direct demand is a direct reflection of us cutting back the catalog circulation too much in the month of September and October. Looking at thinking that a lot of it could be done through the web, and that was a mistake on our part.

As we think about that and have reacted to the business, we will get back up to historical rates of catalog circulation at December 1st. So I do believe that it is probably 90% based upon us cutting back too much on the catalog circulation, and probably 10% just because of the macroeconomics.

In terms of how confident we are in terms of the merchandise margin, our fashion is getting very high sell-throughs, probably historical rates in terms of our sell-through of fashion. We are managing that on a week by week basis. I think that as the unknown is how promotional December will become. We have been very strategic and have contingencies in place. We do not see any inventory backups, but as we know that today in most of the department stores, they are already 40% off, how deep will people go in December will be how we have to then pull the levers on those contingency plans.

Thanks. Good luck.

Thanks Jeff. Next question.

Your next question comes from Dana Cohen from Banc of America. Your line is open.

Hi, guys. Just going back on the Victoria's Secret profitability, can you give us some perspective? Let's go back two years. Profitability was down 50 in the third quarter of last year, of which 30 or 40 was due to the direct, and you are up a bit versus that this year, but can you piece out the pieces, so we can have some perspective, and also, can you explain a little bit more detail how La Senza, which is so small, could have had such a big impact?

Yes, Dana this is Stuart. Why don't I try to frame it, then Sharen may want to add on. As we had, I think, communicated on the last call, there was a decline in Victoria's Secret stores profitability for the quarter, and there was a substantial improvement in profitability for VS direct, and in the third quarter consistent with our expectations.

In terms of improvement at direct, then as Martyn outlined, there was negative performance at La Senza. You are right that it is a relatively small business, but in what is a thin quarter in an aggregate sense, for the overall business, the decline at La Senza was meaningful in terms of its impact to the VS segment.

Did the direct business get back what it lost last year?

For the third quarter, it did, and for the fourth quarter, just to try to be helpful, in terms of whether it will get back, we believe it will get a substantial portion back, but as Sharen outlined, there is some softness in demand, taking action to correct for that, but depending on how that plays out, we may not fully get back in the fourth quarter what we previously expected. But in the third quarter, to answer your question, we absolutely got back what we lost a year ago.

Thank you.

Can I just add on? It will finish the answer to another question that might come. It is Martyn Redgrave here.

So the other answer on La Senza is that the impact of the foreign exchange, the precipitous decline in the value of the Canadian dollar in the quarter was about $0.01 a share. And it is driven by the fact that we buy in US dollars and sell in Canadian dollars in the La Senza business.

And would you be willing to give us the delta in the La Senza business here in the quarter?

No, just the impact of FX. That is a new phenomenon for us, given that we have not been in international businesses for a long period of time.

Thanks, Martyn. Next question, please.

Your next question comes from Paul Lejuez of Credit Suisse.

Sharen, can you share with us what circulation was down in November, versus where you are planning it for December, and could you tell us what the demand numbers show? If we are not looking at sales to judge the business, what was the order flow in the third quarter?

The circulation was down roughly 18%, and the demand in the third quarter was roughly flat.

And how about in December? What is it planned?

Our circulation would be back to what we actually circulated in 2006. As you know last year because of the distribution center we had pulled back circulation, and so we are going back to our historical rates in circulation as to what we circulated in 2006.

Does that help, Paul?

It does, thank you.

Thanks. Next question, please.

Your next question comes from Brian Tunick from JPMorgan. Your line is open.

Hi, thanks. Good morning. For Martyn or Stuart, we were just curious about the Other segment. Maybe you could talk about where that surprise came from? Was that from mass having the lower sales, or was there something happening in corporate overhead in the quarter? Thanks very much.

We will go to Stuart for that.

Brian, the net expense in the Other segment, there was substantial improvement in that year to year, year-over-year. And what drove that was fundamentally two things. The investment in spend related to the technology joint venture that we were involved in a year ago, and as you know, we wound up that activity last fall, and so we are not incurring that expense, and that was in the Other segment.

And the other key driver of the reduction is our focus which we have talked a lot about on expenses, and then to try to help you guys out, because I realize it is a tough part of the business to forecast, we would expect the Other segment to be roughly flat year-on-year for Q4, and the rationale, or the underlying drivers of that are that we really are now fully lapping a lot of the expense actions that we have been taking.

We continue to work on expenses, and we believe there is more opportunity there, but for purposes of trying to lay out a Q4 expectation, we would judge it to be roughly flat for the fourth quarter.

Thanks, Stuart. So Brian, just to clarify there, we obviously would have anticipated some of that decline in the quarter as it relates to lapping that joint venture activity. Next question, please.

Your next question comes from Laura Champine from Cowen.

Good morning. Got a question on Bath & Body Works, on the signature reset, it looks like given current traffic trends it is likely to continue deleveraging your SG&A costs. Can you give us some quantifiable metrics we can point to that justify the big reset during this period, the kinds of productivity improvements you are having, potential payback period on those resets? That would be great.

We have just set the first week in November. Part of the problem that we have in the signature restage, first of all they are doing better than the non-restaged stores. So part of the problem we have in measuring this, is that we were highly promotional last year in these stores. We were up against some different numbers. We did take some increased retails, and where we took the highest increase is at our Edt forum.

It is also the most expensive item, and it is actually selling on a unit basis much more than the previous item. So overall we are feeling pretty positive about it, but we just feel we have got a few more weeks to get through, before we can really understand it. We are trying a lot of different ideas to test trial, to see about repeat purchases.

I know Columbus is a small sample set, but maybe could you give us some of the results of those 19 stores, that drove your willingness to launch the big shift?

19 stores actually continue to do well versus the non-restaged stores and again, we have the Edt form in those stores is even more significantly higher than the 400 stores that we restaged, because we have had a longer runway in those stores.

Thank you.

Your next question comes from Marni Shapiro from The Retail Tracker. Your line is open.

Hey, guys, and good luck with the holiday season, in case I forget to tell you. Diane, my question is for you. You said in passing in your comments, that some of the promotions that you were running, they were equal to last year, but that your redemptions were up. I just want to clarify that.

In that case I was curious if you believe that is because she is reacting better to the product once she is in the store, or were the promotions more thoughtful and targeted to customers who are more likely to take advantage of them? I know I have seen several of the Pat Wexler promotions, and to me that feels like it is one that she would take advantage of because it's not usually promoted, that product.

I think it is probably both. Our CRM mailings were basically flat to last year. We saw the redemption of those promotional coupons increase over last year, so I think it is both. I think the fact that she is responding to deals, for one thing, and she is, when she gets in the store, is responding to the improved assortment.

Great, thanks, guys.

You are welcome.

Your next question comes from Neely Tamminga from Piper Jaffray. Your line is open.

In terms of the returns rates are you actually seeing on the direct side higher or maybe accelerating returns rates, some form of buyer's remorse, and how does that play into your Q4 outlook?

No, we are not seeing any significant higher rates in returns. Sometimes returns are driven by what categories that you are selling, but I don't see that being a factor for us in the fourth quarter.

Great, thanks and good luck.

Thanks, Neely. Next question.

Your next question comes from John Morris from Wachovia.

Thanks. Good morning everyone. Question for Diane, then a quick one for Stuart. Diane, how is the business outside of the signature collection doing for you? I think signature, correct me if I am wrong, but I think it is about 40% of the business or so, I would be curious to hear how you are doing in everything but signature?

Then for Stuart, looking at next year, did you a great job this third quarter in getting SG&A dollars down. Could you actually see SG&A dollars down next year? Just your preliminary philosophical thoughts about that? Thanks.

Hi, John. Diane. In regards to everything besides signature, for the most part all of our brands, the beauty brands, and other brands are seeing positive increases over last year, including our home fragrance business, and there is positive increases on a comp store basis.

So we are very excited about all of the newness that we have put into all of these brands, as well as our home fragrance area. Some of the things that we repeated from last year and tried to improve, our sweetest, softest collection is actually softer than what we had anticipated, and some of the bathing and beauty accessories are softer than we had anticipated, but we have a lot of great avenues to get through that. So our biggest problem in the non-restaged stores really is around our signature collection.

Thanks Diane. Stuart on SG&A?

On expenses I understand the importance of the question, and it is very important to us. As you know, as we have talked about, we have been very focused on expenses and the benefits of that have been playing through to the P&L in 2008. We are looking at a range of scenarios. Top line and otherwise, and we continue to work expenses in a very diligent way.

With that said, John, we are not in a position at this point to provide specific guidance on 2009, given the breadth of those scenarios, and frankly the importance of seeing how the fourth quarter winds up. So we remain very, very committed to taking overhead out of the business wherever we can. That said, we are committed to the right experience for the customer, in terms of store selling costs, and we want to ensure that we continue to invest in things that will drive the long-term growth of the business. But we are spending a lot of time, as a management team, Sharen, Diane, Les, myself, Martyn, function leaders, on it.

Got it, good luck for holiday guys.

Thanks John. Next question.

Next question comes from Lorraine Maikis from Merrill Lynch.

Thank you, good morning. Just wanted to try to get an update on your real estate strategy for 2009. Are you starting to get better rates? Also, are the newly expanded stores tracking well enough to continue this expansion program next year?

Thanks, Lorraine. We are going to go to Martyn for that.

Thanks, Lorraine. It is a little bit early on the cost side to say that we are getting or seeing a reduction in rental rates or construction costs that we would expect. We are expecting to see those things, and starting to get some evidence from our real estate and store design construction teams that it will be there. As you know, one of the major developers is focused on their own sets of issues right now, and we are all working very closely with all of our partners, to kind of adjust or recalibrate for this new economy that we are in.

In terms of the store expansion program, obviously we have pulled back CapEx dramatically as you have seen, and that will reduce the number of projects as we described at the Investor Update meeting.

But that said, to the extent that we see on renewals, particularly for our top 200 malls, the opportunity to expand appropriately the Victoria's Secret footprint, we are going to continue to do that because, as we have shown in the Investor Update meeting, the performance of those expanded stores, while the overall balance of chain is down, and therefore the performance of the expanded stores is down in connection with the balance of chain performance, the incremental sales performance of the expanded stores is meeting our expectations, and both from a return on sales and from an internal rate of return perspective also meeting our expectations, so we want to continue to move forward with that strategy, but on a much more conservative pace.

Thank you.

Thanks, Lorraine. Next question.

Your next question comes from Jennifer Black from Jennifer Black & Associates. Your line is open.

Good morning and thank you. Sharen this question is for you. I wondered with the new sophistication of your offering at Victoria's Secret stores, do you feel that you are attracting that older customer that you had lost? Thank you.

Basically as we think about an attitudinal age, we are really targeted to the 26-year-old. As we have moved to a more sophisticated, romantic, glamorous sexy offering, that we are actually casting an even broader net, with PINK being targeted at the 19 collegiates, and then being able to add some [heirloom] between the PINK as well as the Victoria's Secret core line, I do believe that we are actually casting a broader net, and more relevant to what is happening today.

Thank you.

Thanks, Jennifer. Next question.

Your next question comes from Jeff Stein from Soleil Securities.

I would like to go back to the SG&A issue, perhaps in a different way, looking perhaps at a deflation scenario for 2009, can one make the argument, perhaps, that you guys could potentially at some point next year, see lower distribution costs, due to lower fuel, lower cost of goods, lower utility costs, lower real estate as you renegotiate leases, and if you see that, at what point in the year do you see perhaps those factors beginning to roll into the P&L?

Hi. Jeff, it is Stuart. What I would tell you is all the things you described, we are absolutely looking at. Fuel, for example, as you all know, has been very volatile, and as we sit here today, is in a much better place than any of us would have judged it 90 days ago, and so we see benefit there. As it relates to any form of costs that we pay to an outside party, we are looking hard at it, and we have intensified our efforts there. We always work hard on the merchandise side. We always work hard on the non-merchandise side, but particularly in this environment, as you described it, this deflationary environment. It is an opportunity to really reopen discussions with key partners, and understand what happens to their costs, and to share with them what is happening to our costs, and to really get to a better outcome for us.

So that is philosophical, but what I would also want to drive, so I agree with the points you make. What I guess I would want to convey is, we are very actively working it. Am I able to quantify that and wrap that into '09 guidance at this point? The answer to that is no, and we will provide guidance in February as we normally do, but you should be sure that we are very aggressively working on it.

Stuart, without wrapping it into guidance though, what would be the earliest point in time that some of these deflationary factors could possibly begin to manifest themselves in 2009? It could happen as soon as Q1, or do we have --

It depends on what it is in relation to. For example, is fuel below what we would have thought when we looked at fall 90 days ago? It is, and we will get some benefit of that in the fourth quarter, and more in the spring, assuming that the values hold. So in relation to earlier views, as soon as the current quarter. But the timing of benefits will vary depending on whether we are talking about year-on-year comparisons or versus prior views, and how the benefits actually flow through.

Got it. Thanks.

Your next question comes from Randy Konik from Jefferies.

Good morning, this is [Bruce Barry] filling in for Randy. Our question is with the environment getting a lot worse since your analyst meeting, have you guys changed the way you are thinking about capital structure or cash flow management? Specifically would you consider pulling back or modifying your share repo activity, or reducing your dividend, which I believe yield is now up to about 8 or 9%, or even making debt reduction a higher priority? Thanks.

Well, the three or four things I would say about our capital structure are first that we feel good about where we are. So we have good -- we will have a good cash balance. We have a good cash balance now. We will end the year with over $1 billion in cash, and our access to additional cash is strong. So we feel good about that. We feel good about the nature of our borrowings, in terms of the interest rates and the terms and the maturities of those rates. We feel that we have a very good bank group. We remain very committed to returning value to shareholders over time.

The next thing I would want to convey is we recognize the environment that we are in, and so we are managing in a conservative way, and we evaluate all of the options, repurchase of stock, repurchase of debt, holding cash. We look at those options regularly. But we feel very good about where we are. We will see how we come through the fourth quarter and we regularly evaluate what the best use of excess cash is, and you know what our actions have been with respect to returning cash to shareholders over time.

Just one other add-on, Randy. You asked about would we consider cutting dividends, and I think that is probably of all of the kind of tools in the tool kit of capital structure, that is probably the last thing that we would look at and do not foresee any reason why, from a cash flow management or balance sheet, or capital structure point of view, that we would be considering reducing our dividends.

Absolutely.

Great, thank you.

Your next question comes from Todd Slater from Lazard Capital. Your line is open.

It is actually Jennifer for Todd. I had a question on inventory. Could you guys comment on where each brand ended for the third quarter? And then are there any categories where you feel like you have too much or too little inventory, for both brands? Thanks.

So, Jennifer, actually I am just going to quickly answer the first part, and then we are going to go to Sharen and Diane for the other two. So as to where each brand ended, we don't disclose that specifically, but I can tell you that they are generally in-line with where the overall inventories ended, which was down 14% per square foot. In terms of composition of inventory versus seasonal fashion basics, et cetera, we will go to Sharen first, and then Diane.

Sure. Hi this is Sharen. As I stated, our sell-through from a unit perspective was up significantly in the third quarter, and as we look at going into the fourth quarter, we are flowing new, fresh merchandise across all businesses, whether it be beauty, PINK, in the Victoria's Secret intimate business, as well as direct.

So today, we do not see any area that we have truly excess inventory, and as we have the contingencies, if we see something that we are actually reacting immediately to it, but right now our goal is to first of all to drive as many sales as we can in the month of December and January, and to really end January very clean, so that we have all of the capability in the spring season to flow fresh merchandise. And I think that is going to be the real key.

Sharen, are there any areas where you feel like you don't have enough inventory?

There are always things in some of the best sellers we have sold out of, but because we have a constant flow, I feel good about that in terms of the PINK business has exceeded our expectation a bit, we have been able to pull forward deliveries, and so that is how we are actually handling that. So I feel like we are in pretty good shape.

The story for Bath & Body Works is similar, in that we really don't have any big gluts of merchandise in any particular category. We have got about five to six weeks of some pretty intense Christmas selling ahead of us, with a highly seasonal type assortment. We sit down every week and review and make sure that we are on our glide path in every single category, and we too, are committed to make sure that we end January in an extremely clean position, and fresh forward for spring.

Thanks guys, good luck.

Thanks, Jennifer. Mindy, I think we have time for maybe a couple more questions if we have them.

Your next question comes from Barbara Wyckoff from Buckingham Research.

Hi, everybody. I have a question for Diane. The operating income decline in third quarter, is a bit disturbing, What are you doing to ensure that you don't see erosion in fourth quarter, and could you comment on the cadence of coupon and offers this year versus last year? I know there are plan B's and plan C's, but sort of the plan A, the magnitude of the deals, the flow of the deals, et cetera?

Well, I mean, we continue, we have a lot more newness this year than we had last year, and we continue to look at our business as I said earlier, every single week to make sure we are maximizing as much as we can from a sales and gross margin productivity, making sure that we are not left at the end of the season with highly seasonal product, and that we get through our January Semi-annual sale in really good shape.

Our [stem] activity again, as far as mailings, are flat to last year. I am not quite sure if we have the same type of response in the fourth quarter in December as we did earlier, then our promotional activity would probably be higher if the redemption is higher, but the overall mailings are flat to last year.

Okay.

Thanks, Diane. And thanks Barbara. So last question please, Mindy.

Your last question comes from Dana Telsey from Telsey Advisory Group. Your line is open.

Good morning, everyone. Glad we got in there. So given that the part of the driver for top line has always been newness of both businesses, how is newness being planned for each brand in 2009, and how is the margin opportunity on newness, whether it is IMU or product cost, how do you see it, and does the percentage of newness change by business? Thank you.

Thanks, Dana. We will go to Sharen first.

First of all, I think that we will, depending on each category, but beauty for an example, will have about 40% newness, versus probably 10% this last year in spring. As well as in all of our categories being a really true fashion business, if you think about it, is that we have really positioned the ratio of fashion that we hire. And really, it depends on how you define fashion. So that if you take one of your top bras, then you are adding details to it, or adding colors to it, we consider that fashion. And I think that also we are really looking at turning the fashion faster than we have in the past in the spring season, through flow, and then also being able to read and react. Think we demonstrated this past spring the opportunity, as we launched BioFit, and then we were able to react very quick and come back to relaunch it later in the season, which actually became our #1 launch.

From an IMU perspective, there is no significant difference in our fashion versus basics in IMU. There may be some slight upside in the fashion IMU. Then it is a matter of the rate of sell-through that we need to accomplish.

And for Bath & Body Works, our signature restage goes in the 1,200 remaining stores in February, so that is a completely new packaging, new formulas, and new forms that we already have some success on, and that is our higher priced margin business that launches in February.

All of that is saying, we still have additional capsules amongst all of our other brands, and all of that business has been extremely successful this fall, whether it be in aromatherapy, we have a really fun new fragrance coming in for aromatherapy, we have a whole new collection coming in from True Blue spa, and we have also moved up our fragrance launches within the signature collection, just based on what we have seen with Black Amethyst, so we have accelerated quite a bit into the first part of March, where we were initially thinking, so we feel pretty good about that, as well as the fact that we have seen a lot of success in our gift set business under $20 going into the holiday season, so we have gone back and really looked at Mother's Day and how we can maximize additional holiday for next spring.

This is Sharen again, I wanted to come back too, and say that there are certain categories that we have been in test mode, that will actually be new to Victoria's Secret in most of our stores, if you think about the swim category that we have tested in about 300 of our stores this last spring, and rolling to based upon it's success, which is a brand-new category in stores, and has been very successful in the direct business over the last couple of years.

The other piece that we continue to work through is the new reinvention of the sleepwear category. As you know, that really started in the fall season. As we come full force into that into the spring season, so I think that as we are thinking about these new categories, especially in the accessory, travel accessory category, both in the beauty area, as well as PINK, and PINK continuing to develop more of the collegiate licensing partnerships, so I think not only is it newness in existing categories, but it is also newness in the categories that Victoria's Secret has not been in.

Can I add one more thing? The other thing as I am sitting here thinking about listening to Sharen, the other thing that we, as you all know, we have been testing some different segmentation groups within our stores, and we have seen great success in a couple of those segments, so we accelerated that rollout also, and that should be in the first quarter of next year.

Great. Thank you.

Thanks, Dana. That concludes our call this morning. I would like to thank everyone for joining us, and thank you for your continuing interest in Limited Brands.

Thanks.

This concludes today's Limited Brands third quarter 2008 earnings conference call. You may now disconnect your lines.