Big 5 Sporting Goods Corp (BGFV) 2005 Q4 法說會逐字稿

Good day, ladies and gentlemen. Thank you for standing by. Welcome to the Big 5 Sporting Goods 2005 fourth quarter and year-end earnings conference call. [OPERATOR INSTRUCTIONS] It is now my pleasure to turn the conference over to Mr. Steve Miller, Chief Executive Officer of Big 5 Sporting Goods. Please go ahead, sir.

Thank you, everyone. Good afternoon, and welcome to our fiscal 2005 fourth quarter conference call. Today, we will review our financial results for the fourth quarter and full year of 2005, and provide general updates on our business, including the transition to our new distribution center as well as provide guidance. At the end of our remarks, we will of course open it up for questions.

I will now turn the call over to Barry Emerson, our CFO, to read our Safe Harbor statement

Thanks, Steve. Except for statements of historical fact, any remarks that we may make about our future expectations, plans and prospects constitute forward-looking statements made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements involve known and unknown risks and uncertainties that may cause our actual results in future periods to differ materially from forecasted results.

These risks and uncertainties include those more fully described in our Form 10-K for fiscal 2004, our most recently filed Form 10-Q for our third quarter of fiscal 2005 and other filings with the Securities and Exchange Commission. We disclaim any obligation to update these factors or to publicly announce results of any revisions to any of the forward-looking statements made during this call that reflect future events or developments.

Because our fiscal period shifted from a 53-week fiscal year in 2004 to a 52-week fiscal year in 2005, each of our quarterly periods in 2005 began a week later than the same quarterly period in 2004. In addition, our fiscal 2004 fourth quarter was a 14-week period, while fourth fiscal 2005 fourth quarter was a 13-week period. As a result, comparability between fiscal 2005 and fiscal 2004 and the interim quarters is challenging. For this reason, we will provide certain sales information on a comparative calendar day to calendar day basis as well as on a fiscal period basis.

Thanks, Barry. We feel we've done a lot of heavy lifting over the past year, and we believe we are well-positioned for future growth. 2005 certainly had its challenges with our results being meaningfully impacted by our transition to a new distribution center and our accounting restatement.

Throughout the year, our core business model continued to produce solid sales results. The fourth quarter of 2005 was our 40th consecutive quarter of positive same store sales. I think it's safe to say at this point that we're well on our way to our 41st consecutive quarter of positive comps as we start 2006.

Now for a review of our fourth quarter sales. In the 13-week fourth quarter, we rang the register to the tune of $218.9 million for sales of $217.6 million in the 14-week fourth quarter of 2004. As a reminder, our 2005 fourth quarter was 13 weeks while the 2004 fourth quarter was 14 weeks. Our same-store sales increased 1.5% for the fourth quarter on a comparable 13-week basis versus last year. As mentioned, this represented our 40th consecutive quarter of positive comps store performance.

Our sales for the quarter started of very strong and then soften somewhat over the holiday period, primarily, due to our inability to comp against last year's winter-related sales. Clearly, weather was not in our corner, our non-winter related products generally performed positively throughout the quarter in line with our expectations.

Looking at merchandise categories, hard goods and footwear comped in the low single-digits for the quarter and apparel was down in the low single-digits. Each of these categories were negatively impacted by unfavorable winter weather comparisons with apparel logically being the category most affected by weather. Our point of sale merchandised margins improved 10 basis points versus the same quarter last year, despite a softness in winter product, which is very margin friendly early in the season.

We did have a number of issues affecting overall gross margins, which Barry will talk to in a moment. But before he does that, I want to provide you with an update on our distribution center transition and our store openings schedule. We are pleased to report that our distribution center transition is complete, and we are now 100% operational at the new facility. We are receiving all product into and shipping all product out of our new DC, and as of this week, our old DC is closed. Clearly, this transition was more challenging and costly than we anticipated. I'd like to spend a moment to give you a little color on why that was the case.

As you may recall, the construction of the building was delayed by the near record rainfall of our 2004-2005 winter. At the same time, our lease term for our existing distribution center was due to expire in March of 2006. Had we had access to our new DC earlier; we believe we would have been able to time the transition in a manner that would have been less disruptive to our holiday season. However, the reality was that the rain delayed construction and our expiring lease term forced us to tackle the DC move during the heart of our holiday season. We would have loved to have obtained a few more months in our existing facility to give us more flexibility, but that was not a viable option for us.

Although our initial startup in our new DC went well, once the order fully requirements ramped up as expected to meet the holiday demand, we faced some, probably, normal learning curve issues with our new warehouse management system and our new automated conveyor systems. Managing through these issues in the new DC while still needing to operate our old DC proved to be very challenging. We faced some difficulty, recruiting adequately skilled temporarily labor and this required our existing labor force to work costly and not wholly efficient overtime hours.

As the move progressed, working to a daily, weekly, quarterly budget simply was not an option. To us, the only option was to do whatever we could to get products to our stores, to maximize our sales potential, and service our customers. This effort increased labor resources that required continued into the first quarter as we completed the transition. I can' tell you how nice it is for us to be operating out of one DC again and to have our entire team working toward maximizing the benefits of this new facility. We are enhancing productivity and efficiency at the new DC measurably week-over-week, and we are truly excited about this new facility, which will handle our store growth for a number of years.

Now onto store openings. We opened 10 new stores -- four in California, two in Arizona, and one each in Colorado, Utah, Oregon and Washington during the fourth quarter of 2005. That brought us to 324 stores as of the year-end. We expect to open two new stores -- one in California and one in Washington before the end of this first quarter. We anticipate opening a total of approximately 20 new stores during fiscal 2006.

At this time I will turn the call over to Barry, who will provide more information about the quarter and full year results as well as speak to our balance sheet, our capital expenditures and our cash flows and provide guidance.

Thanks Steve. Our gross profit margin for the fourth quarter was 34% of sales compared to 36.1% of sales for the fourth quarter of 2004. Gross margins were materially impacted by an increase of over 4 million or approximately 200 basis points in DC costs primarily associated with the transition to our new distribution center as well as higher inventory reserve provisions of 1.8 million or 60 basis points, mainly related to the net realizable value of returned goods inventory. This impact was partially offset by the benefit of an increase of 0.8 million or 40 basis points in warehouse expenses capitalized into inventory.

Our SG&A expenses declined to 25.1% of sales from 26.0% of sales in the fourth quarter of 2004. This lower expense percent reflected a 0.9 million or 40 basis point reduction in reserves related to workers' compensation claims, which was offset by a 0.6 million or 30 basis point increase in expenses related to Sarbanes-Oxley compliance work. Additionally, expenses for the fourth quarter of 2005 have a favorable comparison to the prior year as the fourth quarter of 2004 reflected a 1.6 million or 70 basis points of higher costs related to certain employee benefit programs that were expensed earlier in the year in 2005.

Looking at our bottom line, net income during the fourth quarter was 7.7 million or $0.34 per diluted share versus net income in the fourth quarter of 2004 of $9.5 million or $0.42 per diluted share.

Fourth quarter 2005 results include the impact of distribution center expenses of approximately 4.5 million pre-tax or $0.12 per diluted share, which would directly attributable to the Company's transition to our new distribution center. Costs related to Sarbanes-Oxley compliance work for fiscal 2005 also were concentrated in the 2005 fourth quarter and the 2006 first quarter.

Income comparisons for the fourth quarter were affected by the amount of inventory cost capitalization of warehouse expenses primarily due to higher costs related to the Company's transition to our new distribution center. This increased fourth quarter 2005 pre-tax profit by 0.8 million or $0.02 per diluted share compared to the fourth quarter of 2004. Fourth quarter of 2005 earnings also benefited from a $1.1 million or $0.03 per diluted share reduction in reserves related to worker's compensation claims.

Income for 2004 fourth quarter includes a debt redemption charge of 1.3 million pretax or $0.03 per diluted share. Briefly reviewing the full year results, sales rose 4.1% for the 52-week fiscal 2005 to 814 million from 782.2 million during the 53-week fiscal 2004. On a comparative 52-week basis, net sales increased 6% and same store sales increased 2.4% for 2005 versus 2004.

Looking at income for the full fiscal year, earnings per diluted share or $1.21 for 2005 versus earnings per diluted share of $1.47 for 2004. Results for 2005 include distribution center expenses of approximately $0.18 per diluted share directly attributable to the Company's distribution center transition and $0.10 per diluted share for legal, audit and other expenses related to the Company's restatement of prior period financial statements.

Results for 2004 include a $0.06 debt redemption charge. Income comparisons for fiscal 2005 also were affected by the amount of inventory cost capitalization of warehouse expenses preprimary due to high cost related to the Company's transition to our new distribution center. This increased fiscal 2005 pretax profit by 2.2 million or $0.06 per diluted share compared to fiscal 2004. Additionally, results for fiscal 2005 benefited from the Company's recording in the third quarter of $1.8 million pretax in proceeds from the settlement of a claim in an eminent domain proceeding involving one of the Company's stores, which increased fiscal 2005 income by $0.05 per diluted share.

Now turning to our balance sheet total chain inventories amounted to $223.2 million at the end of 2005, up 17 million from 206.2 million at the end of 2004. Our inventory levels year-over-year were up a little more than usual due in part to higher inventories of winter related products as warmer weather conditions resulted in lower sales of those product than anticipated. Additionally, we took advantage of certain strategic buys as vendors offered price discounts to move product at year-end. Cost capitalized in the inventory for 2005 were also 4 million higher than for 2004. We feel our inventory balances are well-positioned to support our existing store base, which includes an additional 15 net new stores opened during 2005.

Looking at capital spending, CapEx totaled 3.8 million for the fourth quarter and 29.6 million for all of fiscal 2005. This reflects funding $17.1 million of capital expenditures for our new distribution center in Riverside, California. Construction of this new facility was completed during the fourth quarter at a total cost of 28 million. The balance of our capital expenditures for 2005 was primarily for store related remodeling and new store openings. We reported positive cash flow from operations of 27.2 million for the fiscal 2005 full year. The Company has historically generated healthy free cash flow and we expect that to continue. We plan to use the free cash flow to benefit the Company and our stockholders, for example, by reducing debt and paying our quarterly cash dividend. Our total debt at the end of 2005 was 101.9 million versus 86 million at the end of 2004. This increase in debt was primarily a result of our funding 17.1 million for our new distribution center and 6.3 million in shareholder dividends.

Now, I'll spend a moment on guidance. We expect to realize same-store sales growth in the low to mid single-digit range for the first quarter and full-year fiscal 2006 and earnings per diluted share of $1.23 to $1.33 for the full year.

The Company is not providing guidance for the first quarter due in part to uncertainty regarding the first quarter impact of implementing FASB 123(R), the new accounting rules requiring the expensing of stock options and the application of certain inventory-related accounting methodologies adopted by the Company following the restatement.

As part of its inventory cost capitalization, the Company is required to normalize its cost pools, which is more complex in the first quarter due to the completion of the distribution center transition. Also the accounting methodologies related to inventory can cause reserve requirements to fluctuate between quarters. For example, the new methodologies relating to returned goods inventories can impact quarterly results, while offsetting one another for the full year.

That being said, we can tell you that our first quarter earnings will continue to reflect the substantial costs associated with our transition to the new distribution center, which was completed in March, and significant costs related to completing the 2005 audit and related Sarbanes-Oxley compliance work.

Our full-year earnings guidance reflects the costs associated with the transition to our new distribution center and with our commencement of operations at a substantially larger distributions -- distribution facility, higher than expected audit-related expenses following our restatement and higher interest costs resulting from rising interest rates.

Earnings guidance also reflects the expected impact of our implementation of FASB 123(R) requiring the expensing of stock options as well as the expected impact of a substantially lower benefit from inventory cost capitalization than the Company experienced in fiscal 2005.

Now, I'll turn it -- turn the call back to Steve.

Thank you, Barry. While we are feeling the effect of some of these expenses, it is nice to note that our top line is performing very well. Although our first quarter started softly as we were beat up in the winter categories for the first couple of weeks of January, weather comparisons have improved over the quarter and so too have our sales trends. We now feel we are well positioned to complete the quarter with a same-store sales gain in the low to mid single-digit range.

Operator, we're ready now to turn the call back for questions.

[OPERATOR INSTRUCTIONS] Our first question today comes from Sean McGowan with Harris Nesbitt. Go ahead, sir.

Thank you very much. First, I wanted to ask a quickie. Do you have any handle on what the option expense would have been last year, if it had been taken or any idea of what the full-year option expense would be this year?

Yes, Sean. Of course, the rules for the accounting disclosure required us to disclose that in prior years. And it running about $0.01 a quarter or so in years past. And we will have some grants in the first quarter of this year. So we're expecting an overall expense impact for 2006 roughly in the $0.06 to $0.07 range.

Okay, thank you. Also, could you comment on what impact the calendar shift had on comps in the fourth quarter? If you said that already, I really apologize, but I didn't catch it. Thanks.

Well, the calendar showed the fact that it was not so much a calendar shift as that it as a 13-week quarter in 2005 versus a 14-week quarter in 2004. So --

That's what I meant.

So did you say what effect did it have on comps? I mean we reported our comps on a calendar-to-calendar day basis. So we really factored out that.

So - all right got that. And of the $4 million that you talked about in the quarter as being related to the transition to the new distribution center, can you give us some idea of how much of that you would characterize as not recurring beyond maybe the first quarter? I'm trying to get a handle on what is the result of a transition versus what is the result of now permanently higher costs? Hello?

Yes, Sean --

Yes, that's difficult to precisely quantify what is not recurring. Certainly, there were very direct transition-related expenses of operating the two DCs, of shuttling product from one DC to another, of duplicated rents -- duplicative rents that will not reoccur, extra -- to electrical bills, et cetera.

From a go-forward labor basis -- I mean let's say and put it this way. The 4.5 million represents the cost over '04 DC operating expenses. Much of that goes away. The cost -- day one of operating our new DC in '06, day one as we go forward will be somewhat higher than our costs in -- than the prior year.

And I think the way to think about that is that we didn't build this distribution center as just a cost-saving measure the day that we opened the DC. That would be ideal. But the reality of it is we built this DC because we were -- we outgrew, really a good thing. Our store growth. The fact that our stores are doing more volume base such that our prior DC was -- didn't have the capacity. So we built this new DC to service our needs for a number of years. It would have been nice, but unrealistic, to expect that our operating costs in this new DC would be at record historical low expense-to-sales ratios at day one.

Right. I think that makes perfect sense, Steve. And I don't think anybody would have expected that, but I do think that the cost of the - (A) the cost of building the DC was higher than what was discussed a year ago and the cost of transition seems to have been higher.

And although we can say it's going to be less efficient on day one and gravitate towards a higher efficiency model over time, just trying to get a sense of how much of these costs evaporates simply because you're not running two centers anymore. And that is a number that's also seems to have changed a bit. So that's what I'm trying to get a handle on.

Yes, Sean, just to reiterate what Steve said, the -- that the cost - I mean, certainly, we incurred costs during 2005 fourth quarter and frankly in the third quarter as well that are depreciation related, those kinds of things. And of course, those costs are going to continue.

But clearly, there are other things like labor costs and so on that we can identify as being kind of transition-related costs that will go away. But the overall magnitude of the cost impact for the full year in '06 versus '05, it's still -- we do have a budget, we do have assumptions in there, we are anticipating that the overall costs of the warehousing function in '06 are still going to be slightly higher than what they were in '05. As a percent of sales, we expect them to be down a little bit. But they're still going to be considerable in '06 as we work to improve the efficiency of the overall operation.

Okay. Thanks. Just two other quickies, are there any plans on repaying debt in '06 and what do you expect the tax rate to be for the year?

I look at the tax rate to stay roughly consistent at about 39.4% and I would think that we would plan on paying down debt in '06.

Okay. Thank you.

Thank you.

We go next to Paul Swinand with Stephens, Inc. Go ahead, please.

Hi guys. It's Paul for Rick Nelson again. Well, even though, Rick doesn't actually plan on missing these things, it just happens that way. Real quick, back to the DC, can you maybe breakout what percentage was labor, additional labor? And then I think we're all just trying to get a handle on what is actually going to go away there and when? And then you said the DC is getting more efficient by the day, when is it meeting your plan? When is it up to speed as far as where you need it to be on the ramp to efficiency?

Yes, I may - maybe I'll give you a little sort of historical perspective of the transition and some of the labor issues that we encountered. I mean, initially, when we first started working out of the new DC, our productivity -- we were encouraged by initial views of productivity albeit it was limited product there and limited headcount and a lot of focus and just really trying to ramp up the new systems. But we made a transition from a manual order picking distribution center to an automated center. I mean, basically every operation in the new DC is vastly different from how we were doing in our existing DC.

Initially, we felt, we were very encouraged by our productivity metrics early on in early November. Once the demand - order filling demand picked up, once we needed to add considerable headcount to the new DC, our productivity metrics declined substantially. We had some -- I guess you'd call them the system glitches. I think and probably anybody whose made a transition of this magnitude will probably view as sort of normal, but they definitely slowed our productivity and our order filling metrics fell to probably 55 to 60% of what they were in our old Fontana, our existing DC.

And that really put us behind the curve and created great challenges for us to keep up with the demand. We were highly motivated. The only answer that we knew was to do whatever we could to fill the orders day-by-day to get the product to our stores. We're an ad-driven business. We made commitments and we needed to do anything we could to see that our stores have the product to meet our customers' expectations. Our productivity stayed pretty low in our new DC through December and into January, as we worked through what I'll call learning curve issues. We started to see significant improvements. In February, we returned to probably about 85% or 90% of the productivity levels we were previously hitting in our prior DC. And now over the last couple of weeks, we've -- we are at and exceeding our all-time record levels of order filling productivity.

We're still making improvements. We still got -- people are doing jobs in their sort of second and third week of performing functions. We just this week closed our old DC and now for the first time we've got all of our distribution center management under one roof focused on improving the productivity metrics in all areas. We think we're making good inroads and improvements in order filling productivity. We need to do the same in receiving and stock put away and we're very excited. It's just very -- but it's difficult to accurately or precisely predict at this time how these improvements will rollout over the course of the year. But we think we've been conservative in our planning for this. And we're really excited about seeing what upside there exists.

Okay. Fair enough. And when you say systems, do you mean IT systems or do you mean like the boxes getting held up in the conveyers or the scanners not working on the trucks or kind of a little of everything or--?

It was all brand new. And again, we have -- it's a much more automated distribution center than our previous DC. But the way each order filler picks the stores' orders is very different. And we went from a manual paper-based system to a system where it's all RF devices and basically a paperless system. And there were just some glitches.

We did have some mechanical issues, including a sort of extreme sorter program mechanical problem that happened to occur over the New Year's holiday weekend that basically shut down our production for a couple of days. And it really created a lot of headaches for us. But to the credit of our team, we just gutted through it and did what it took, and we're now very caught up and I think doing a great job of filling some of our store orders now.

Okay. Fair enough. On the audit costs, is this new costs associated or is this just kind of the run rate from people that you added last year?

Paul, this is -- really this is kind of left over kind of remnants from our restatement. So we are incurring significant costs this year from an audit perspective just because it's so fresh from a restatement from last year. And also, because we were working so hard all of last year to get beyond the restatement, we had to concentrate all of our Sarbanes-Oxley work really in the fourth quarter of this year. And, anyway, so that's clearly impacting us in the fourth quarter of this year and also in the first quarter of 2006.

And really those costs, I think, in public companies are just going up in general. So where we may have had a run rate of X in 2003, that run rate going forward is probably going to be kind of X times two or something. And so we do expect to have a lower cost clearly in 2006 related to the audit and Sarbanes-Oxley work. But it's still going to be substantial.

At percentage -- I mean, you said times two that sounds really high. If it's lower you would just say times 0.8 or --?

Well, I think that in our costs as we indicated for the current year, I mean, costs for 2005 are close to $7 million. And those costs for example next year, we look to shave off, hopefully a couple million off of that number.

Okay. Fair enough. And I guess one more question is. It seems like with all this stuff going on, I know you guys have said in the past that you've been able to focus on the business, but hasn't this affected the comps and the team is focus on core operations of actually selling stuff at retail?

Well. I think --

That could have been better, if you didn't have all this going on?

No question. I mean, I think, we've done a pretty remarkable job. And got to credit our team for the fact that, we still went down a solid -- reasonably solid fourth quarter, it was a little less than our expectations, and quite frankly that was pre-attributable to a loss of winter sales. I think the loss of winter business cost us a couple of hundred basis points in our comps. But that being said, no question we missed some sales as a result of this transition.

I think our team did an absolutely remarkable job to minimize the disruption of the product flow, but they're absolutely was a disruption. And it's impossible quite frankly to quantify that in the fourth quarter. Same in the first quarter. We're pleased and I think our way to posting a pretty solid number for Q1. But unquestionably we lost -- we did lose some business. And I guess for us, the good news is that it wasn't more. And given just the magnitude and the enormity of this distribution transition, it way very well could have been were it not for -- some pretty outstanding efforts by our team.

We go next to Mitch Kaiser with Piper Jaffray. Go ahead, please.

Good afternoon, guys. I was curious, first of all, Barry could you just give us a sense for where -- at interest expense will be for '06? And also depreciation and amortization if you wouldn't mind?

Yes. I mean our interest, Mitch is, it is forecasted to go up fairly dramatically, and -- but it's really - it's interest rates really is what we're anticipating. We're anticipating interest rates to go up, a couple hundred basis points. And that's going to have the effect of increasing interest a couple of basis points over where it was in 2005, we believe.

I'm sorry, when you say a couple basis points, so is it 7 million, 8 million or what you are you looking for?

Yes. We're looking at something in the neighborhood of about $8 million or so.

Okay. And then for depreciation and amortization, I was just curious what we should be thinking about there? Obviously it's going to go up fair amount with the new stores and also the new distribution center.

Right. Again the - we're looking at and actually keeping depreciation consistent on overall percent of sales. But -- something in the $16 million to $17 million range or so.

Okay, sounds good. And then also the -- in the fourth quarter was, were all of the distribution center transition costs and costs of goods sold surcharge?

There are some distribution transition costs in the depreciation and amortization as well.

Okay.

So there can be - I mean, we've got all of our warehouse costs that are in the gross margin, and then -- but the depreciation is actually separated because if you look at our income statement, of course, we break that out separately.

Okay. That sounds good. Again, and then, as you think to '06, so I think if I calculate that right, product margins would be in essence, reasonably flat year-over-year between the fourth quarter of '05 and the fourth quarter of '04. Is that accurate?

Our product margins were up 10 basis points.

Okay. And I guess what would your expectation for that be for 2006 then?

We're -- we would think for product margins over the year flat, I think, from just being conservative in our budgeting approach. We're feeling a little pressure in the -- we'll see a little pressure in the first quarter on margins, given how the winter business has rolled out over the first quarter.

Because as I mentioned our -- starting in January, we got beat up in the winter categories. Our winter business has improved considerably from, say, mid-third -- second, third week of January to-date. But as you later in the year where the winter business has calm or there is more discount in the category, and that has some negative impact on our margins for the first quarter.

Okay. I guess what I'm -- ultimately, trying to get at it's guidance, I mean, you got the numbers that you've put out are quite a bit below what people's expectations were. And I guess -- part of that is explained by the distribution center, and part of it explained by SG&A and then, obviously, the stock option expense. But it sounds like it it's going to be a combination of the hit gross margins. But then also from higher SG&A costs related to Sarbanes.

I think -- I mean I think you're hitting on most of the facts. But I think the big factor, probably, in some models may be the distribution center expense. And go back to what I said about it not being a cost-saving measure. The day we opened the building there first. But certainly, we got the S-Ox and the audit expense, the interest expense and stock options would be principally what you're looking at. The costs capital capitalization, Barry?.

Right. And we also -- in 2005, of course, with the ramp-up in our costs, we did have a ramp up in -- in an offsetting benefit from inventory costs capitalization. As your cost pools ramp up, we were able to capitalize some of those costs into inventory. But the benefit, as our costs level off into 2006, we're not going to be able to realize the -- kind of, of the same benefit. On the -- but on the flip side, we're going to have the ramp up in the costs either, we're going to have more of a steady in a, kind of, effect for the inventory costs gap on an overall annual basis.

Okay. I understand. Thank you very much. Good luck.

Thank you.

We'll go next to Anthony Lebiedzinski with Sidoti and Company. Go ahead, sir.

Good afternoon. A couple of questions. I was hoping that you could, perhaps, quantify the impact of the distribution center-related expenses in the first quarter. Is that something that you could - you'd be willing to share with us?

Anthony, we really can't --we hadn't expected to provide guidance here for the first quarter, for the -- for the reasons that we, kind of, indicated in the release. It's -- there is about the impact of FAS 123R and also our inventory reserve methodologies. Some of -- the way these things are calculated, you can actually have fluctuations in your reserves in the quarters and had then, kind of, level off for the full year. And so that's a concerned for us in the first quarter, particularly when that's the one quarter where we're experiencing the final significant costs related to the transition.

Right. My question was really in regards to the direct expenses that you anticipate from the transition to this new DC?

Right. And that's right. And we are -- those costs are impacting our first quarter, and because of some of the uncertainties around the complexities of the inventory cost capitalization, that kind of thing, we have to what we call normalize our cost pools, and there are some complexities involved in that. And therefore, we are not giving first quarter guidance. And the amount net-net of the impact on the bottom line is determinant -- is determined to some degree by that inventory cost cap.

So, for example, if your overall costs for the quarter -- pick a number -- a couple of million dollars. And then you have the cost cap, I mean, could be 0.5 million. And so it can fluctuate pretty good. So we're just not at this point in a position to give guidance here specifically for the first quarter.

Okay. And then will you be providing quarterly guidance in future periods after you get done with this -- after the first quarter or are you just sticking to just providing annual guidance from now on?

No. I think we'd certainly like to get back to providing quarterly guidance. I think that just makes sense for us. I don't want to commit to being able to give quarterly guidance at the end of our first quarter. If we're prepared to, we certainly will.

Okay. Fair enough. And has the board thought about, perhaps, they want to share buyback at this levels here where the stock is?

Well, one of the issues that we face is that the -- given that this call is occurring -- this release of earning is occurring so close to the end of the quarter, we are restricted by our trading window from actually executing a share repurchase at this time. So it's something that we will look at and discuss going forward, but it's not something that can be put into action as we speak.

And what is your expectation for Capital expenditures in 2006?

Anthony, we're expecting something in the $13 million to $14 million range.

Okay. Thank you very much.

Thank you.

we'll go next to Brian Nagel with UBS. Go ahead please.

Hi, good afternoon.

Hi Brain.

I don't want to beat a dead horse here, but I look at your release, and the guidance you provided for 2006 is substantially --

Brain, can you speak a little louder?

Yes. I'm sorry. I don't want to beat a dead horse here but the guidance you -- look at your release. The guidance guys provides for 2006 is substantially below expectations the consensus expectations. And I think as I look at my model. I'm just trying to square up with my numbers you gave and the numbers that I have and others have on an operating basis. So could you be a little clear as to exactly as you look at a $23 million to $33 million how much of that or what impact is [so to speak] one time factors having on your outlook for 2006, whether they relate to distribution centers or other issues?

Yes, Brian, even though some of the expenses of last year will go away, such as the direct DC transition expenses and the legal and audit fees related to the restatement, we're still facing higher expenses this year. The -- our new DC is obviously more costly at the outset as we work to become more efficient and leverage those expenses and we'll certainly do that over the balance of this year and into the following years.

Our audit expenses are higher than normal following the restatement. We certainly are being impacted by higher interest costs. We're going to have to face the costs associated with expensing the stock options. We've got higher fuel costs. The effect of not having the benefit in '05 of the inventory cost capitalization on a comparative basis kind of impacts the comparison.

However, we're also not having the same level of distribution center costs. So -- some of the new items of course are interest, are stock option expense, and frankly, just a higher cost at least for '06 of the overall distribution center. And that -- until we can work through that and really understand the ultimate run rate once we factor in the efficiencies, that is just going to be a higher cost for us. And so we're of course looking carefully at all of our expenses and trying to do whatever we can to control our costs and to leverage our store expenses and things like that.

Okay. The second question I have relates to the demand trends here in the first quarter. You guys mentioned the impact of the warmer temperatures on your winter weather related products. It is -- what kind of markdown risks could we assume as we go in -- as we enter the first quarter and go into the second quarter of some of this winter weather merchandise?

Really none. I mean our sell-through in winter product is -- we're pretty excited by. We're actually going to come out of this winter season, we believe, at or possibly -- probably I think below levels of inventory [winter product] we had a year ago where we were able to -- we did bring in follow-up product in the first quarter, given how poor the season began for us. And as I mentioned our winter business -- the first quarter will not be a bad quarter as a whole for our winter business. It just came relatively late. And we're selling it at, what I'll call, below ideal winter product margins. But in terms of coming out with a comparatively clean inventory in winter product, we feel great about that.

Okay. Then a final question related to that, just kind of the other side of it. Warmer weather has probably helped to drive some demand here in the first quarter. Is there any way to determine the -- well first off, if we could kind of talk about how much of that may be? And the second, is that -- is that incremental demand do you think or is it potentially pulling some demand away from subsequent weeks and months here?

Again, I'm not sure for the quarter as a whole. But if you take the quarter as a whole that we had necessarily warmer weather, I mean we were in a number of different geographical regions in our Company. So we had some warmer weather in some markets, cooler weather in other markets. That's more of the timing of how the weather rolled out. So we've had some pretty strong performance of the number of categories. And I think itd be splitting hair at this point in time to try to figure out if there is shifting from one period to another.

That's fair. Okay. Thank you very much and good luck for the quarter.

You're welcome.

We go now to Jason West with Deutsche Bank. Go ahead please.

Yes, I just want you guys to talk a little bit about just the overall health of your customer. Aside from the weather issues, are you seeing any sort of demand issues related to gas prices or how the traffic looked these days and just if you talk genuinely about that?

Yes, we're pleased with our top line. Our top line is -- as we said, we're well on our way to establishing our 41st consecutive quarter of positive comp store sales, and we're obviously pleased from that standpoint. So I don't know beyond that, that I can speak to the health of our customer. But we're seeing them in our stores.

Okay. So basically the only thing that's been a little soft I guess is the weather-related stuff. Outside of that, you feel very good about the business?

I mean the fourth quarter -- again, we're disappointed with our 1.5 comp store sales increase in the fourth quarter. But I mean to us there was a very clear and logical impact from the winter product. And -- yes, you hate. In retail you hate talking about whether, but the reality of it is it does influence our sales and particularly during the winter selling season. And we had a very poor weather comparisons in California, particularly Southern California, and in the Southwest, over the fourth quarter and that had a very measurable impact on sales results. Aside from that, our performance across categories was pretty darn solid.

Okay. And can you talk a little about maybe some of the other expenses like benefits and employee -- store employee labor costs? Is anything going on there that's causing some pressure?

Jason, on an overall -- looking at the fourth quarter, for example, you know our overall stores expense as a percent of sales actually declined about 20 basis points. So we were pleased with that. And -- so I think that we are certainly focused clearly on expense management. And looking at -- into next year, we are looking to be able to leverage our expenses -- our store expenses going into next year and focus pretty carefully on our overall salaries and benefit costs and really kind of in every area.

Okay. So overall, that's not been an area of concern?

It's --

It's an area of focus, but I mean we don't think that's the issue with our perceived shortfall in our guidance.

Okay. Thanks a lot.

We go now to John Shanley with Susquehanna Financial Group. Go ahead, please.

Thanks and good afternoon. Most of my questions have been answered, but I've got a couple of quick ones. First of all, in terms of the new store openings, the 20 stores, Steve, we're going into existing markets with back-selling or are there any new markets that you've got to be entering this year?

Right now, our plans call for us to remain within our 10 states footprint. As we do this -- we are always looking at the contiguous markets, but I would expect at this time that we will likely remain within the 10 states we presently operate in.

And you had mentioned that you're making some strategic buys in terms of promotional merchandise. A lot of the vendors that we follow basically, are telling us that inventory level at the brand side is squeaky clean. Are you likely to shift at all in terms of the percentage of promotional merchandise that you have in your stores beyond the first quarter? Or are you going basically, still maintain pretty much the normal mix between promotional and regular merchandise in all three of your big categories?

We think things are going to be remain reasonably static. We're still seeing opportunistic buys, across our desk pretty on regular basis. And we feel reasonably good in that regard.

Okay. Fair enough. And do you see any change in fiscal '06 between the breakdown between footwear apparel and hard lines or is it going to be pretty much the same as it was in '05?

I -- we don't see, other than sort of how weather influence is the categories -- I look at category breakdown over the last year and each of our three major categories had quarters that they were our top performing categories, and quarters that they were weakest performing categories and I think that basically is a result of in the long haul our consistency in our operations and perhaps, the short-term influence that weather may have more on the apparel side that seems to jump from quarter-to-quarter. But I don't see anything that's dramatically shifting our total mix.

Okay. Fair enough. Thanks a lot.

Thank you John.

We go now to Jeff Sonnek with Friedman Billings Ramsey. Go ahead please.

Good afternoon. I'd like to get back to the gross margin issue. I just want to clarify one thing. I think, Steve, you mentioned that in an earlier question that the first quarter you expected some pressure due to kind of some markdowns you may take really to the winter business and then kind of flattish for the year. But then Barry mentioned that, I mean, clearly first quarter we're going to see some more incremental DC transition costs. That -- given happened in fiscal '05 that would imply a positive affect relative to this inventory cost capitalization, and won't that be a benefit for first quarter?

Let me say, when I was talking about margins, I was talking about points of sale product margins.

Okay --

Let me clarify that.

Okay. So that's clear but then relative to this inventory cost cap, that would be a benefit to 1Q and then for the balance of the year, and I guess, it would just kind of be a wash.?

Jeff, you got to have kind of both hands in the equations. So on the one hand, if you're going to have the inventory cost cap, but on the other hand, you're going to have a pretty substantial ramp-up of the transition costs in the first quarter. So net margins are going to be clearly pressured in the first quarter because of the substantial additional costs for the transition in that first quarter.

Yes. But just excluding whatever that dollar amount what ever it ends up being, just focusing on this cost cap alone, just isolating that one effect, if you will.

Yes. You will have a benefit clearly in the first quarter because of the added costs --

Right.

-- and then that will certainly turn around in the balance -- for the balance of the year. Because if you end up with a benefit in the first quarter, you're going to turn around in the back half of the year pretty significantly. Because overall, on a comparative basis in '06 versus '05 the inventory cost cap is going to be down dramatically.

Okay. Thank you. That's all I had.

Our last question today comes from Mitch Kaiser of Piper Jaffray. Go ahead please. Mr. Kaiser you're line is open.

I'm sorry. I had one more question. I was wondering could you just refresh us what is the store capacity for the new distribution center? And then, I guess the question is when do you think you will start to optimize the distribution center?

Well, we'll start to optimize it today and tomorrow --

Okay.

-- and we think we have been. I mean, in terms of the ultimate capacity, I think it's probably premature to give a precise number of stores. We think this is going to service our needs comfortably for 8 plus - 8,10 years, and a considerable amount of store growth. And certainly that's the nice thing -- that as we're able to rollout more stores, lots of the fixed costs are going to be reasonably taken care of from a distribution standpoint. And we look forward to benefiting from improved operating efficiencies. So we think there's a good story to be played out in terms of our distribution center leverage over the next several plus years.

Okay. So I guess this might be a simplistic analysis, but if you were to open, kind of, do the similar 20 stores per year, you'd say 8 to 10 years, that means that you're roughly 50 -- roughly 500 stores you'd be at over that time period? So if the capacity is close to 500, does that mean that you're at 60% utilization or 70% utilization?

Well, I mean, I guess from that standpoint, yes, that's reasonably logical. I mean we've got -- we haven't racked - we've racked much of the DC. There are some of our DCs that we haven't racked. I mean that'll probably be our only expense by major capital expenditure somewhere in the future, and not -- I mean, compared to what we've been through -- not overly materially. But yes, we're certainly not utilizing every nook and cranny of the new DC.

Okay. All right. Thank you, guys.

At this time, I'd like to turn the conference back to over to Mr. Steve Miller for additional or closing comments.

All right. Well, we thank you for very much for your interest and participation. And we look forward to speaking to you again shortly. Thank you very much.

That does conclude our conference call for today. Again, we do appreciate your participation. You may disconnect at this time.