Big 5 Sporting Goods Corp (BGFV) 2006 Q2 法說會逐字稿

Good afternoon, ladies and gentlemen, and thank you for standing by. Welcome to the Big 5 Sporting Goods' second quarter 2006 earnings results conference call.

[OPERATOR INSTRUCTIONS]

With us today we have Steve Miller, President and CEO, and Mr. Barry Emerson, Chief Financial Officer.

At this time, I'd like to turn the conference over to Mr. Miller. Please go ahead, sir.

Thank you.

Good afternoon, everyone, and welcome to our fiscal 2006 second quarter conference call. Today we will review our financial results for the second quarter of 2006, provide general updates on our business 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 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 annual report on Form 10K for fiscal 2005, our quarterly report on Form 10Q for the first quarter of fiscal 2006, 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.

Thank you, Barry.

We are pleased to report a strong performance for our second quarter. Solid comp store sales, product margin improvements and expense savings at the store level enabled us to post bottom line results ahead of last year and above our guidance. Positive trends have continued into the third quarter and we feel well positioned for another solid sales performance.

Now to comment on our second quarter. For the quarter, we rang the register to the tune of $211.8 million, up 6.9% from sales of $198.1 million in the second quarter of 2005. Our same-store sales increased 2.9% for the second quarter. We've now enjoyed 42 consecutive quarters of positive comp store comparisons.

Our sales gains were driven by a combination of increased customer traffic and a higher average transaction size. The quarter started softly due to heavier than normal rains in many of our markets and the fact that the Easter holiday, when our stores are closed, fell into the second quarter this year as opposed to the first quarter in the prior year.

Our business trends improved following Easter as weather normalized. We got a nice bump over the back half of the quarter as we enjoyed an earlier arrival of warm summer weather in many of our markets.

Looking at merchandise, we comped positively in each of our major merchandise categories, footwear, hard goods and apparel. Footwear and hard goods were each up in the low single-digit range and our apparel sales were very strong, showing a high single-digit increase for the quarter. Our strength in apparel was driven by strong sales of summer wear, particularly over the back half of the quarter.

Our product margins increased 20 basis points versus the same quarter of last year. Our performance was strong across the board as we realized product margin gains in each of our major merchandise categories. The strength of our sales combined with other factors allowed us to achieve nice leverage in our SG&A expenses for the quarter. Barry will talk to that along with gross margins in a moment.

Before he does that, I will provide you with a brief update on our new distribution center and our store opening schedule. We have now completed roughly four months of operating exclusively out of our new distribution center located in Riverside, California.

We are gaining valuable experience in operating out of this new facility and utilizing a new warehouse management system and we are seeing a positive impact at the store level already. Improved efficiencies and product pricing and check-in have allowed us to reduce store labor cost as product is now arriving at our stores pre-ticketed. Our store product fulfillment is more accurate than ever before.

We fully expect to continue to make additional improvements in our efficiencies at the new facility and to be able to leverage this DC positively from where we are today for a number of years.

On to store openings. We opened three new stores in Santa Ana, California, Marysville, Washington and Alamogordo, New Mexico during the second quarter. That brought us to 329 stores as of quarter end.

We expect to open five stores before--additional stores before the end of the third quarter, one each in California, Arizona, Washington, Nevada and New Mexico. We are on track to open 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 as well as speak to our balance sheet, our capital expenditures, our cash flows and provide guidance.

Thanks, Steve.

Our gross profit margin for the second quarter was 36.2% of sales compared to 36.6% of sales for the second quarter of 2005. Gross profit was adversely impacted by an increase of 2.2 million in distribution center costs over the prior year, which were primarily due to the commencement of operations at our new distribution center and increased trucking expenses partially reflecting higher fuel prices.

Gross profit for the second quarter of this year included a 0.4 million increase of distribution center costs capitalized into inventory. And gross profit for the second quarter of last year included an insurance reimbursement of 0.4 million related to flood damage at one of our stores.

Our SG&A expenses as a percentage of sales improved to 27.7% in the second quarter from 29.0% in the second quarter of the prior year. The year-over-year improvement in SG&A was primarily driven by a 1.4 million decrease in legal and audit fees during the second quarter due to additional expense in the prior year related to the Company's restatement of prior-period financials.

SG&A expense also was favorably impacted by the recording of co-op advertising cost reimbursements from vendors for fiscal 2006 earlier in the year. A reduction in Workers' Compensation reserves and our receipt of proceeds as a participant in a class action settlement relating to credit card fees.

Additionally, distribution center operations at our new facility created improved efficiencies for our stores in product pricing and check-in, which allowed the Company to realize labor cost savings at the store level. These positive factors were partially offset by an increase in our provision for public liability claims.

Together with our positive sales, these factors allowed us to leverage store-related expenses which declined 40 basis points as a percentage of sales and advertising expenses which declined 50 basis points as a percentage of sales during the second quarter.

Depreciation and amortization expense increased 0.5 million for the second quarter primarily due to the commencement of operations at our new distribution center and also reflecting an increase in store count to 329 stores at the end of the second quarter this year from 311 stores at the end of the second quarter last year.

Interest expense for the second quarter increased 0.6 million over the prior year reflecting rising interest rates and higher average debt levels. Looking at our bottom line, net income for the second quarter was $7.4 million or $0.33 per diluted share including a $0.02 charge for the expensing of stock options versus net income in the second quarter of 2005 of $6.1 million or $0.27 per diluted share.

Briefly reviewing our year-to-date results, sales rose 7.9% during the first half of fiscal 2006 to 419 million from 388.2 million in the same period last year. Same-store sales increased 4.1% in this year's first half versus the same period last year.

Net income for the first 26 weeks of fiscal 2006 increased to $13.4 million or $0.59 per diluted share from net income of $12.6 million or $0.55 per diluted share in the same period last year. Results for the first half of fiscal 2006 include pre-tax charges totaling $1.1 million or $0.03 per diluted share for the expensing of stock options.

Now turning to our balance sheet. Total chain inventories amounted to 245.6 million at the end of the second quarter of fiscal 2006, up 25.3 million from 220.3 million at the end of the second quarter of fiscal 2005. Inventories this year include additional 6.2 million of distribution center costs capitalized into inventory over the prior year.

Excluding capitalized costs, our inventories on a per-store basis are up less than 3% compared with last year. We feel our inventory is well positioned to support our sales growth.

Looking at our capital spending, CapEx excluding non-cash acquisitions, totaled 5.2 million for the first six months of fiscal 2006. We expect capital expenditures for the second half of fiscal 2006, excluding non-cash acquisitions, to range from 9 to 10 million primarily to fund opening of approximately 15 new stores, store-related remodeling, distribution center and corporate office improvements and computer hardware and software purchases.

We reported a 1 million use of cash from operations for the first half of fiscal 2006 primarily to fund the seasonal increase in working capital. The Company has typically generated healthy free cash flow in the past and we look forward to that continuing. We plan to use our free cash flow to benefit the Company and our stockholders. For example, by reducing debt, paying our quarterly cash dividend, and, if appropriate, repurchasing stock.

Our total debt at the end of the second quarter was 109.6 million versus 107.1 million as of the end of the second quarter of fiscal 2005. We were able to minimize increases in our overall debt levels despite opening 18 new stores and funding nearly 8 million for our new distribution center and 7 million in shareholder dividends.

During the second quarter, we used borrowings under our revolving line of credit to prepay $5 million of higher interest term-loan debt. $We also amended our existing financing agreement to, among other things, increase our line of credit to 175 million and extend the initial termination date to March 2011.

Now I'll spend a moment on guidance. We expect to realize same-store sales growth in the low to mid-single digit range and earnings per diluted share in the range of $0.32 to $0.36 for the third quarter of fiscal 2006.

Third-quarter earnings guidance includes a charge of approximately $0.02 per diluted share for the expensing of stock options. For the full year, we expect same-store sales growth in the low to mid-single digit range and earnings per diluted share in the range of $1.26 to $1.33. Full-year earnings guidance includes a charge of approximately $0.06 per diluted share for the expensing of stock options.

Our third quarter and full-year guidance reflects significantly higher trucking expenses resulting in part from higher fuel prices, higher distribution expenses in connection with the operation of a substantially larger facility and higher interest costs resulting from rising interest rates.

Third-quarter earnings guidance reflects the favorable impact of the recording of co-op advertising cost reimbursements from vendors for fiscal 2006 earlier in the year partially offset by the expected impact of a significantly lower benefit from inventory cost capitalization than we experienced in 2005.

Now I'd like to turn the call back to Steve.

Thank you, Barry.

Before I turn it over to the operator for questions, I'd like to briefly remark about our third-quarter sales trends to date. I am pleased to say that our sales are off to a nice start in the third quarter.

We continue to comp positively in each of our major merchandise categories and for the most part the warm summer weather that we enjoyed in many of our markets over the back half of the second quarter has continued into the third quarter. We believe that we are well positioned from a product standpoint to maintain these trends for the balance of the quarter and year.

Operator, we are now ready to open it up for Q & A.

[OPERATOR INSTRUCTIONS]

And we'll go first to Brian Nagel with UBS

Hi. Congratulations on a good Q2 report.

Thank you.

A couple questions. First off, you guys highlighted in your press release in the gross margin side the $2.2 million of distribution center costs. As we're modeling to Q3, Q4, should that stay about the same?

Brian, the Q3 to Q4 recall, this is Barry, recall that the transition costs--when we started transitioning to the new facility in last year. Those costs began to ramp-up in significantly in the third and then even higher in the fourth quarter.

So what I would say--what I would say to you is that the--the cost that we are incurring today, at the distribution center, are relatively constant so we've kind of reached kind of where we expect to be from an overall cost standpoint.

But the costs compared to the prior year is going--we are--our costs--we are clearly ramping up in the second quarter of last year and we do expect our costs to be up higher in--we expect our costs to be up higher in the third quarter of this year versus the same period last year even though we were incurring these higher transition costs in last year.

So to put it in perspective, for example, the costs last year for Q3 in terms of total warehousing costs, were roughly 4.5% of sales or so. In the third quarter of this year, we expect them to be up somewhere 20 to 40 basis points or so.

Okay. That's helpful.

And the second question. You guys had--again you had a good sales results here. As you look at your traffic patterns and your stores and the buying patterns in your customers have you seen any impact of higher gas prices in your business?

Brian, we--I guess based on the trends and our--what we hear at the cash registers, our business is very solid. So we'd like to believe that the convenience of our store locations is a plus for us.

I mean we can put our stores maybe close to our customers, but we don't poll our customers really as to how the gas prices are affecting them, we're just very pleased that they are spending money in our stores.

Very well. Congratulations and good luck with Q3.

Thank you.

And our next question will come from Jason West with Deutsche Bank.

Can you tell me a little bit about traffic versus ticket in the quarter?

Yes. We saw increases in both traffic and ticket.

Okay. Sort of the 50/50 there or one weighted one way or the other?

Probably I think slightly more ticket than traffic if we were to try to fine tune it. But --

Okay.

Nice numbers.

Okay. And then on the vendor co-op issue, can you explain a little bit about what's going on there and maybe help us try to quantify the impact in the second and third quarter numbers and sort of what that means for the fourth quarter?

Sure. The co-op advertising cost reimbursements from vendors were recorded earlier this year for fiscal 2006 to better match our actual advertising costs during the year without co-op reimbursements. This benefited the first three quarters--it will benefit the first three quarters of this year but will reverse itself in the fourth quarter of this year.

In terms of magnitude, the overall--the overall co-op advertising effect could be roughly $0.05 or so in the fourth quarter. But I just want to make sure it's clear that our overall co-op advertising cost reimbursements for the full year of 2006 is expected to be comparable to 2005. It's just a question of better matching the reimbursements with the costs incurred throughout the year.

Okay. So the year to date--or through the first three quarters it would be spread around that $0.05, you would say?

That's true.

Okay. And why did you guys decide to change the timing of some of your advertising? It sounds like is what's happened here.

Really what we've done is, Jason, is just do a better job, we feel, of matching the cost versus the reimbursement. We have--we clearly incur an awful lot of our costs in the fourth quarter. Considerably higher than we would in any other quarter.

But truly those costs are really spread out throughout the year. And it's really a--we feel it's a better accounting to match the--a portion of the co-op reimbursements with the costs incurred throughout the year.

Okay. So you haven't really changed the timing of the spend, it's more of an accounting change.

Yes. It's just matching the reimbursements with the--with the cost. The answer is yes.

Okay. Thanks a lot.

And we'll go now to Mitch Kaiser with Piper Jaffray.

Good afternoon, guys. Congratulations on a nice quarter.

Thank you.

I was wondering just to follow up on that. You said a $0.05 hit to the fourth quarter on co-op reimbursements. That's $0.05 after tax?

That's right.

And that would show up in SG&A, or is that part SG&A, part COGs?

No. It's really all SG&A.

All SG&A. Okay. Thanks.

And then you talked about some impact on trucking DC and interest expense. I think if we were to factor those, which would--how would you rank those, I guess, in terms of negative impacts on the third quarter?

The--you say negative impacts. Okay. Trucking --

Yeah, trucking.

Trucking--

--it's included in DC.

Yes, it's important to understand that our trucking costs is included in our DC cost.

Right.

So now, the trucking, it is--I mean the DC cost, as I mentioned--depending on how you're modeling. I mean, our DC costs are more or less stabilized at this point in time here. I mean there's slight fluctuations as we improve efficiencies, etc.

But our trucking costs is clearly impacted by the growth of the business, it's impacted by gas prices, that kind of thing. So I mean--we do expect our costs on the trucking side to continue to edge up a little bit. Certainly just with the growth of the business. And who knows what gas prices are going to continue to do.

As far as interest goes, interest is impacting us year-over-year clearly. It's impacting us to the tune of 0.5 million a year in--kind of thing by quarter--or I'm sorry, 0.5 million per quarter.

So that--we expect that to continue to hurt us on a comparative basis, although we did pay down some higher priced debt during the second quarter, which we hopefully will--we will realize some savings on going forward.

Okay. And then just a follow-up. I don't know if--I didn't see it in the press release. Did you buy back stock in the quarter?

No. We did not repurchase any shares during the second quarter.

Okay. Were not able to at that point or--from a cash perspective?

No. That was--as you may recall, following our last quarterly announcement, our stock traded up quite positively by the time the stock moved to areas where we might have considered the share repurchase, our trading window had closed. Our trading window will be reopening shortly and we're certainly going to revisit the issue at that time.

Okay. So--just so I'm clear on that. The window goes from when to when, Steve? Is it--

The window opens the two days following our release of earnings and closes one month prior to the end of the quarter.

Okay. Thank you.

You're welcome.

And we'll go now to Sean McGowan, BMO Capital Markets.

Hi. Thank you. Two questions.

One, any commentary, Steve, about geographic performance, is there anything that stood out there that was different from your expectations?

We--what I will say is that we comped positively in each of the ten states in which we operated so we saw great strength across all our markets.

Okay. That's what I was looking for. And then second kind of a general question about maybe a category that might be important for you down the road.

There's been a lot said and a lot that's going on in the industry with these performance apparel and the amount of business that other retailers are doing and that, and how important is that category for you yet? Is it at all? What do you see down the road in that category?

We're in the performance apparel business. I think we, like most in the business have benefited from the growth in the category.

Are you seeing any tertiary players coming into that with discounted products?

We don't typically comment on our specific product and where our business is coming from.

Okay. Thank you.

And now we'll go to Rick Nelson with Stephens.

Thank you and good afternoon.

Hi, Rick.

Steve or Barry I've got a question on guidance. Third--the second quarter you beat the number by $0.08 at the mid-point. I'm curious why the full-year guidance did not come up to that extent?

Yeah, Rick. I mean, the guidance we've provided, it's a range.

We certainly believe that if the business trends continue on the track that they've been on certainly for the better part of the year that our full-year earnings would--that we would expect it and anticipate it to come in certainly toward the high-end of the range and obviously hopefully exceed the range.

We're very pleased with our sales trends so far but clearly there's lots of business ahead. The macro-retail environment remains challenging.

Any comments on the overall promotional environment at this point?

It seems reasonably stable, consistent, nothing that we see as way out of the ordinary.

Okay. And then, Barry, if you achieve these earnings targets, where do you say that that levels at the end of the year?

Well, Rick, we clearly expect to be able to pay down debt this year and the thing about the Company's cash flow, as you know, is the cash flow that we get of course is predominantly in the fourth quarter and so we look to pay down debt.

We want to--we'll look at the best use of the cash at the time. We'll evaluate interest rates, we'll evaluate the stock price, and then we'll try and make the best decision for the Company here. But we do expect that levels to be down at the end of the fourth quarter.

Okay. Thank you.

Sure.

John Shanley with Susquehanna Financial.

Steve, you mentioned during your presentation that apparel was particularly strong in the quarter. Can you give us an indication whether or not the apparel margins were higher than what you attained from either footwear or hardlines and do you think that's something that was a--contributed to your earnings results in the quarter?

Typically apparel margins of our three categories are our higher margins, so that would be--that would be consistent.

So it was higher in the quarter?

I mean we mentioned, we had margin improvement in each of our three major categories, so all of footwear, hard goods and apparel margins improved over the prior year, apparel margins are--from a margin standpoint of the three categories are typically higher than the other--than the other categories. So --

That's fine. That's what I wanted to know.

Obviously we got a bag from that being our strongest performing category from a sales standpoint.

Sure, sure. And can you give us an indication of the availability of either vendor closeouts or promotional merchandise? Is that aiding you right now and is that likely to be something that's going to stimulate sales activity in the back half?

I think the opportunistic buying arena's been pretty stable, reasonably positive. We would expect that to be a plus for us going forward.

Is there more product available now than there was at this time last year?

It seems to me like we had product available last year. I mean I'm not sure that we've got sort of a precise measurement on that but it seems pretty healthy to us.

Okay. And the last question on merchandising. Are you moving price points up to any degree, or are you staying pretty much where Big 5 has always had a position in the marketplace?

We're not making any major strategic changes to our pricing philosophies.

Your ASPs are pretty much in alignment with where they had been?

I think there's sort of a gradual movement. There's some inflationary pressure that drives price points but I mean we're not making any strategic or philosophical moves to our business.

Okay. And the last question I have, Barry, you mentioned share buybacks. You didn't do any in the quarter. What is your current authorization in the buybacks?

15--$15 million.

$15 million. Okay. Thanks a lot. Appreciate it.

And our next question comes from Nancy Hoch with JP Morgan.

Congratulations on the great quarter. Barry, did you quantify the credit card settlement in the quarter or could you quantify it?

Yes, we did, Nancy. The credit card settlement was roughly 0.7 million or so.

Okay. Great. And then another question sticking with expenses.

You changed your Workers' Comp reserve in the quarter. With your new DC, given it's automated with fewer touches, have you been experiencing a lower injury rate there and have you been able to change your accruals yet at all?

The Company's overall experienced an improved loss rate. And that's been going on now for a year or so.

Uh-huh.

So--and we expect it to only get better with the automation at the DC.

Okay. Great. And then one question on the debt. How much is left on the term loan now?

About 8 million.

Okay, and is your plan still to try and retire that by year end?

Well, that's--we haven't committed to doing that, Nancy. We're just going to look at the best use of cash here in the third and fourth quarters?

Okay. And then originally I think you guided to about $8 million of interest expense for the year, has that changed at all with interest rate moves?

We don't see interest rates going down any, so--unfortunately. So, yeah. I mean we're pretty much sticking to our forecast.

Okay. Great. Thank you very much.

Thanks.

Steven Martin with Slater Capital.

We've heard recently that the paint ball category has flattened out and stopped declining. Is that the same in your stores and can you talk about within the equipment category what else may have been up or down?

Steve, for competitive reasons we don't get that specific in terms of category performance. We had strong performance across a broad array of categories. Certainly I will say--our summer-related product we've had nice weather in most of our markets and in summer-related products, be it camping, water sports, outdoor activities have been very positive.

All right. Thank you.

You're welcome.

Our next question comes from Jeff Sonnek with FBR.

Thank you. Barry, can you talk about the inventory cost cap and how that trends or has been trending over the course of the year and you comment about it in the third and fourth quarter more on a year-over-year basis, maybe can you help us just kind of think about that?

Yes, Jeff. That's really important. I'm really glad you asked that question.

Our inventory cost capitalization for the full year of 2006 is actually expected to be comparable to 2005. But the impact on a quarterly basis is supposed--is going to be real different. Recall--let me take you back a little bit.

So as we transitioned to our new distribution center during the third and fourth quarters of last year, our cost pools were increasing and--resulting in an increased benefit of the inventory cost capitalization in those two quarters. As our cost pools have now stabilized here in 2006, following the completion of the transition, the benefit of the inventory cost capitalization for the third and fourth quarters of 2006 will be much lower compared to the same periods last year.

The most significant impact of the change in inventory cost capitalization from 2005 is going to occur in the fourth quarter of 2006 and the effect is expected to be--to unfavorably impact earnings per share in Q4 from a comparison standpoint by approximately $0.03 to $0.04.

Okay. But it's a mild benefit in the third quarter?

It is a mild -- no, no, I'm sorry. In the third quarter on a comparative basis we are still down from a benefit standpoint, from 2005. So we will be hurt on a comparative basis in Q3. It will get much worse in Q4.

Okay. Right.

And then can you talk about a little bit maybe just kind of qualitatively your experience so far, the four months you've been operating this new DC, clearly there's a huge learning curve there. I know you're probably hard at work, trying to figure everything out.

But maybe just some kind of learnings or experiences you can share in kind of how that whole process is ramping up? Is it easier, more difficult than you'd expected?

Oh, geez, I think our--we are certainly pleased with how things are going, our team is doing a great job out there. This has been a big move and a major transition.

We are very proud of the manner in which the team has kept the product flowing to our stores as evidenced by the continuity of our positive sales. Certainly it's not without challenges and we're certainly dealing with them. Like, it's going well out there and it's only going to get better.

I mean DC, I will try and give you a little color. Challenges, from a--we've experienced some greater attrition than we might have thought would be the case. This new DC is roughly 30 miles from the prior DC. I think a number of our team members, associates that initially made the move after driving it for a while and perhaps with rising gas prices we lost some more than we might have anticipated, which has created a churning and--of staff and we've been working to get staffing levels up to appropriate numbers. We think we're pretty close to being where we ought to be.

But that creates additional training and just learning--a lot of new people doing new jobs. And I think it's what is probably customary of--in a move of this magnitude.

Great. Thank you and congratulations.

Thank you.

Jim Chartier with Monness, Crespi, your line is open. Please go ahead.

Thanks. I just wanted to clarify the proceeds of the class action, the 0.7 million, is that pre-tax or after tax?

That's pre-tax, Jim.

Okay. Thanks.

And then on the Workers' Compensation, was that a one-time benefit in second quarter, or should we see a similar savings in third and fourth quarter this year?

No. I'd say that was a one-time benefit, but I'd sure like to hope that we get future benefits here but we're not forecasting those but we are experiencing a lower loss rate and so that's a real positive thing.

Okay. And how much was that in the quarter?

That was about 0.4 million or so.

Great. Thanks a lot.

Sure.

Anthony Lebiedzinski with Sidoti & Co.

Hi. Good afternoon. A couple of questions.

Has your CapEx spending budget gone up a little bit since your last conference call?

Yeah. Anthony, it has gone up a little bit. We're actually adding because of our growth at our distribution center among--in the business overall we are adding some additional infrastructure out there at the DC to be able to handle some of the increased volume, that's contributing.

But -- and that's -- that's adding some to the pie, but I mean it's up maybe a couple million dollars, 1 million to 2 million or so from what we originally said.

Uh-huh. Okay. And then as far as the cash flow, how would you prioritize your usage of cash flow between store openings, share buybacks, debt reduction and dividends?

Oh, I think Anthony, we--I mean the store openings of course--we're pretty consistent there and I think we've been pretty transparent in terms of what we expect to do there. And the other cash flow use is really just evaluated on a real-time basis.

Considering the board's views and so on. But looking at interest rates, looking at stock price and the like and that--we really want to keep that flexibility to be able to do the right thing at the right time.

Uh-huh. Your product margin was up 20 basis points in the quarter, how much further room do you have to expand that?

We certainly feel there's--there's opportunities. I wouldn't put a cap on it, but, this is trends that we've--for the most part enjoyed for a number of years and we don't think we've hit the ceiling.

Okay. Thank you.

And our next question comes from [Scott Greeter] with Scotia Capital.

Great quarter.

Thank you.

I was wondering if you could quickly comment on trends you're seeing kind of specifically based on gender in your footwear and apparel categories?

I know that in apparel we've seen a couple of new specialty retailers kind of enter the sports apparel industry, more so on the women's side and I was wondering if you've noticed any sort of increased competition and generally what you're sort of comments are and sort of the male versus female trends?

Yeah. We haven't noticed any change from historical patterns in terms of anything that I could comment on. I haven't noticed from a competitive standpoint.

Given that we operate 329 stores, I don't know that we've seen any major change--I guess you're saying in our women's business. Our apparel business has been healthy and I will say that it's been both men--men's apparel and women's apparel.

It's--then both are kind of trending in the same direction, not more so than one than the other?

Again, we don't comment. We don't comment beyond how apparel as a whole is going, but certainly no major shifts that I'm aware of or would comment on.

Great. Thanks.

You're welcome.

And we'll take a question now from Jason West with Deutsche Bank.

Hi, guys. Just a couple follow-ups.

One on the inventory. It looked like it may be a tad bit heavy just when you back out the inventory cost capitalization. Is there anywhere that things are a little heavy, or is that just timing or something?

We're really pleased with our inventory. I think it's--there's a slight I'd say inflation factor in our inventory. Up very consistent with the growth and our sales performance, some piece of it could be timing.

I mean I think we benefited. We maybe front loaded a little more summer-related product this year and I think that's paid dividends for us.

Okay. And is there ever a point when this--that $6 million in the inventory that comes and flows back through the income statement at any--I guess I'm trying to figure out if the inventory's going to come back in line with the sales growth as that flows back through the income statement or does that kind of stay in there permanently?

Jason, you're specifically talking about the inventory cost cap element?

Right.

That's going to fluctuate with our cost pools and the other driving factor, which impacts that is our inventory levels as well as our cost of sales levels and therefore inventory turns.

So all things being equal, you're going to see a slight buildup in your cost cap in the first quarter, second quarter, and third quarter and then with the volume that we experience in the fourth quarter our inventory turns ratchet up and therefore the cost that is capitalized in the inventory will drop in the fourth quarter.

Uh-huh.

Okay. And that's in a normalized state. We're far from that, from a comparability standpoint to 2005.

So--but I would see next year having that phenomenon occur. You're going to see the ramp-up in the first three quarters and then a fall in the fourth quarter.

Okay. And then just the last thing. Just on the guidance. You guys did come in well above where you'd guided in the second quarter.

Can you touch a little bit on where you were surprised in the quarter? Things like sales were about in line with guidance, so I'm just wondering what the big surprises were? Maybe feel that some of the co-op things had not been planned when you gave guidance or any other things that came up?

Yeah, sure, Jason. Let me kind of walk you through that.

The product margin performance that we had in the quarter was healthy and we were up 20 basis points or so over the prior year. Our store level expenses were real positive, we are pleased with labor savings at the store level related to the product pricing efficiencies at our distribution center and some of the efficiencies that we're having in our product check-in because of the accuracy coming out of the distribution center.

We did have the class-action settlement proceeds of about 0.7 million or so, and again the decrease in the Workers' Comp of about 0.4 million and then of course the shift in the advertising co-op reimbursements out of the fourth quarter and into the first three quarters, that had a favorable impact.

And that was offset by a provision for public liability claims during the quarter of roughly 0.6 million or so. Anyway, those are kind of the elements that jumped out at us, but clearly our margins were up and that and that favorably benefited us for the quarter.

Okay. Thanks a lot and good job on the quarter.

Thanks.

And our final question today comes from Mitch Kaiser with Piper Jaffray.

Mitch?

I'm sorry, I was on mute. I just want to make sure I was clear on this. $0.03 to $0.04 associated with the cost capitalization and then $0.05 for co-op in the fourth quarter, correct?

That's correct.

Okay. So I may--if you kind of net those, that might be 120 to 140 basis points on the op margin on a year-over-year basis in terms of negative impact?

Yeah. If you--when you say net them I just want to make sure, I mean those are --

Yeah. They're added--yeah, you add them together.

Right, yes.

Okay. And any thought on cost capitalization for '07 at this point, or how should we be thinking about that because I know a lot of people are still a little bit unclear on that?

No. We really haven't given guidance, Mitch, on '07 cost capitalization, but suffice it to say what happens in--as I try to allude to and I know that I appreciate you guys sticking with us here because it's not easy.

But we will see a drop down in our cost cap in the fourth quarter and then we'll see a corresponding increase in the first quarter of '07 just because of the inventory turns factor, the inventory turns factor will--our inventory will be at seasonally low levels at the end of the fourth quarter.

Inventory turns will be as high as they are, typically in the year in the fourth quarter. And then when you switch to the first quarter, inventory will be ramping back up as we add product after the holiday season. And that will result in lower inventory turns and we will have a a higher cost cap in the first quarter than we did in the fourth quarter.

Okay. Thank you for that explanation. That's helpful.

Sure.

And that was our final question for our question and answer session.

I'd like to turn the conference back to you, Mr. Miller, for any additional or closing comments.

Thank you.

I want to thank everyone for joining us today. We certainly appreciate your interest in Big 5 Sporting Goods and look forward to speaking with you again shortly.

Thank you.

Thank you, everyone, for your participation on today's conference. You may disconnect at this time.