好市多 (COST) 2008 Q3 法說會逐字稿

Good morning.

My name is Demetris, and I will be your conference operator today.

At this time, I'd like to welcome everyone to the third quarter and year-to-date 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)

Thank you.

Mr.

Galanti, you may begin your conference.

Thank you, Demetris, and good morning to everyone.

This morning's press release reviews our third quarter fiscal 2008 operating results for the 12 weeks ended May 11th.

As with every call, let me start by stating that these discussions we are having will include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

And that these statements involve risks and uncertainties that may cause actual events, results and/or performance to differ materially from those indicated by such statements.

The risks and uncertainties include but are not limited to, those outlines in today's call as well as other risks identified from time-to-time in the Company's public statements and reports filed with the SEC.

To begin with our 12 week third quarter of fiscal 2008 operating results for the quarter, our earnings per share came in at $0.67 up 37% from last year's reported earnings of $0.49 a share.

Of course this compares to our March 5th guidance that first calls then $0.65 figure for this quarter was doable as the high end of a very small range.

So a couple of cents above our first call and our own comments.

In last years third quarter while we came in at a reported $0.49 a share, as I explained last year and I will do so again shortly, last year's third quarter, what we believe to be normalized EPS was not the $0.49 reported but rather $0.56 a share.

So this quarters $0.67 figure really represents a 20% year-over-year increase on a normalized basis.

In terms of sales for the quarter, total sales were up 13%, 12% excluding last year's third quarter increase to the estimated reserve for sales returns.

And our 12 week comparable sales figures showed an increase of 8% continuing to benefit of course from both gasoline inflation and a weak dollar or strong FX, primarily from Canada.

We consider it a pretty solid underlying comp number given the current state of what's going on out there.

Please note that we'll report our four week May comp results next Thursday, that's for the four weeks that ends this coming Sunday, June 1st.

That will be next Thursday morning on June 5th.

Other topics of interest I'll review this morning, our opening activities and plans.

We opened five new units during the third quarter of fiscal 2008, three in the U.S.

and one in Japan, along with a new location in Mexico which we do not consolidated our numbers as we are only a 50/50 venture partner.

That was opened in Puerto Viarta.

Fiscal year-to-date through third quarter end we've opened 17 net new locations, 18 including the Mexico location.

As well we've opened-- we've done four relos this year.

We have several additional relocations happening this current fiscal fourth quarter.

At third quarter end we operated 536 locations around the world, and by this weekend we will have opened four additional locations this quarter.

Two new locations and two relos to put us at total locations of 538 at that time.

Our fourth quarter openings to date and the two new locations a few weeks back in San Dimas, California and this morning in Manahawkin, New Jersey, and two relocations, one in the Vancouver, BC area and tomorrow morning a relocation and new opening of a relo in Kendall, Florida.

Also this morning I will review with you our ancillary results, Costco online results, membership trends, the impact of changes we made last February, March to our electronic returns policy.

A few comments on recent inflationary trends, update on our recent stock repurchases, of course our balance sheet summary, and lastly give you a little updated direction guidance for the fourth quarter of the fiscal year.

Okay in terms of the discussion for the quarterly earnings, sales for this year's third quarter as I mentioned was 12 weeks ended May 11th were $16.3 billion up 13% from last year's $14.3 or up 12% on a normalized basis.

On a comp basis, Q3 comps were up 8%.

The 8% third quarter comp while not exact months here but as you recall we reported a 7% in February, a 7% in March and an 8% in April.

So the 7%, 7% and 8% essentially compares to an 8% for the quarter and that's up slightly from the second quarter comp number of 7%.

As has been the case for several months now our quarterly comp figures greatly benefit from high gasoline price inflation, a shade under 200 basis points about the same in Q2 and a bit higher than it was in Q1.

And from the continuing weak U.S.

dollar or a strong FX showing, about a little over 200 basis points both this quarter, year-over-year and in Q2 year-over-year.

For quarter our 8% reported comp figure was a combination of an average transaction increase of a little over 4.5% and an average frequency increase of just under 3% for the quarter.

I believe that just under 3% frequency is about the best frequency number we've had in about a month, on a quarterly or monthly basis in a number of years.

Typically it ranges from anywhere from minus one to plus two although probably in the last year it's been in the 1% to 2% plus range, so approaching the 3% was a little better than that.

Canalization negatively effected our comps as it always does.

A little bit under 100 basis points this quarter, similar to the canalization we've seen in the recent quarters.

We're certainly seeing a little more impact from inflation, not only in gasoline which we of course call out to you given the size of that business to us which is now I think over 10% of our sales which we really break that out for you.

But across many, food, paper, canned goods, sundries items, some offset of course by increasing penetration of our private label items which offset a little of it.

As well as the deflationary trends in some of the electronics categories.

In terms of any mixed change between our business and gross store numbers.

We really haven't seen any, we're asked that quite a bit.

Some I think feel that in the weakened economy our small business is being impacted by that.

We have not really seen the big difference in the sales penetration of our business number versus our gold star member.

In that comment I exclude gasoline recognizing that's more of a consumer item.

In terms of sales comparisons by geographic region, pretty much the same it's been for the last few quarters, our Northwest continues to be strong relative to the older higher volume mature regions.

California continues to be a little weaker than it had been although it's trended up slightly from it's weakest points a couple of quarters ago.

All the rest is as expected.

The East Coast has been fairly good, Southeast being a little stronger than Northeast.

And of course, newer regions like Texas and Midwest tend to do a little better in part because they're younger units.

All told our U.S.

as mentioned was a 6.25, and as I mentioned we will report the four weeks of May next Thursday.

In terms of we greatly benefit from, in terms of reporting comp sales results, the weak dollar.

In Canada, while the-- as translated in U.S.

dollars in the mid-to-high teens, it's in the low-single-digits as it has-- low-to-mid single-digits as it has been for the last several quarters.

So pretty consistent in local currency.

Other international is more in line as it relates to dollar versus foreign currency, both in the low double-digits.

Again I think overall our numbers have been fairly consistent and a little better than we see out there.

In terms of merchandise categories, as I mentioned on previous calls the last couple of calls, the basic categories of food and sundries which is about half of our sales and fresh foods which is about 13% of our sales.

So we'll call it roughly 60% of our sales.

Those are the categories that are having comp numbers greater than the Company overall.

And that's offset of course by slightly weaker than our reported total numbers on hard lines and soft lines.

A little color on the comps, within food and sundries, tobacco continues to be a slight negative impact.

I think the fact that the prices of tobacco keeps going up and up and it's very expensive and with all of the health issues and the restrictions out there of where you can smoke, we like everybody out there are seeing a reduction in demand there.

So a slight negative impact there.

Otherwise all subcategories within food and sundries were up year-over-year.

On average mid-to-high single-digits.

With the strongest departments being things like the deli department and the food, canned foods what have you.

Within hard lines electronics comps continue to be slightly negative, in the mid-to-high singles.

The highest-- the offset by stronger comps in health and beauty aids, which is a hard lines category for us, as well as automotive products.

Other things that you'd expect to be weak are light garden patio, hardware and furnishings.

Within soft lines not a whole lot there, the stronger areas, stronger categories for us are things like small electrics and certain categories within apparel, particularly men's apparel.

Again, mid-to-high single-digits.

Remaining subcategories flat to down slightly, again nothing that different than what we've seen in the past.

Areas you'd expect, jewelry, home furnishings were down the most.

Although jewelry is not down as much as it had been in the last couple of quarters, but still has a negative sign in front of it.

Fresh foods, as I mentioned, continues to be good all subcategories within fresh foods are just fine.

Moving down the income statement line, we reported membership fees of $350.9 million, up about 10.5% or $33 million, as reported down about six basis points year-over-year.

I think that's in part due to the fact that we've had some pretty strong sales, top line sales, results but nonetheless a pretty good number for us.

In terms of number of members in Q3 end we've had 19.7 million gold star members up from 19.3 million at Q2 end.

Primary business 5.5 million, rounding to the same 5.5 million but slightly up in terms of actual members.

Business add ons consistent at 3.4 million.

So total members 28.7-- member households 28.7 million versus 28.3 at the end of the previous quarter.

And including add on spouse cards, 52.6 million members versus 51.8 million.

At the quarter end, May 11th our executive membership continued to do well, just under 7.3 million members, that actually is an increase of 380,000 new members or 5.5% increase just in the last 12 weeks.

That represents about 32,000 new executive members per week which is a combination of new sign ups as well as a number of conversions.

All of those have been pretty strong of late, and helped by a lot of things, more effort on our part as well as some exciting things from some of our partners like American Express who is currently running a 3% cash back on gasoline when you use their co-branded card at Costco gasoline pumps and given that top (inaudible), that's helped as well.

In terms of membership renewal rates, they continued strong at Q3 end, our business member reorder rate was 92%, gold star, 86%.

So that 87% I must say that it is a strong 87% and one day we might get lucky and go up a little bit higher but for the time being we round down to 87%.

Going on to the gross margin line, third quarter gross margins were up 33 basis points year-over-year, last year a 1021 versus a 1054 this year.

Again as I you-- as I'll mention in a moment what we believe to be the normalized gross margin excluding certain nonrecurring items as occurred last year in the third quarter, the actual, what I think is a more relevant increase year-over-year is not the 33 but a 17 basis point increase.

Before I ask you to jot down the numbers, let me give you an explanation of the nonrecurring item that impacted us last year in the third quarter.

This related to an increase in our sales returns reserve balance, last year in the third quarter this adjustment resulted in a decrease to sales of $228.2 million and a related pretax charge to gross margin of approximately $46.2 million.

The two impacts to the margin comparison year-over-year in Q3 first of course is that last year we took the $46 million hit so you really got to add that back in.

Secondly, last year, we reduced sales for a kind of an aggregate catch up of the $228 million in sales.

So in calculating last year's gross margin percentage of course you had a lower than normalized, if you will, denominator in that calculation.

So both of those things I'll try to point out to you as we compare to Q3 here.

As I always ask you to jot down a couple of charts.

This is the first of the two, the margins.

And we'll go ahead and go back to-- we'll have four columns, Q4 '07 and Q1 '08, Q2 '08 and Q3 '08.

And the line items would be core merchandising, second one would be ancillary businesses, third would be 2% reward, fourth would be federal excise-- IRS federal excise tax which was an anomaly last year-- last quarter-- a year ago in the second quarter.

And then the last two line items will be the returns gross margin adjustment, that would be the $46 million I just talked about as an example.

And then the last line item would be return sales adjustment which would be the $228 million number.

And then of course total.

Now reading across here and what you-- the core merchandise margin in Q4 '07 was up year-over-year by 34 basis points.

In Q1, by 44 basis points.

In Q2, 29 basis points.

In Q3, 27 basis points.

Ancillary, Q4, 1 basis point up, Q1, 30 down, and if you recall in Q1 we were comparing a very strong profit statement in gas a year earlier in Q1 versus a slightly weak profit statement in Q1 of '08.

But that-- nonetheless that 30 negative there.

Q2 '08 minus 12 basis points, Q3 '08 minus 9 basis points.

The 2% reward minus 4 basis points, minus 5, minus 4 and minus 1 in the most recent quarter.

The IRS federal excise tax claim, this related to the phone charges, excise tax on phone charges, basically 0 in Q4, 0 in Q1, minus 6 in Q2, and that has to do the fact that in Q2 '07 we received about $10 million from that.

And then a zero of course in Q3.

The returns gross margin adjustments, plus 7 in Q4, 0 in Q1, plus 33 in Q2 and plus 32 in Q3.

If you recall this was a big adjustment that was really split in two based on our numbers at the time in Q's 2 and 3 last year.

So there's an impact in both of those quarters.

So plus 33 as I mentioned in Q2 and plus 32 in Q3.

The return sales adjustments, 0, 0, minus 16 and minus 16.

So we add all up that-- add all of that up, Q4 last year, our reported gross margin was up 38 basis points.

Our Q1 reported margin was up 9, again the impact of particularly in the gas business.

Q2 was up 24 and Q3 up 33.

Again, when you look at the chart that we've just written down, if you take out those last two items the plus 32 and the plus 16 in the third quarter column, that's how I get from the 33 reported to the 17 which that-- we use more normalized.

Again, in terms of the 27 for the core business, all four major categories, food and sundries, hard lines, soft lines and fresh foods were higher year-over-year ranging from low double-digit basis points to almost 100 basis points.

But on average, 27.

Hard lines of course was positively impacted by the reduction in returned items in electronics as well as a slight reduction in our returns reserve, we pick up a few basis point there.

In the fourth-- in the third quarter we estimate that within the 27 there was about 4 basis points of improvements just in the sales return reserve as the change in policy last year, I would expect to continue to benefit us a little bit for the next few quarters as well as the last four quarters.

Hard lines, unlike Q1 when year-over-year our overall Company's gross margin was very negatively impacted by the swinging gas profitability, you'll note in both Q2 and Q3 gas really didn't hurt our margins as they did in Q1.

However we've had a little bit weakness relative year-over-year in other ancillary businesses.

As I'll point out later in my comments we had a pretty strong gas margins in Q4 last year, but we did not expect the same this year.

So I think that will be a challenge to this year's Q4 results, a small challenge there.

General merchandise as you can see is doing fine.

I think we should continue to see some benefit both in our initiatives as well as improved availability of certain items in this weak retail economy where we can save the customers lots of money on some brands and goods that previously had been unavailable to us and we generally can-- on those items we generally get our full margin which as you know is generally in the mid-teens at the high end for us.

The other question I'm sure we're going to get asked during Q&A is in Q4 we start the anniversary against the "margin initiatives" and the big improvements in margins.

We recognize that.

It's going to be-- it's hard for us to quantify how much more we can do or and when it comes recognizing first and foremost we're a top line Company and we're going to do what's right by our members and by our competition to make sure we're driving sales in the right direction.

We think we're still have some abilities to show some improved margins, not just beyond the anniversary but it's going to be hard to predict completely until we get there.

The impact of increasing executive membership business, it's-- this is really the smallest hit if you will in the reported margin, the 1 basis point.

The implication there of course is that year-over-year the executive member sales were up 1%-- were up 2% year-over-year.

So 1% increase, 1%-- 1 basis point (inaudible) to report in margin.

In terms of LIFO.

As I mentioned while we're starting to see some inflationary pressures from vendors, as we all have and we've all read about it, we assume a little negative 0 impact on our P&L for at least the current fiscal-- continuing for the current fiscal year in part because we had-- we started the year with a net LIFO credit balance due to the offsetting impact of the deflationary trends from our electronics inventories particularly.

Again as I mentioned this could change in the future as inflation has eaten away at some of those credits that we have built up over time.

But it's hard to know.

My guess is that we can see some impact in '09.

We'll give you some more insight on that as we get it, probably at the--when we report Q4 numbers and going into '09 estimates.

In terms of-- before we go into SG&A, let me talk about the ancillary businesses, the steady progression of adding them.

We added three pharmacies in the quarter to be at 442.

We had four food courts, four mini labs and four opticals, to be at 499 on food courts, 497 on mini labs and 488 on optical.

We still have seven print and copy centers, we added four hearing aid centers to be 256 and five gas stations to be at 295 gas stations.

As I mentioned earlier our ancillary comps were up 21%, up 7% without gasoline, recognizing gas as the big inflation piece to it.

Moving on to SG&A.

Our reported SG&A percentages in Q3 were better or lower by 26 basis points, coming in at a 973 compared to a reported 999 last year.

As with the margins and those anomalies how they impact the comparisons year-over-year, the decrease to last year's reported sales figure as a result of that $220 million increase in the sales returns reserve, again made last year's reported SG&A percentage higher on a reported basis because of the lower sales denominator.

As you'll see in a moment, while reported SG&A year-over-year was again 26 basis points better, what we believe to be a more normalized fair comparison shows Q3 year-over-year improvement of 10 basis points, which is still our best SG&A showing on a year-over-year comparison in many fiscal quarters.

Again, for the second and final time of the call I'll ask you to jot down the following, again we'll go with four columns, Q4 '07 and then Q1, 2 and 3 '08.

The line items were the operations, central, the third line item will be stock compensation, and the third would be 409A, if you recall last year in Q2 we also took a hit for protecting our employees on some stock option issues.

The fifth line item would be the sales returns reserve adjustments and the sixth item would be miscellaneous, like quarterly adjustment and finally total.

Reading across, and when I give you a negative number, that means it's higher or worse.

Operations was minus 23 basis points year-over-year in Q4 '07.

Minus 9 in Q1, minus 11 in Q2 and plus 8 in Q3.

Central minus 2, plus 2, plus 2, plus 4.

So, whereas in Q4 it was slightly higher year-over-year in Q3 it's four basis points lower year-over-year.

Stock compensation, plus 2, minus 4, minus 3, minus 1.

That's going to always fluctuate plus or minus a couple of basis points, nothing really there.

409A 0, 0, plus 30 and minus 1 recognizing the plus 30 is because we had a big charge last year.

Sales returns reserve, 0, 0, plus 15 and plus 16.

Again, those charges last year showed a favorable reporting comparison.

And quarterly adjustments, 0, minus 6, 0 and 0.

The minus 6 in Q1 simply if you recall was we gave back to our employees about $8 million in healthcare benefits based on having some better than planned performance in reducing some healthcare costs in fiscal '07 and we felt that the employees should share in that.

If you add all those numbers up on a reported basis in Q4 '07, SG&A was higher year-over-year by 23 basis points and Q1 higher by 17, in Q2 lower or plus 33 basis points, and in Q3 lower or plus 26 basis points.

A couple of small comments, again, operations was lower or better by 8 basis points, again our first improvement in many quarters primarily payroll and benefits.

As you'll recall, the dollar an hour pay increase that we did last March, that anniversaried in the first few weeks of Q3 this year.

And as you recall in the last few quarters I've mentioned on a year-over-year basis, the payroll benefits hit because of that change last year was about 6 basis points.

So, that's going from a minus, when you look at the minus 11 in Q 2 '08 for operations we estimated that about 6 of that 11 was up, that would get you down a little bit but recognizing we're not seeing that impacted-- we're from the anniversary of that impact.

Our central expense improved a little bit.

Nothing huge there.

One thing that we certainly again have some benefit some strong sales numbers, I think that helps that number a little bit.

The stock compensation expense, as I mentioned, is going to always fluctuate a couple of basis points in either direction.

And as I mentioned again the stronger sales and things like gasoline add sales dollars but then they'll add a lot of extra expense.

In terms of SG&A outlook for the remainder of '08 and beyond, again we could be helped by slightly lower expense percentages as payroll benefits of workers comp, and part due to the anniversarying of the bottom of the scale wage increase we did last year and in part I think because of some inflationary sales trends particularly gasoline.

Again the big question is what we report in sales.

There aren't a lot of big silver bullets out there but we think we run a pretty efficient operation.

In terms of on the income statement the next line items, preopening expense.

Preopening was up about $600,000 year-over-year from $8.4 million up to $9 million or about 1 basis point lower actually, actually down $600,000 dollars.

Last year in Q3 we opened six locations, this year we opened four.

There's always some crossover quarter-to-quarter also based on the timing of what openings are.

No real surprises in those numbers.

In terms of the provision for impaired assets and closing costs, for Q3 '07 last year we only had a $930,000 charge.

In Q3 this year you'll note we had a charge of $9.2 million for the quarter.

Nearly all of that $9.2 million expense relates to an impairment charge associated with closing, demolishing and rebuilding a larger better facility in Bloomfield township, Michigan in the Detroit area.

At this facility which we acquired and opened back in I believe 1998, as part of a purchase of six locations from what was then called Hechingers, this facility closed, actually closed last Tuesday, May 13th and it is expected to reopen, once it's rebuilt on November, some time in November of this year.

As you would expect from us, and I'm happy there'll be no layoffs.

It's good news that we have nine other locations in that market that is certainly filling in for summer vacations helps mitigate that issue a little bit as well.

All told operating income in Q3 was up 37% on a reported basis, an increase of $127 million year-over-year from $339 million to $465 million.

Again, excluding the unusual items booked in Q3 last year, this years third quarter operating income on a, what I'll call a normalized basis, was up 20% or up $79 million.

Below the operating income line reported interest expense was just slightly lower year-over-year.

In Q3 coming in at $24.1 million.

Interest expense versus $26 million in last year's Q3.

The figures are roughly the same now that we've anniversaried by last February's $2 billion debt offering.

In fact the $2 million difference there really-- the actual cash interest expense on the debt offering was essentially the same.

The big difference here is we had slightly higher with the ramp up in expansion slightly higher capitalized interest year-over-year by about $2 million.

Interest income and other was much lower year-over-year, $42.8 million last year in the quarter $23.9 million this year.

There-- a lot of the lower income is lower interest income rates, small amount of it is of course we had a couple of small write downs both last quarter and this quarter related to some of our cash investments, and I will mention that in a minute.

I should also note that this year's, as I mentioned this year's third quarter interest income figure, if you recall back in Q2 we had a $2.8 million impairment on our, some of our enhanced money market fund investments.

In our view they're still-- continue to be relatively safe as they mature and we get out of them.

But it's still a year and a half to go on some of them.

During the third quarter on roughly $300 million plus in these investments we impaired that figure by $1.4 million.

That was a small charge to the interest income in this quarter.

As I mentioned to you in our future conference call back in March, if you go back to last December, in the more than $2 billion of cash and equivalents we had on our balance sheet as of last August, last fiscal year end, about half of it, a little over half of it, $1.15 billion was invested in what was known as and what is known as enhanced cash funds.

Generally portfolios of high-rated-- mostly highly-rated securitized assets have historically have acted like traditional money market funds.

In that they had daily liquidity and traded at $1 net asset value.

Our $1.15 billion at the time back in early December was spread between 6 separately managed funds including many well known names that we've all heard of.

In early December we received a call from one of these funds that the fund was stopping redemptions and the fund would be allowed to float.

This happened had--this had not happened I understood since the early 90s.

We immediately requested redemption of all the funds and I was happy to report that as of now Q3 and now we've redeemed $842 million of the $1.15 billion and have reinvested it in Government-related money funds, and have about $308 million remaining among these three funds.

By the way the $308 million is $76 million less than we had just 12 weeks ago.

So the maturities of these things generally were over a one to two and a half year period and as they roll off, we are getting redeemed and with very few exceptions we're getting redeemed for full amounts.

All of the funds that we currently have are restricted redemption, so we're in the process of getting--undergoing the orderly liquidation of these as they mature.

The underlying securities have maturities that go out as far as 2010.

As I mentioned in this quarter we took a $1.4 million write down reflecting the impairment loss on the few of the more than 250 separate investments within these three portfolio funds.

And again recall that we took the $2.8 million impairment loss in Q2.

So all told about $4 million impairment loss on what was originally $1.1 billion and what is now remaining left in there a little over $300 million.

While no one knows what tomorrow brings things seem to be easing up there, so we have our fingers crossed.

We would expect that again as our Q3 balance stood at $308 million that another 25% of it or say about $75 million of this $308 million will redeem-- be redeemed by August 31st our fiscal year end and then all but perhaps of about $70 million remaining will be redeemed by fiscal year end 2009.

And again by roughly mid-2010 we'll be out of it.

Lastly, the $308 million in funds, while a year ago were generally in the cash and cash equivalents category had been moved on a balance sheet and of that $308 million, $216 million is classified as short term investments and $92 million as other assets given that maturities are in excess of 12 months.

Along with it, answer for something that as --I think we feel a lot more comfortable today than we did in early December when we got that call.

Overall, pretax income on a reported basis was up 31%.

Again, on a normalized basis as we consider it that way.

This year's pretax income was higher by 15% up from $404 million last year to $465 million this year.

Our tax rate was a little better year-over-year a little lower, 36.6% in Q3 this year, versus up 37.1% last year.

All that is is simply a function of a few discreate items that went our way versus balance out and go the other way sometimes.

In terms of fiscal and that of other topics, balance sheet.

A bridge balance sheet, and again by late morning our time you'll have on our website the Q&A which will have the detailed balance sheet as along with some other facts as well.

But as of May 11th, cash equivalents, $2.849 billion.

Sort term investments $806 million.

Inventories $5.306 billion.

Other current assets, $1.117 billion, for total current of $10.078 billion.

Net PP&E of $10.249 billion.

Other assets of $876 million for total assets of $21.203 billion.

On the right side, short term debt is $63 million, accounts payable $5.720 billion.

Other current liabilities $3.743 billion, for a total of $9.526 billion.

Long-term debt of $2.187 billion recognizing $2 billion of that is the offering we did last year.

Deferred and other, $298 million.

For total liabilities of $12.011 billion.

Minority interest of $77 million.

Stockholders equity of $9.115 billion, for a total again of $21.203 billion.

I'm always asked, I will give you the depreciation and amortization number for the third quarter, $150 million even.

In terms of balance sheet, while we've bought back a slew of stock and initiated dividend four years ago, still quite a strong balance sheet, debt to cap ratio of about 20%, that's again after buying back $4 billion of stock and adding $2 billion of debt over the last few years.

So plenty of continued financial strength.

In terms of accounts payable ratio which is simply accounts payable divided by inventories, our reported number at the end of the quarter is you can just simply take those numbers I just gave you was 108%.

If you will, part of that is construction payables, if you look at just merchandise payables as a percent of inventories, it would be 88% recognizing at the end of third quarter is usually the seasonal low number of that given that we're in the midst of lower sales post Christmas and getting ready for the summer.

Year ago the 108 reported number compares to 105, so again improving.

And the 88 number on a merchandise AP ratio this quarter compares to an 86 a year ago.

Again I think that's indicative of the fact that we're turning inventories ever so slightly greater and getting a little bit more dating from our vendors in some cases.

Average inventory per warehouse up about $243,000 or 2.4% year-over-year.

This year, the average per warehouse was $10.506 million versus $10.263 million a year ago.

Now, about of that $243 million, 2/3 of it or $160,000 is simply the conversion into U.S.

dollars of our foreign inventories, so again that has to do with the weak FX.

So really it's not $240,000 it's more like $80,000 excluding that.

Some things just looking down the list of each category, over the counter health and beauty aids was up about a little over $100,000 in part due to some promotions that we were in the process of or getting ready to do.

Basic food items, I'm not talking fresh food, but I'm talking canned goods and pastas and coffees and things like that, up $66,000.

Again some of that probably is a little inflation and some of it is the buildup of inventory in strong areas.

Majors down $85,000, nothing surprising there.

That's been an area that's been a little weaker and we've certainly done a pretty good job of managing our inventories.

In tobacco, mostly a conscious effort on our part down $75,000 per warehouse.

There are several warehouses that we don't sell tobacco in anymore, it's still a small percentage of the total Company but less than 100 but not near the 400.

No inventory concerns at this point.

We've been fortunate.

We want to, if anything, Jim and our merchants focus has been to keep our inventories as clean as possible-- low as possible recognizing when opportunities arise for price increases coming through we want to be able to buy in and hold on to several extra weeks of inventory at the previous lower cost so that we can keep that lower cost as long as possible for our members.

And I think we are well positioned to be able to continue to do that.

In terms of CapEx, recall in '07 we spent $1.4 billion.

Excuse me, in third quarter we spent $370 million or for the first 36 weeks of the year, $1.150 billion, pretty much in line with our budget.

I estimate that for the whole year we'll be in the-- still be in the $1.6 billion to $1.7 billion range.

A fairly big chunk of the remaining 16 weeks, but recognizing not only are we opening new units, net new units but we're also got several relos, I think for the year we'll have nine relos and I think I mentioned earlier we had four so far.

So we have five relos planned this fiscal quarter versus 0 last year for the entire year.

In terms of our dividend rate as we announced probably a month ago, effective this month the Costco Board approved to increase our quarterly dividend from $0.145 a share to $0.16 a share per quarter.

This $0.64 a share annualized dividend represents an annual cost to the Company of just about $280 million based on our current share count.

In terms of Costco online it continue to do well, a 24% sales increase for the third quarter.

We should exceed $1.6 billion for the year.

That 24% is down from Q1 and 2 but given the fact you've got a huge penetration of big ticket furniture items and electronics items we think that's still a fairly decent number.

In terms of expansion, to date we have opened 21 new units in the first three quarters.

Now of those new units, four were relos, so really a net of 17 and the four relos plus the one in Mexico that I mentioned.

In Q4 we have eight net new locations plus five relos, so a total of 13 openings, eight of which count as additional open units for us.

For the year that would put us at 34 openings plus Mexico would be 35, less nine relos.

So the 34 consolidated number would be 25 net new units plus Mexico would be 26.

So about a 5%-- about a 6% unit growth this year.

I'm sorry in '07 it was about 6.5% unit growth, in '08 it looks like it's going to be about a 5% unit growth and closer to a 6% square footage growth given the slew of relocations, nine of them as well as the 25 net new openings.

Total square footage at the end of the third quarter, some of you keep track of that was, was 7-- and this excludes Mexico was 71,786 million square feet.

In terms of stock purchases, since June of '05 and through the third quarter end, we've repurchased about 84.1 million shares at an aggregate price of $4.5 billion or $53.44 a share.

We still have repurchase authorization under our program of $1.3 billion, so a total authorization-- aggregate authorization of $5.8 billion of which we spent $4.5 billion.

And if you annualized the 36 weeks on an annualized basis I think it's ticked up slightly from what I mentioned on the Q2 call from about $900 million on an annualized basis for the first half of the year to an annualized basis of about $925 million for the first 36 weeks on an annualized basis.

Finally before I turn it back for Q&A, let me talk a little bit about guidance.

I did mention I think first call currently is $1.01 and it's probably on the high end if not too high.

A few things I mentioned on the call was the fact that we're going to-- we would expect-- we see no letup in gas price increases.

While you have a day or two where they come down a little bit, then you get another kick in the pants and it's a week of upward movement, which is not good profitability wise in that area.

And again it's just looking with blinders on just at gasoline, it's we think has down a very good impact to our business of getting people in our parking lot, many of which will then come into the warehouse.

The-- but we would expect not unlike Q1 where we had an anomaly, perhaps a fairly wide swing in strong Q4 profitability in last year in gas versus weaker particularly weaker number this year in that area.

The other question marks of course is we're only two and a half weeks and we want to remain conservative.

Again we don't expect any big surprises now on sales, but tomorrow's another day.

The last thing I'll mention is we are, as you know, we are anniversarying our big increases in margin last year.

Some of which a good chunk of which was gas last year but a good chunk of which was also margin initiatives.

And if you recall I was looking back at Q4 last year I reported $0.91, I reported a $0.91 normalized number in fiscal '07.

That was $0.08 a share better than our guidance on first call.

And when I look at that comparison I probably should have looked at that a little closer last year in terms of recognizing it's going to be a tough comparison when you did so strongly last year.

We still think we're going to be up and we'll-- but we-- it's hard to quantify where we'll come out, and we'll have to wait and see there.

In terms of that, I'll turn it back over to the moderator for Q&A.

(OPERATOR INSTRUCTIONS).

Your first question comes from the line of Dan Binder with Jefferies.

Hey, good morning, Richard.

Just a question on California.

You talked about business bouncing back a little bit.

I was just curious are you seeing more of a bounce back in the sort of nondiscretionary areas versus the discretionary areas, any color on that would be helpful?

And then also, generally speaking, if you look at the Company more broadly, are you seeing more of the strength in the core comp coming back, coming back from the more food and consumable type items versus other areas (inaudible)?

Yes and yes.

I mean first of all in California, I don't think, as it relates to where it's coming back, it's still weak everywhere.

I haven't looked at it lately but I also haven't heard anything pointed out specifically in the California regions at our recent budget meetings.

So, as it comes back a little I would expect it to be in both areas.

But again, the discretionary tickets being still a little weaker.

And the second part of that?

Well I was just, I was just trying to isolate California specifically and then overall as a Company, the core comp had bounced back a little bit last month and it sounds like May has gone okay.

So I'm just curious if you're seeing more of that bounce back in-- well that strengthening in the food and consumable area or in the more discretionary areas?

What really stands out when I look at the 27 or 30 subcategories that comprise our four main categories, it's in stuff that-- it's the staples.

It's your food categories, it's your fresh food categories, and with the one antidote I mentioned earlier was is while jewelry is still negative, it was not as negative.

It's still nothing to write home about.

So generally speaking your furniture, your jewelry, even your electronics are all still weaker and what really stands out is the mid-to-high single-digit numbers in many of the basic canned goods and paper goods and fresh foods and things like that.

And then just a second question on gross margins, I mean in terms of Q4 tough comparison it sounds like gas might add a little more pressure.

We should be thinking about that as more of a flattish type margin year-over-year?

And then also with regard to just get a little bit more clarity on the LIFO situation, are you suggesting it could be a charge in LIFO in the fourth quarter or are you just going to be sort of even year-over-year?

Again, my guess is always slightly better than yours.

I'll give you two antidotal comments, we still have some credit, not a lot going into the fourth quarter.

In talking to the senior merchants particularly on the food and sundri side and the fresh food side where over the last six months we've seen big increases in lots of things.

All paper goods generally are up 4% to 7%, about three months ago-- two to four months ago.

Given that it just happened, in talking to the Tim Roses and the Jeff Lanes of the world their view is they don't expect to see these manufacturers coming back in the next months.

So my-- antidotally my sense is that we're going to be fine in Q4 but getting-- if inflationary trends continue and gas and energy costs continue and combine these prices continue, that you'd expect to see something in fiscal '09.

But that's our best guess now.

We don't anticipate anything meaningful if anything in Q4.

But part of that is, is (inaudible) come back the manufacturer comes at you every month with an increase.

They come at you and it used to be that they came at you they'd only accomplish half of it, it might two or three years before they come back.

But now they come at you, they get more of it and-- but it's not going to be two or three years but it's not going to be two months either.

Okay.

So barring any potential LIFO charge across margins year-over-year, should be able to hold, is that reasonable?

Well, I would hope and think so recognizing the caveat is gas, taking gas out of that equation I would feel stronger with that.

Okay.

Thanks.

(OPERATOR INSTRUCTIONS).

There are no further questions at this time.

Do you have any closing remarks?

Wow.

Okay.

Are you sure there's no more questions?

I've never had only two questions.

Okay we have a question now from the line of Todd Slater from Lazard Capital.

Okay.

Hi, Lazard.

And it's actually Jennifer Davis for Todd.

I just had a quick question.

It looks like if I'm doing this calculation right, that maybe May comps are trending even above 8% if your quarterly comp is 8% now.

Because it was just the 8% for the quarter it was a 7.78%.

Okay.

I wouldn't read a lot into that.

I don't think anybody has to-- there going to have to be any great changes in either direction I mean-- or we would have announced something of course.

But, we'll have to wait and see until next Thursday.

Okay.

All right.

Thanks.

Sure.

Your next question comes from the line of Susan Anderson from Citi.

It's actually Deb Weinswig.

I don't know my line wouldn't work as it appears others didn't either.

So Richard you had mentioned on the call that general merchandise is doing fine based on certain initiatives and also improved availability.

Can you elaborate on that?

With the initiatives, I mean the things we talked about really back in Q2 and Q3 a year and finally saw some starting in Q4 and into this year.

I think Jim's comments in the past is is we deserve to make a little more and we'll do it our way and still not compromise our competitiveness.

And we've been able to do that in certain-- probably a third to 40% of our items are at the most-- are at the commodity critical competitive items like paper goods and milk and cheese and detergent and soda pop and Snickers bars that we and Sams and others are fiercely competitive on.

And you're not going to win or loose the game because we're both making very competitive low margins with that stuff.

One area where--we all have-- even though we all have Christmas items and wrapping paper and gift items and gift baskets, and even though we all have patio furniture and door mats and bedding, they're all different items in each location as us versus a competitor.

And on many of those items, we, we have to make sure that we-- even though if we have a stated 14% or 15% cap on our margin, make sure that we're costing it right and one of the things historically that we really didn't do, and chose not to do was run our depot operations which we view as a major competitive advantage structurally in our industry and exaggerate it at Costco because of fewer items and more palet low quantities.

That we-- and same thing with our import department, that those deserve to be-- make some profit some times.

And we can still remain very competitive on the items.

I'm beating around the bush a little bit basically to make a little more margin on selected items, and given that we are talking about 4,000 item, 60% of which are not going to touch anyway, they're fiercly competitive commodity items everyday, it's pretty easy to manage our item by a basis.

And there's only a few people starting with Jim and Craig, the Head of Merchandising, and the senior merchants below Craig that with Jim as the governor, we're going to still maintain our integrity, maintain the integrity of what the buyers do, but still be able to learn a little bit more.

On the, on the availability of additional goods, I'm not going to do what I did last quarter and use real examples, you all go into the warehouses and you will very well see many branded items you've never seen before in apparel and tools and many of these items are great for us.

And because they are high-quality, high-end brand items that typically you only see at the high-end department stores and specialty stores.

In many instances because of the weakness in what I'll call the mall business right now, there's goods out there and they've got to get rid of them.

And we are the highest end discount operation out there and we'll take it all.

And there's many items out on the floor right now that, that if they retail for $1 and wholesale for $0.50, we're going to sell them for $0.55 or $0.56 or $0.57 and save you $0.45.

So, one I think that when you look at apparel even though apparel, even though apparel-- I don't know, you know what the retail apparel numbers down in the retail apparel industry, it's probably down 5% to 20% at different stores, at Costco it's up a few to 10%.

And that's because of availability of those items.

Are you seeing, as you mention you did refer to this last quarter as well, are you seeing improved availability even over last quarter?

I'd say continually.

Okay.

And then, last question, actually kind of two questions in one.

From a square footage growth perspective can you elaborate on how we should think about kind of fiscal '09 going forward?

And then secondly as part of that question, what are you seeing with regards to availability of real estate and also pricing?

In terms of if you look at like unit percentage where we were up 6% in units, or 6.5% in square footage in '07 and I think we started '08 with the assumption we'd be kind of the same percentage but if we were going to have net new units in the low 30s and we ended up at 25.

Inevitably one or two may have died but most of them were just pushed to where we're eventually trying to get them into the year and for what ever reasons they got delayed, which happens every year as you guys know.

My guess would be is is that it's more likely, I haven't seen any finalized budgets for '09, but my guess is that in terms of net number of new units if it were 25 in '08, it'll be at least in the high 20s in '09 and we'll probably start with a budget in the low 30s and work down from there a little bit.

So my guess is is it'll either be a stronger 5% unit increase or average up to a 6%.

In terms of availability, I think two things.

One is is we probably have gotten a little tougher on ourselves in some of the new markets to make sure that we're not just opening to try to get them open, but make sure that we try to balance new markets versus existing markets.

I know that we're in a few shopping centers now which we were never invited in shopping centers, recognizing what I say in shopping centers, typically it's on the parking lot premises adjacent to or barely connected physically to a mall.

And guess what, they like it.

We bring on average 32,000 finance transactions to our warehouse which means on average probably close to 5,000 upscale members to that parking lot.

And we may sell a diamond ring or a strand of pearls but from what we're by the shopping center developers, the Neman Marcus' and the jewelry stores and the apparel stores like the traffic notwithstanding the fact that we might sale a few of those items.

So I think there'll be a little more of that in the future.

In terms of pricing, I spoke to Jeff Brotman just last week on that question, and he says pricing is not going down, availability is going up.

And it's-- but it's not-- so it's not-- but it's not a wholesale supply sale.

Or recognize too is is we want prime spots.

And even in a down retail real estate economy, prime spots don't go down as much, but we are seeing more availability.

Great thanks so much for the color, Richard.

Appreciate it.

Your next question comes from the line of Adrianne Shapira with Goldman Sachs.

Thank you.

Richard could you just give us-- update us on the couponing efforts, what are the members reactions?

How important are those coupons?

Are they redirecting visits to when they get the books in the mail?

It's funny years ago every-- and you've all known us for awhile and heard me quote before Jim talking about couponing is like drugs you take it and it works and you need, but you keep needing to do more of it.

And we went from what was originally probably an eight week summer passport to a ten week to a 12 week and then we started with a six week winter wallet, and it's now 12 weeks.

And a few years back we did a mailer for the three days after Thanksgiving and we do some handout coupons.

We are trying-- over the last year we've tried to not increase it and to wean ourselves a little recognizing we would still want to be in the net land and cost low business, but we can't sit here and say that it doesn't work.

The vendors like it.

And see they see directed sales on those items.

So there times that the during that two weeks or whatever week period it is, they'll see anywhere from a two or three times increase to a 15 to 20 times increase in their sales, particularly when it is a new item that's a recurring purchase like a food item.

There's nothing better food item or a disposal item whether it was years ago the Swifter Mop or a new cleaning agent.

So the vendors love it.

I don't see it going away.

I don't-- but I don't see it being incrementally big.

We probably are doing a little better job of also fine tuning it, fine tuning it not just massing out the same thing to 20 million members, but doing-- being a little smarter about segmenting.

And I-- the key word there is little.

We still want to keep things simple and do it our way but it's here to stay.

We look at the wallet and the passport and then we also look at what we call these multi-vendor mailers, I'm sure you have seen them in the mail hopefully.

If you haven't call me.

And again, these are more segmented to specific items when you-- the fence is example, when you walk in the warehouse one week it might be summer stuff and the next week it might be vitamins, the next week it might be an entire fence of P&G items.

So there's lots of vendors across many categories that really see very dramatically the impact of that, and hey it's great for our members and we just have to recognize that we-- there's a limit to how much you can do forever.

Okay.

So is it fair to say when you look out for the remainder of the calendar year we should expect flat year-over-year?

Yes, but I think you-- we've seen that this year.

There haven't been any big changes this year.

I think we may have done, as an example, this is week four of a four week multi-vendor mailer, a three week multi-vendor mailer that for us was a week off but it's in the same four week month that we'll report next week.

So you guys-- we won't have to explain it to you.

Okay.

And then just appreciate your commentary on near-term margins, kind of expecting flattish in the merchandise margins near-term.

But could you just revisit for us the longer term, you've always talked about it not to expect it to be linear but that longer term margin targets the 3% or where are we and where should we expect over time to get to?

Thanks.

Let me, let me-- I think the best way to tell you this story in as vague of a way as I can is back a year ago when we talked about prior to hitting very strong margins in Q4 last year, but back in Q2 and Q3 when I started talking about the margins initiatives and we're going to do it this time and the whole bit.

And at the time on these very same conference calls some of you would asked well do you think it could be 15 basis points or 20 basis points a year for the next three years?

And of course I'd say something like I wouldn't touch that.

And then finally somebody would say do you think you can you beat ten or 15 a year for a couple of three years?

And I'd say yes maybe, but recognizing we don't know exactly, we're not there yet.

And then the question became once we hit 25s and 35s year-over-year improvement, and let's assume we started before we had last year's-- reported last year's fourth quarter.

That total consensus out there buy side people, sell side people, us, you name it, everybody was on the same page that over the next three years we can get ten or 15 a year and let's round that number to 40 for three years.

I'm making this up as I go along.

If it was 40, the next question you would expect me to get is is over the last few quarters as we've gotten 30 plus a quarter, they're saying oh my God, is there only five or ten left?

And my comment has been when asked that question, either on a big call or on a little call, is my guess it's more than that, but is it still ten or 15 a year?

I don't know.

What I do know is in talking to merchants and Jim, and Jim will be the first to start every sentence with we're not going to do things that compromise our sales.

We're a top line Company because that's-- only good things-- only bad things happen when you've got lower sales, only good things happen when you've got higher sales.

But we are, as he said time and again, smart enough to figure out how to do it.

I think and I believe, in talking to the merchants and to Jim, that there is more on the table but we're going to do it our way and until we get to these next few quarters post anniversarying the first year, it's going to be hard to know exactly how much.

I'm not trying to be cute.

I'm trying to be honest and I would say it has a plus sign in front of it, but I can't tell you how much.

Okay.

Thank you.

Your next question comes from the line of Charles Grom for JPMorgan.

Thanks.

Richard just to move down the P&L a little bit on SG&A, clearly your best performance I think in almost four years.

Most of it looks like it's core and central, 12 basis points, wondering how sustainable you think that is in the fourth quarter and beyond?

I think in the fourth quarter it's-- the closer to now that I look out the more confident I am and recognizing sales help that number.

Higher sales from gasoline inflation alone helps margin-- hurts margin and helps SG&A, so it's awash to the pretax line.

But-- and certainly we're going to-- we're continuing to have inflationary gasoline.

If you just did a simple calculation, I don't know if it's completely correct, and just took out the inflation component of gas year-over-year in Q3, any number in our income statement divided by assuming flat gas prices, same gallons as flat gas prices, was like 4 basis points of something even plus or minus and get an average out to 0.

And so my guess is is that we now have anniversaried the dollar an hour increase.

We have no plans to gut punch you next quarter on anything specific.

So yes, I thinking that-- will it be 12?

I don't know.

I'd be thrilled if it was five or ten or zero as Bob just said zero to ten.

I'm not trying to bring you down because we know anything more.

But we'll have to wait and see.

But my gut tells me it won't be 12 but it will be something.

Okay fair enough.

And then on the core 27 basis points you spoke to some categories being low doubles and then some a size 100, wonder if you could get a little bit more granular if that's even possible I guess?

I don't have it in front of me.

I think that within the categories I am sure hard lines was a little better because of strong improvement in electronics, again because of our change policy, and fresh foods.

Okay.

Off the top, I would say those are at the higher end, I think soft lines was at the lower end.

Okay.

And then last question would be just on the gas, wondering if you guys have done any sort of studies in terms of the rub off on people coming in and what the conversion is of people that actually come in to purchase or buy gas that actually enter into the store, and how that's maybe trended over the past three quarters given how strong your traffic is?

Recognizing we don't want to know too much it's dangerous internally, and we're not going to do anything to change it.

But about 30% of the people that buy gas go into the warehouse.

And the question is is were they planning to go to the warehouse and got gas?

I can tell you as a consumer even when I plan to the go to the warehouse and said I you know what I can use gas too, I look at the line I said I'll do it tomorrow.

So, my guess is, I can't even guess.

I know that number, the 30, about 30 people out of every 100 who buy gas shop.

Okay.

All right.

Thanks very much.

Your next question comes from the line of [Mark Willamuth] with Morgan Stanley.

Hi, good morning.

Just a follow up on your margin commentary on the food there, is the food margin itself up in that category or is the mix up because the food margins are higher than the rest of the business?

I would say it's both.

Keep in mind your most leveragable margin opportunities are in fresh foods.

When you-- in your bakery, your raw materials are a fraction of the total sales dollar, your labor and electricity and depreciation are another fraction.

That if you sell one more dozen of something you make a bunch of money on it so that-- and given that many of our, as an example bakeries are higher volume to start with, as people are in theory coming to us more because of food or we're adding members because of food, I think that you probably get the biggest bang for your buck on those members.

Does that make sense?

Hello?

Mr.

Mark your line is still open.

Okay.

Thank you.

Your next question comes from the line of Peter Benedict from Wachovia.

Hi, Richard.

First can you revisit the fourth quarter of last year I'm a little unclear.

What was the gas impact on gross margin last year?

I know you said gas margins were strong but when you kind of take it in with the mix and everything, what was the impact on gross margins last year?

Yes, right before the call I was looking at the transcript.

We didn't say specifically what we said, it was a question I think by Trent Grom in the transcript last year, that asked what portion of the margin of this incredibly strong margin for the first time year-over-year was initiatives?

And we said it was somewhere around a quarter to a third implying that other things were a little over half.

And that's as granular as we got.

Okay.

That's fair enough.

And then you mentioned that 60% of the 4,000 SKUs that you guys carry are basically not part of this, these initiatives.

Of the 1,600 SKUs that you can work with on margin, can you give us a sense of maybe how many you guys have touched at this point?

We-- not really.

Keep in mind also that a lot of it's seasonal stuff.

When we bring in lawn and garden, every, us and Sam's while we both will carry the same type detergent and the same M&M's and the same Snickers, 36-count of Snickers bars, when we bring in a swing set and patio furniture and door mats or at Christmas time when we bring in a different SKU or pack size of wrapping paper or ribbons or snow globes with the music box or gift packs, all these things are unique, and what we've done is is say hey we deserve to make more money as a Company.

We're not going to make it by trying to make more money on fiercely competitive commodity items which is you're just not going to do competitively.

And where we can do it is in certain import items, certain seasonal items and it is more of an item just like our Company is an item driven basis of where we can do that.

I use the example of even on some produce items, I think we do one of the best jobs of being in season for more weeks a year on seasonal produce.

The example that I've been given by our people here is grapes, which is $100 million plus business for us now.

And if the food chains of the country, the supermarkets chains are in grapes, and when I say in grapes they're in big sizes at reasonable prices half the year or 20 weeks a year, we're in grapes for 40 weeks a year or 35 weeks a year and we can make a better margin particularly during those weeks when nobody else can sell the size and quality that we sell.

I think the recent presentation I saw we're now procuring produce from 28 different countries and utilizing some of our international sourcing from our regional, international operations.

And we can use our global buying power when somebody is Asia is going out to get some of those items in other parts of the world.

So it's nothing brilliant, it's structurally I think we're unique in a lot of ways.

And that's just one of the benefits we have.

Yes, that's fair enough.

Thank you.

And then just the last question, in April I think your average gas selling price was a little over $3.40.

Can you give us a sense of what your assumption is as we look out to the fourth quarter?

I know you can't forecast gas, but in your outlook for the fourth quarter earnings $1.01 being towards the higher end of the range, what type of gas price are you guys assuming at least at this point?

I think gas, the swinging gas year-over-year could be anywhere from I'm going to be very wide here, $0.03 to $0.07 difference from last year, I mean off.

And you just don't know.

And again I'm being conservative but you just don't know.

Okay.

Thanks very much.

Your next question comes from the line of [Uther Werner] from Bernstein.

Good morning, Richard.

Wonder if you can you please give us an update on how the newly opened international units are working out and maybe an outlook on how you're progressing with other international expansion over the next few quarters?

On the first part of the question, our-- the recent opening I think we've had two or three openings in Asia in the last few months, they've done particularly well.

I think I made a comment last quarter that one of your units either in Korea or Taiwan tha opened, if you took the average number of members we have per warehouse in our whole Company, recognizing the average warehouse does $130 million plus in sales, the average warehouse is 15 to 20 years old, so but have been around for a long time.

I think we have about 56,000 or 55,000 members per warehouse.

We opened a couple of units in Asia in the last few months, which had more than 50,000 paid sign ups on opening day.

Recognizing we collect-- you can come in and sign up usually during the six to ten weeks prior to opening once we have a tent outside and the balloons and the parking lot that they can park in.

So we've never experienced anything like that anywhere in our Company other than when we did freebies in new markets.

So those units are starting off strong.

I don't recall other international units.

Canada while it is international it's so much like in the U.S.

in terms of maturity and success and predictability that we really don't get surprised.

Those are good successful units for us from the get go.

But in terms new markets I would say that we've only opened up I think one in the UK in the last year if that.

So overall I'd say they've gone well.

We have been-- what we see and I think back to even a market like Chicago which is not foreign but was new for us.

And we opened our first Chicago unit at least 15 years after our competitor Sam's had been there for a long time.

And once we had one or two units they did okay but they were certainly below average recognizing it was a new market in the first few years.

But it seems like whenever when we go into any new market be it in a foreign country or even a major metropolitan area like in Chicago, once you get past the three or four units recognizing we don't advertise but people know us better and we start to see all of them build a little faster.

And we've seen that in a selected few markets that I can give you examples like the Chicago here and we're clearly seeing it I think in like Taiwan-- Taipei and Seoul, Korea.

And how is Australia progressing?

By the way my final comment on that was and these are countries by the way that have no gas sales, which is a big boom here in any market we go into because of it's top of mind.

The-- Australia is going.

I don't know-- does anyone have a prepared sheet, what does it spec?

3/09 would be the first unit and the second unit following within six to 12 months.

That's helpful.

And on a different note, how about your internet sales, could you give us a little bit more color on what's been driving the strong sales growth and what's going on with mix?

As I recall, our average ticket has been at a low 400s like I want to say 4.25, 4.40 and I think in the last couple of quarters it's come down slightly it's still above 4.

I recall that from the last couple of budget meetings.

I think we started the year back in the fall, comps were in the 40 plus range, now they're in the mid-20s, but, but I got to tell you, one week it was ten and one weeks it's 50.

It's just-- I think it depends partly on what we're selling.

I think part of it is is we're still getting much better comps online than electronics as an example than in store, but that's what we sell.

So we're, w're still doing it our way.

It is a limited selection.

It is 80% plus of the units are not overlapped with the warehouse.

They're extensions of what's in the warehouse, and it's 1.6 billion is nothing to shout out.

Thank you, Richard.

Your next question comes from the line of Mitch Kaiser with Piper Jaffray.

Thanks, Richard.

Good morning.

I was-- you mentioned that you showed gross margin expansion in all four categories anywhere from low double-digits almost up to 100.

Would you be willing to just kind of rank those?

Not other than what I already mentioned.

Certainly fresh foods and electronics, so hard lines are at the higher end and soft lines at the lower end and basic food and sundries is half of the business.

So it's got to be somewhere, it's the whole Company, all four of those together was 27 it can't be that different than that.

Okay.

Okay, sounds good.

And then did you quantify how much food inflation hurt margin?

No, because I don't know if we have calculated it out that way.

Our MO is again, is pretty simple and straightforward.

We're going to hold prices as long as we can and as long as we can means if we bought in we are going to keep it longer than everybody else at the lower price and not make anything, but where as some retailers will choose to bring up the price quicker.

And also we're going to be subject to what our competitors do even if we feel we need to raise the price on a very competitive item we're not going to be the first one to do it.

I think the good news there is is that we all are in the same boat.

We all have inflationary costs expenses to deal with and I think the expectation of our customer is that there's some inflation out there that has to be passed on.

But we're always going to be the last to do it.

Now last doesn't mean we're waiting a year.

Last could mean we're waiting until after they do it.

And then we're going to-- it's also subject to seeing if there's a big impact on sales volume.

But again, I think antidotally the story I told before about a couple of years ago with rising commodity costs increasing for wood and coal and energy cost related to producing all kinds of paper goods from Pampers to toilet tissue to paper towels to copy paper, you had to-- I remember hearing a story internally back in early '06 that the manufacturers are talking to the retailers be it us or I'm sure Wal-Mart and Target or supermarkets as well we're going have to raising some of those-- they're going to have starting raising some of those prices to us.

And I think it was the purchasing power of us collectively that was able to A hold off on some of the increases and B when they came through they were probably less than the manufacturers originally wanted to.

Ultimately they said next Thursday this is the new price because they were-- we did our job of holding them off as long as possible.

I think in today's environment we see more manufacturers just bringing you increases.

Now we have a little bit of an advantage in the sense that we don't have to sell all four brands and all six sizes of something.

So if anything we can push a little harder knowing that we're prepared to sell brand A instead of brand B because they're both high quality national brands.

But I think probably there's an expectation out there that there's nothing you can to with energy cost and production cost and freight cost going up like they have.

Okay.

And then lastly I know there's been some discussion on this but I just want to make sure that I'm clear.

We should be thinking, and I know that there's a number of factors particularly gas that could swing things one way or the other.

But in terms of thinking about the fourth quarter kind of flattish merchandise margins and then potential to leverage SG&A similar to the fourth, the third quarter rather?

I haven't-- I think if you take gas out we should show some improvement even with some, even with some-- the fact that we're anniversary against some improvement from the initiatives.

But we'll have to wait and see.

That's on the merchandise margin that you're referring to?

Yes.

And then on the SG&A side, again I think sales assuming comps remain as they have been, and the fact that we've anniversaried the dollar an hour increase, there hopefully shouldn't be any big surprise there.

And again I think earlier in the call somebody said do you think you can you still get 12 like we did this quarter and the 8 and 4?

And my guess was is it won't be 12 but it won't be 0.

Okay.

Under those assumptions.

Okay, fair enough.

Thanks.

Good luck.

Your next question comes from the line of Joe Feldman from Telsey Advisory Group.

Hey there, Richard.

Just a question about the Government's rebate checks.

If you've started to see any impact from that and if not, what maybe you are expecting for the next couple of months from the rebate check?

We really-- I mean it can't hurt but we really haven't seen any impact from it as we hadn't a few years back when there was a Government rebate check.

And if I recall a few years back there was the Government rebate check it was the dollar only stores, $0.99 only, Dollar General it was the Wal-Mart and K Mart stores that tended to benefit from it.

And it was the higher-end retailers as well as like the Costcos that indicated they really hadn't seen any.

So we really don't expect a lot from it.

We're not doing anything to promote it.

It's not really-- our view is that our average member is sticking in the bank and again on a macro marginal basis it can't hurt but it's not, it's a big deal.

They're not coming to us to buy that big ticket.

Got it, got it.

And then as just sort of a separate question, the television category for you guys has been a bit soft the past several months.

I'm just wondering what you think, if you could update us as to what is driving that and what your expectations are for the balance of the year in terms of product flow and what type of availability and maybe pricing pressures that you might see?

Well, I think-- I believe it's two things.

I believe that the economy is hitting big ticket sales and even-- and the other thing is as flat screens went from $4,000 to $3,000 to $2,000 to $1,000 that people were buying them.

So a combination of a weaker economy and the fact that everybody already has two or three of them, that all of those things together impact it.

I give the story personally that for ten years, let's say throughout the 90s, our family had one big expensive $2,000 Mitsubishi 35-inch, plus a couple little TVs and one camera.

I think in the-- since 2000 we've got three or four flat screens and five cameras.

Every time they come out with more megapixels and a smaller size and you give the old ones to the kids and you--.

So everybody's got a bunch of this stuff.

And even things like Blu-ray not everybody is rushing out to buy Blu-ray yet.

people are tired of spending several hundred dollars on a new machine and they don't want to do away with everything yet.

So I think consumer electronics will continue to come out with great and cool stuff and it will-- it's been so strong for so long, in my view it's almost like a breather.

And there's still a lot of great stuff coming out.

But in these trying times, even if what you perceived was a-- well you get a great lap top now under $1,000, it wasn't two years ago that it was over $2,000.

And so I think though even though it is under $1,000 you're not just rushing out to get the new and latest and greatest because your old one does movies and internet, e-mail just fine.

And not everybody needs 28 gigahertz or whatever.

Right, great.

Thanks very much.

And good luck.

(OPERATOR INSTRUCTIONS).

Your next question comes from the line of Robert Drbul with Lehman Brothers.

Hi, Richard.

Just one question for me is on the membership fee income string, I mean with the initiatives that you have underway do you think you'll be able to reaccelerate growth with what you're seeing over the last several quarters?

Well I look at it as even though it was lower by six basis points and it's 10.5% member growth or dollar growth and on 6% square footage growth, I think we're doing pretty well.

Again, I-- when we first looked at it I said what the heck, this is usually flat or something.

If you just take out gasoline inflation and that's a simple mathematic equation, it's minus two or three basis points not six, but again if you take out cost of sales we're a lot more profitable too.

So you can't just take out things.

I think our marketing-- our membership department feels very good about the initiatives we have underway.

I think we've seen it on frequency, we've seen it with even some of the things that our partner American Express has done.

3% on top of the 1% you get on all other Costco things at Costco gas stations is, and it's nothing we're paying for, it's getting more people to get that piece of plastic in their wallet, that's working.

And anything that we can do to drive business, I think we're doing a pretty good job of doing that.

What we're not doing is TV advertising or crazy stuff that's not on our list.

And I think you know we're going to, we're going to be focusing on the value proposition.

And so I think that we're doing fine there.

Okay.

Thank you very much.

Your next question comes from the line of [Sandra Baker] from [Watts and Caldwell].

Hi, Richard.

I had just a couple of questions.

Just on the member question that Bob asked, can you talk a little bit about what kind of trend you would expect going forward now that we're two years out from the fee increase?

And then just any comments you have generally about the competitive environment.

On the first question, way back when when we had no price increases, in a good year you'll see membership fees as a percent of sales go down two to four basis points.

There's a little mitigation from the conversion to executive member that helps you a little bit there offset that, not completely.

We don't anticipate any price increase in the next year or so.

So, again I'd probably see it down slightly as a percent of sales.

On the second question was?

Competitive environment.

Well I think we and Sam's are continue to be fiercely competitive.

When we look at our most competitive markets that we define as our new markets where in the last six or eight years we've gone from the first time and they had been there 15 years like Texas like the Midwest.

On a marker basket of 100 commodity items, there's very, there's less than 0.5 percentage point difference sometimes.

And we are both in each other's warehouses more than once a week comp shopping key items where-- and so they continue to be competitive.

And in fact can't get any worse.

I think that BJ's has gotten more competitive since some their management changes of late.

It seemed like for a couple of years we were not comp shopping them nearly as often because margins were so different.

They're still not as tight as us versus Sam's but we comp shop there more regularly.

And so I-- there's no rush to improve profits by being less competitive.

I mean it's still fierce out there.

(OPERATOR INSTRUCTIONS).

You have a follow-up question from the line of [Uther Werner] for Bernstein.

Hi, Richard.

I had a question related to the merchandise margins and the pass through on the food cost inflation.

I seem to remember that you said you're not going to feel it this year because then you mentioned electronics credit.

But if we were just to look at food items and staple items in household categories for example, does it mean vendors are not trying to pass through food costs, cost inflation to you or does it mean you are passing it through to the consumer or only partially and therefore you have to offset it in some ways with margin improvements in other categories?

I am just confused I think how the whole pass through is working out.

I'm confused a little too but I'll give it a shot.

I think first as a good retailer should be we push hard not to get price increases from our manufacturers.

Ultimately we recognize that when such an increase does come through it's only after we've delayed it as long as possible and mitigated the size of it.

At such point it comes through we're going to buy in as much as we can at the low price, typically manufacturers will allow you to buy in a certain number of weeks of your average prior weeks sales and purchases from them.

And then we're going to typically hold it, hold the low price longer than our competitors.

So, but ultimately we're not in the business to lose money.

Are we in the business to make a little less if necessary, yes.

But I'd day it's not 100% efficient but 80% efficient in terms of timing of when we can pass through things.

But we don't just look at something well it costs us 3% more from the manufacturer so we got to raise the price 3% tomorrow.

I think where we can offset some of it to the extent that some delays sometimes in that, is on those other initiatives whether it's private label penetration or identifying those items where we can add if you will a little margin because of the value of our depot operation and our import department.

We can talk offline and try to better explain it, but there's not a whole lot to explain there beyond what I think I just said.

No that's what I needed to hear.

Thanks, Richard.

One last question.

(OPERATOR INSTRUCTIONS).

Okay.

Well, thank you everyone.

And there are no further questions at this time.

Thank you, everyone.