Carter's Inc (CRI) 2006 Q2 法說會逐字稿

Ladies and gentlemen, please stand by. We are about to begin. Welcome to Carter's second quarter 2006 earnings conference call. On the call today are Fred Rowan, Chief Executive Officer; Joe Pacifico, President; and Mike Casey, Chief Financial Officer.

After today's prepared remarks we will take questions as time allows. If you have any follow-up question after today's call, please direct them to Eric Martin, Vice President of Investor Relations. Mr. Martin's direct telephone number is 404-745-2889. Again that is for 404-745-2889.

Carter's issued its second quarter earnings press release yesterday after the market closed. The text for the release appears at the Company's Web site at Carter's.com under the press release section. Before we begin let me remind you that statements made on this conference call and in the Company's press release, other than those concerning historical information, should be considered forward-looking statements and actual results may differ materially. For a detailed discussion of factors that could cause actual results to vary from those contained in the forward-looking statements, please refer to the Company's most recent annual report filed with the Securities and Exchange Commission. Also on this call the Company will reference various non-GAAP financial measurements. A reconciliation of these non-GAAP financial measurements to the GAAP financial information is provided in the Company's earnings release. Now I would like to turn the call over to Mr. Rowan. Please go ahead, sir.

Good morning. We had a good quarter. In my opinion it was better than the numbers reflect because of our continuing investment in our future and some positive signs we are seeing from those. We invested heavily in merchandising and design, Talent, our retail store Talent, branding, new store concepts, and understanding our customers and consumers.

This is a company in transition, continuing to be certain. We build our brand, build brand equity, and deliver to our shareholders. We intend to continue to deliver these excellent results as a top performing company. Our objective today is to convey those results for the quarter, but also help you understand our direction and the reaction we are getting from that direction.

What we see developing in our business model is a significant elevation of our products across all brands and sub-brands. I don't think there is going to be any comparison to our products as we enter our spring '07 season. Also a strong forward order base for both flagship brands with our spring '07 products and current strong replenishment in our baby business at Carter's.

We have a more talented retail team getting stronger, broader and deeper. We have a much better Carter's retail store (indiscernible) with rollout currently delivering higher brand equity and our new concepts. We have a definite point of view now for the OshKosh products with good customer reception. And we have cost reduction opportunities to continue to propel product innovation and improve our operating margins.

We are being conservative in the third quarter, but we feel good about the year and especially good about 2007. Now I will turn the call over to Joe Pacifico, our President.

Good morning. As Fred stated, we had a strong quarter with consolidated Company revenue of 44%. If you exclude OshKosh from that, revenue was up 7%. In the quarter we have positive revenue growth across all five business segments, if you exclude our off-price sales in the wholesale channel. We continue to focus on our organic growth in each of our five business segments.

As we have mentioned before, one of our key competitive advantages is a balanced portfolio of brands and distribution. This gives us multiple leverage to pull for growth and helps reduce our dependency on any one business segment. I will walk you through each of the brands on a standalone base, covering quarter two and first-half performance and I will give you an outlook for the rest of 2006.

For Carter's total sales were plus seven in the quarter, plus 8% year-to-date. Excluding the off-price we had positive growth in all three of our distribution channels for Carter's. That is the wholesale Carter brand, mass at Target and Wal-Mart and our retail division. Talk about Carter's wholesale, our revenue excluding off-price was up 2 the quarter and up 4% year-to-date.

Overall we had a successful spring over-the-counter selling season and our inventories are clean in our top accounts going into the second half. Regarding private markets, baby continues to have a very strong year in both shipments and over-the-counter selling. A couple of things we have done in baby, we were transitioning our core Starters program earlier this year than we did the prior year so we are shipping at this year 6/20 and 7/20 versus last year we shipped at 7/20 and 8/20.

Our old Starters program sold through very successfully so our inventories are very clean and no significant markdowns with the transition. Initial selling on the new Starters is extremely positive. This is real importance as Starters is more than two-thirds of our baby mix and really drives replenishment in the second half of this year and into the first half of 2007.

A launch isn't commenced for spring '07 in the baby business. We're up double-digit. These of the largest orders we've ever received in baby Carter's. I think our ability to achieve double-digit year-over-year growth of our most developed business speaks to the success of our strategy to drive growth and increase market share with our core products to increase product benefit and design.

Sleepwear business, down in the quarter and that is because we moved fall deliveries to the right. That is out of quarter two and into quarter three and quarter four. I think we have positive spring over-the-counter selling season and much less clearance product on the floor and key accounts from last year. Fall is just starting to hit. We shipped our fall playwear and sleepwear the last week of June so we really don't have any selling it. But we are projecting the year to be up high single digits in sleepwear. We will be selling the spring '07 sleepwear line to our accounts in August and we are expecting double-digit growth in the spring '07 sleepwear line.

In regards to playwear, good spring over-the-counter. Like baby and sleepwear our inventories are cleaner than the prior year. Again, fall just hitting the floor. Spring is on sale now, and we are getting very positive feedback. Actually we have gone over 95% of our orders in for spring and we are projecting double-digit growth for spring '07 playwear.

Regarding our key accounts, strong second quarter. Our top three accounts, shipments were up to all three, double-digit. We continue to see our largest growth coming from our most developed accounts which again speaks to our ability to drive organic growth in our core business and we are doing that by focusing on our productivity gains.

Mervyn's and Federated were down. That's due to store closing. This was in our plans and has no impact on our revenue projections for the year. I believe in wholesale position very well for a strong second half and that momentum should carry into 2007. We have elevated the product. Our customers have much cleaner inventory. Baby transition is behind us. That will help drive both revenue and profitability for both us and the customer in the second half.

All of our spring 2007 orders are in hand for baby, and we'll be up double-digit. 95% of our playwear orders are in and we are projecting that to be up double-digit. As I said, we don't have sleepwear yet, but based on the prelines we have done with our top three accounts, we will project double-digit growth there as well.

Spring '07 is really the first time in wholesale I can remember that baby sleepwear and playwear have all been planned up double-digit at the same time. With regard to mass, combined revenue for the mass channel was up 31% in the quarter, 34% year-to-date. Talk about just one year, our shipments from Target were up 11% in the quarter and 29% year-to-date. That growth second quarter to 20% of that is from the increase base, 42% from productivity, and 38% from new doors.

Brand wall, we had an excellent spring season. We've been chasing demand all season at Target. The new fall brand wall will be set in August. We shipped at 100% complete so it is ready to go. Fall hanging product hit the floor within the last couple of weeks. Early selling has been above plan. We expect positive momentum that we've had all year with Target to continue into the fall season.

We are currently booking spring '07 and we will achieve our plan. Child of Mine, another great quarter at Wal-Mart with our Child of Mine brand revenue up 45% and up 37% year-to-date. Second quarter growth driven by 39% from increased space, 39% from productivity, 8% from new doors, and 14% from time associated with the brand wall launch. You remember we told you we launched the brand wall earlier this year at Wal-Mart's direction than we did the prior year.

We relaunched the brand wall on 6/12 versus 8/7 last year, really a tremendous success. Wal-Mart extremely impressed with the efficiency with which we made the transition. They had never seen in stock at such a high-level so quickly after a transition. And we are very encouraged by the early selling results. Again remember this brand wall drives replenishment business for the second half of '06 and into the first half of 2007.

We continue to drive productivity on all of our programs at Wal-Mart and as we do so, we continue to gain new space. Fall product starts hitting the fall next couple of weeks, should have a good read by the middle of August. Currently booking spring '07 and again we will achieve our plan. In the mass we're confident we will achieve our 2006 revenue objectives.

Talk about Carter's retail, at the end of the quarter two Carter's had 200 retail stores. We opened four in the quarter and closed three. Quarter two revenue was plus six for the chain while comps were up 1.8 versus last year our comparison of plus 7.1. Comps were below our previous guidance due primarily to lower average prices than resulted from more clearance than we carried first quarter. We had negative comps in the first quarter.

Baby, we transitioned just as in wholesale. We transition earlier in our retail stores and we are still continuing our strategy of exiting seasons more aggressively. All of our other Q metrics are up, including transactions and UPT's.

We will have a better second half in retail for many of the same reasons I have mentioned. Wholesale, elevated product, the baby transition behind us, direct marketing campaign this year that we did not have last year, a new fall floor set for fall, which includes making the shopping experience easier, designed to encourage multiple sales under easier to understand price points, lifestyle merchandising by age set. Again much more focus on product, more powerful merchandising statements in the new store set, more emotion in the store through the windows at the in-store experience.

OshKosh, even though we did own OshKosh in the first half of last year I want to give you some direction on our progress by sharing some of the quarter two performance numbers. You will remember at the acquisition we made a decision to exit certain unprofitable businesses, wholesale accounts and outlet stores. In the second quarter the total revenue from these non-recurring sales was almost $10 million. Having said that, excluding that 9.9, sales were plus five in the quarter for OshKosh.

I will start by talking about the wholesale business. OshKosh wholesale excluding our price the wholesale business was plus 3% for last year in quarter two and it's plus 19% if you back out $2.5 million of non-recurring wholesale sales. Up price sales at OshKosh were $2.3 million in the quarter versus $4 million in the prior year.

Gross margins improved in the first half and you should expect more significant improvements in the second half. Our second half revenue, the fall holiday lines are playing down 10% from last year but plus 3% after adjusting for non-recurring sales. Despite the 10% planned decrease in sales in the second half, we are projecting our margin dollars to be plus 22%. Fall product again is shipping now too early to get any over-the-counter selling results.

I think most significantly we have learned a lot from the fall and holiday lines and we have applied that to the spring product. We definitely -- those of you who saw the product last week, significantly better product, superior fabrics, washes. Our colors are definitely a much more prominent color statement. Lots of details we have added to the product. Much more branding is more prominent on our products and we are taking a much more key item approach versus collection business that OshKosh used to do at wholesale. And those key items are merchandised with a lifestyle look.

Prices to our customers and consumers are coming down. As we told you, we have positioned fall too high. Our orders will be due mid-August and we are receiving a very positive reaction from our key accounts and we will project double-digit growth in the spring '07 bookings.

OshKosh retail, again although we have own OshKosh in quarter two last year, I want to give you an indication of how the stores are performing this year under Carter's management. Total revenue was down 13.8 and that's because we had closed 30 stores since the acquisition. However our comp stores were plus 2.6 in quarter two.

As a result of these store closings and implementing Carter's management disciplines, we have improved the floor wall contribution 170 basis points, 19% for the quarter. Carter retail stores have wall contribution 25 to 30, and we believe OshKosh had the opportunity to reach these levels long-term.

We have accomplished a lot in the last year since the acquisition. Great job of integrating the two companies. I think we have made excellent progress on cost reduction. Now we're going to focus on growth in both the wholesale and retail chain.

In closing, the results of our Company comes from our focus on our core businesses. We continually drive growth with a focus on product improvement, strong partnerships with our customers and superior execution. This formula has served us well and continues to be the cornerstone for our long-term growth. We have made significant progress in establishing these disciplines and strategies at OshKosh.

On top of our positive results so far in '06, we continue to make significant investments in our business and in people in order to drive long-term growth. Our cross functional team continue to elevate product (indiscernible) and design and this gives me great confidence for the balance of this year and into 2007. With that, I'll turn it over to Mike Casey, our CFO.

Thanks, Joe. Good morning, everybody. I will walk you through our second quarter results and I will comment on our outlook for the third quarter and the fourth quarter and the year. Just as a reminder we completed two-for-one stock split in the second quarter and our results in guidance had been adjusted to reflect the stock split.

For the second quarter we are reporting GAAP earnings of $0.15 per diluted share, which includes acquisition-related charges of $0.01 per share related to the amortization of OshKosh intangibles and $0.01 per share in compensation expense related to the new standard for stock option accounting. These charges are not in the prior year results.

Our GAAP results in the prior year include charges of $0.05 per share for costs related to the closure of our selling facilities in Mexico. Because these charges impact comparability, I'll comment on our results and our guidance excluding these charges. We have outlined charges in our press release which is available on our website.

Excluding these charges, adjusted earnings for the second quarter are $0.17 per diluted share up 21% in the quarter and $0.01 better than the guidance we shared with you on our last call. We had good earnings growth in the second quarter. As we said on previous calls, as expected OshKosh was diluted to net income in the first half. The fact that we've grown earnings over 20% in each of the first two quarters this year, despite this dilution, reflects the strength of the Carter's business model.

In the second quarter our consolidated sales were $278 million, up 44% and included $71 million in sales from OshKosh. Excluding OshKosh, our sales were $206 million, up 7%. Our consolidated wholesale sales, excluding off-price sales, increase $20 million, or 27% in the second quarter, including $18 million in wholesale sales from OshKosh.

Excluding OshKosh and off-price sales Carter's wholesale sales increased to $2 million or 2% and that is consistent with our previous guidance. As Joe mentioned, our mass channel brands, Child of Mine and Just One Year, continue to experience very strong demand, with sales up $12 million or 31% in the second quarter.

On a consolidated basis, our retail sales were up $55 million driven by OshKosh retail sales of $51 million. Carter's retail stores increased 6% in the second quarter. We had expected growth of about 10%. Carter's retail sales were $3.7 million, or 5% lower than expected. In absolute dollars, comps were $2.7 million lower than planned, coming in at 1.8% versus our range of 3% to 5% growth, and sales from our 23 new stores opened over the past year collectively were about $1 million, or 15% lower than expected.

In the second quarter on a comp basis, our transactions increased 2%. Our units per transaction increased 3% but our average prices decreased 3%. The lower average prices reflect aggressive promotions to clear spring merchandise to make room for our new fall products. Our lower average prices also reflect growth of 16% in sales of our baby products in the second quarter. On average, the retail price of our baby products is about 4% lower than our sleepwear and playwear prices.

Baby product sales are up 14% year-to-date in our retail stores. We have opened 23 Carter stores over the past twelve months. In many cases these stores are in new centers which have good cotenancy but are not yet getting the traffic we expected. On average, these new stores are expected to generate about $900,000 in sales per door this year. From our experience over the past few years, it is not unusual for some new stores to underperform in their first-year, but we have seen them ramp up to our model of $1.3 million to $1.5 million per door within the first few years.

Of the 17 stores we opened in 2005, four have begun comping in 2006 and three have achieved over 10% comp growth this year. As traffic builds in these new centers we believe our new stores will achieve our financial objectives of at least $1.3 million per door in sales and 25% to 30% for wall contribution.

As you know last year, we significantly upgraded our retail leadership team. We have a new real estate management group who has improved our site selection criteria and our store opening process.

With respect to profitability on an adjusted basis, our consolidated gross margin in the second quarter was 35%, up 20 basis points compared to 34.8% last year. Carter's gross margin was about 33.8%, down 100 basis points compared to last year due to a higher mix of mass channel sales and lower margins earned in our Carter's retail stores.

The mass channel represented 25% of Carter's sales in the second quarter compared to 20% last year. For the year we expect the mass channel to represent about 21% of Carter's sales compared to 19% last year. Gross margin in Carter's stores in decreased from 53.7% to 51.1%, driven by higher promotions of spring merchandise.

With respect to OshKosh profitability in the second quarter, OshKosh's gross margin was about 39% and in line with our expectations. We have made significant progress improving the profitability of OshKosh. We improved OshKosh's gross margin 160 basis points in the second quarter and 150 basis points in the first half. We expect to improve OshKosh's gross margin over 400 basis points in the second half and over 300 basis points for the year.

We have improved OshKosh's margin by editing out low margin customers, low margin products, closing unproductive stores, and improving the sourcing formula. With respect to set spending in the second quarter on an adjusted basis, consolidated SG&A was 28.9% of sales and that is in line with our expectations and up 230 basis points compared to last year. The increase was driven primarily by OshKosh's higher cost structure given its retail sales mix. Retail is a 71% of OshKosh's sales mix compared to 35% for Carter's sales.

We've had very good growth in our royalties earned on our licensed products. On a consolidated basis, our royalty income for the second quarter was $6.7 million, up $3.8 million compared to last year. This increase includes $3.4 million in royalties earned by OshKosh. Excluding OshKosh, our royalty income was up 17% in the quarter, driven by Child of Mine and Carter's brand licensed products.

As expected on an adjusted basis, our consolidated second quarter operating margin was 8.5%, down 110 basis points compared to last year. The decline in our operating margin was entirely due to the impact of the acquisition. For the second quarter in the first half, OshKosh achieved a positive operating margin. Consistent with our integration plan we have significantly improved OshKosh's profitability.

We are on a track to achieve our acquisition cost savings goal which is over $20 million this year. In the first full year of managing OshKosh, we expect to improve OshKosh's operating margin from 4.5% in 2005 to 10% this year. We continue to believe that over the next few years OshKosh's operating margin could approximate Carter's operating margin of over 13%.

Interest expense for the second quarter was $6.9 million, was up 70% compared to last year, entirely due to the financing for the acquisition. Our average borrowing rate for the second quarter was 6.7% compared to 9.2% last year. The reduction reflects the benefit of the refinancing last year.

We believe we are adequately hedged and have planned for further rate increases. A year ago we put in place an amortizing interest rate swap that currently covers approximately $167 million, or 42% of our term loan. Federated 4.3%. During the second quarter this year we also entered into an interest rate collar on an additional $100 million of debt with a ceiling of 5.5%.

Keep in mind under our term loan agreement, our pricing is LIBOR, plus 150 basis points, so the effective rate on the swap is 5.8% and 7% for the collar. Together these hedges cover two-thirds of our outstanding term loan borrowings.

Given the interest rate protection in place and the benefit of the refinancing last year, we expect our average borrowing rate for the year will be about 6.5% which is comparable to last year.

In terms of liquidity, cash used in operations in the first half was $2.7 million and was driven by a reduction in accounts payable and accrued liabilities and an increase in accounts receivable in inventories. Inventories increased $51 million compared to June of 2005. This increase was due entirely to OshKosh. Carter's inventories have decreased $4 million, or 3% since June 2005.

As you know, we have made significant progress reducing debt. A year ago we borrowed $500 million to finance the acquisition and to refinance Carter's debt. Since the acquisition we have reduced debt by $106 million, or 21%, and improved our leverage from 3.2 times to 2.2 times earnings. We expect to pay down the term loan $50 to $60 million in total this year.

Given the strength of our cash flow, we had no revolver borrowings during the quarter or the first half of the year. We expect our average borrowings on our $125 million revolver to be less than $5 million this year, with a peak need of less than $15 million in the third quarter.

CapEx for the first half was a $7.5 million primarily for retail store openings and systems integration. We expect CapEx for the year will be approximately $40 million, over half of which will be invested in our retail stores.

With respect to guidance for the third quarter, consolidated sales are projected to be $385 million, up 3% over the third quarter of 2005. Carter's sales on a standalone basis are projected to be $291 million, up 6%. Carter's wholesale sales, excluding off-price sales, are planned up 4% in the third quarter; off-price sales are planned down 25%. That is consistent with our first half trend.

Mass channel sales are planned up 12%, and Carter's retail stores are planned up 6% in the third quarter, with comps planned up 2% to 4%. OshKosh sales are projected to be $94 million, down $2 million, or 2% in the third quarter. Keep in mind, in connection with our acquisition plan, we edited out over $15 million of unprofitable OshKosh sales reported in the third quarter of 2005. So on a comparable basis, OshKosh sales are expected to increase 4% in the third quarter.

In the third quarter, we expect consolidated and adjusted gross margin to improve from 37.6% to 38%, and SG&A is expected to increase from 23.7% to 24% due to the investments in our retail segment, including our new leadership team, store conversions, and retail marketing initiatives. Royalty income is expected to increase about 12% in the third quarter, and our operating margins are expected to improve from 15.8% to 16% of sales.

Earnings per share for the third quarter are planned at $0.56 per share, up 10% compared to last year, excluding charges of $0.01 per share related to the amortization of OshKosh intangibles and $0.01 per share in compensation expense related to the new standard for stock option accounting.

For comparability purposes, our growth estimates exclude $0.33 in charges in the third quarter of 2005 related to the acquisition, refinancing, and plant closures. On our last earnings call, we had expected third quarter earnings of approximately $0.59 per share, or growth of 15%. Based on current trends in our Carter's retail stores, we have decided to take a more conservative view on the retail growth for the third and fourth quarters.

We have also taken a more conservative view on spending for the second half, which we expect will partially offset the decline in earnings contribution from Carter's retail stores in the third quarter and will result in better earnings than previously expected in the fourth quarter.

For the year, we expect our earnings will be slightly better than our previous guidance. As we said on our last earnings call, we expect our second half growth will be more heavily weighted in the fourth quarter. With respect to the fourth quarter, we expect consolidated sales to be $375 million to $380 million, up about 8%. Carter's sales on a standalone basis are expected to be $273 million to $278 million, up 11% to 13%.

Carter's wholesale sales, excluding off-price sales, are planned to be up over 20% in the fourth quarter, on 3% growth in the fourth quarter last year. This growth reflects the timing of fall deliveries. We've shipped more in the fourth quarter this year versus the third quarter last year. We have also had good visibility on demand for spring 2007 products which begin shipping in the fourth quarter.

Wholesale sales for the year excluding off-price sales are planned up 9%. Mass channel sales are planned up 9% in the fourth quarter, and planned up 21% for the year. Carter's retail sales are planned up 7% in the fourth quarter, with comps flat to up 2%. For the year, Carter's retail store sales are planned up 5% with comps flat to up 1%.

For OshKosh, we expect sales in the fourth quarter will be $102 million, down 1% from the fourth quarter last year due to editing out almost $11 million on profitable sales reported in the fourth quarter of 2005. So on a comparable basis, after excluding nonrecurring sales, OshKosh sales in the fourth quarter are expected to be up 10%. OshKosh wholesale sales are projected down 11% in the fourth quarter but up 7% on a comparable basis after excluding nonrecurring sales.

OshKosh's retail sales are planned up 8% in the fourth quarter with comps up 3% to 4%. On a comparable basis after giving effect to stores closed in connection with acquisition, retail sales are expected to be up 11% in the fourth quarter.

On an adjusted basis, we expect consolidated gross margin in the fourth quarter to improve from 36.9% to about 37.5% driven by the improvement in OshKosh margins. On an adjusted basis, we plan to improve our consolidated operating margin in the fourth quarter from 11.8% to 14.8%, with gross margin up 60 basis points and SG&A which is projected to be around 25% of sales, down 240 basis points from last year.

The improvement in SG&A reflects significant investments in the fourth quarter of 2005 to recruit the new retail management team and [bring] consulting costs. With respect to sales for the year, we expect consolidated sales for 2006 will be $1,335,000,000 to $1,340,000,000, up 19% to 20%. We have lowered the top end of our range for sales this year by $10 million, or less than 1% based on current trends in Carter's retail business.

We expect OshKosh to contribute about $330 to $38 million in sales this year. Excluding OshKosh, we expect Carter's sales to be over $1 billion this year, up 9%. With respect to earnings, we have raised our previous earnings guidance for the year based on second quarter results and our current outlook for the year. Earnings for the year are now projected to be $1.47 to $1.50 per share, up 20% to 23% compared to last year.

These earnings estimates exclude $0.05 per share in charges related to the amortization of OshKosh intangibles and $0.04 per share in compensation expense related to the adoption of the new standard for stock option accounting. As it relates to earnings growth for comparability purposes, we have also excluded to $0.44 of charges related to the acquisition, brief refinancing, and plant closures in 2005.

With respect to cash flow we expect cash flow from operations to be $60 to $70 million this year and that is consistent with our previous guidance. That concludes our business update and at this time we will open up the call to your questions.

(OPERATOR INSTRUCTIONS). Omar Saad, Credit Suisse.

Three questions. I am wondering if you could address -- with the continued strength in the mass channel, could address whether you are seeing consumers switch at all from one of your more traditional channels, whether it is on retail or department stores or chains, to the more inexpensive subbrands at Wal-Mart or Target?

The answer to that is no, we're not seeing it. As a matter of fact, we are seeing winners in all channels. I think one's just had the better formulas are succeeding.

Great. And turning to the OshKosh wholesale, you kind of threw out some numbers there and there is some comparability issues with some of the non-recurring revenues last year that you guys have cut. How is that process progressing season to season? Can you just help us understand what the OshKosh wholesale business was like in the fall versus the holiday season versus what you are seeing during early spring orders?

This is Joe. You have the numbers. The holiday bookings I would say were a little disappointing compared to what we originally planned and I think, as I said last week, that had a lot to do how we positioned it. We positioned it probably a little higher than we should and we asked the retailer to probably keep the promotion within a 25%, so that kind of restricted that. We have learned a lot from that and I think we saw that in the product last week. With spring, we have significantly improved the product, reduced prices. We have changed the retail strategy to 30, 40 off versus 25 off so -- but we learned as we went through it, and I think we got a lot better for spring.

When are you going to start seeing -- would you think you'll start getting a good idea of how consumers at retail are responding to it in that channel?

I would say probably about 30 days. It generally takes our guys kind of 30 days to get it to the floor and we like to a few weeks of selling.

Okay. And then turning to the retail business, in terms of your route comp assumptions going forward, what kind of impact, if any, are you assuming, negative or positive, in terms of the new rollout -- the rollout of the new Carter's store format to take place this quarter? Is there any disruption there and then are you making any sort of assumption in acceleration following that?

There's no disruption in this conversion. It takes a day or two to convert a store. So that's, we feel, a nonissue. I think just put it in perspective. If you look at our retail business, what we didn't like about it, what we like about it now, we definitely had weak leadership.

We have a very strong team now. They are very skilled in how great retailers perform. They're good operators and they are brand builders. Secondly, we had a lot of access spring in that second quarter, and it pulled down our average price which affected our comps. We are cleaning up those inventories and they will be clean soon. But I think more importantly we have institutionalized an exiting of seasons much earlier. So we'll get into this quarter after quarter.

We also had not a terrific shopping experience. We contained too much merchandise. It was difficult to shop, narrow aisles, low visibility, confusing pricing and a definite lack of emotion. We are going through a change now. It is pretty radical with the new concept stores. I would say these stores early indications are very good. I wouldn't view this as the end of our change, though. These stores are going to be better. They're going to improve our comps, but we will keep tweaking these stores, so once again I wouldn't view it as a final testimony. We will roll out a number of stores and we will have a better feel for it as we move to the next month or so.

And then finally, we are elevating product. It is clear that our baby business is on fire, and we concentrate on that design starting with this brand study well over a year ago and the results are rather phenomenal. That will be followed as we move through the year in sleepwear and play clothes. So I mean I think you just have to look at the big picture and keep it in mind that we have got a lot of things going on and we have got some good indication that they are working.

Excellent. Thanks very much guys.

Brad Stephens, Morgan Keegan.

Looking at the retail by product segment, baby sleepwear and playwear, you have been pretty large discrepancy in the comps for the past couple of quarters. Can you give me more color? Is baby taking square footage to help drive some of that, and then some more granularity on the inventory levels across the board there as well?

Baby has that in the strength. Baby comps in the second quarter were up 13%, up over 10% year-to-date and over the past year our focus has been upgrading that baby product. I wouldn't say we're devoting more square footage to it. I would say the inventories across the board under the new leadership are lower because (indiscernible) we were carrying too much inventory on the floor.

But baby is being driven because it is a better product. Our focus was on baby and it has shown in the results and that is across all channels. So that is retail, wholesale and the massive channel. In retrospect, our sleepwear and playwear for spring and fall were not what we hoped they would be, and that is why we are focused on taking some of the things we learned in our baby business and putting that into our spring 2007 products, which we are getting reaction from, and the reaction is very strong. So we are excited about our spring 2007 sleepwear and playwear products.

So baby square footage is up, but not up as much as the comp is, is what you're saying?

That's exactly right. I would not assume that we have devoted extra space to baby. It is entirely being driven by better product.

If we look into next spring, and you are getting good feedback on the sleepwear and playwear, I mean, it is basically the same product from wholesale to retail. I mean is it entered an assortment in some of your more peripheral products are falling off in playwear and sleepwear? I am just really trying to grasp at what the disconnect here is the past few quarters if it is good at wholesale?

Retail, we are carrying a more enhanced mixed in playwear than our wholesale accounts, carry more basics than some of the retail. Solids and stuff that the retail would cover and basic denims, that the retailers recover through their private label. That is probably about 25% of the mix in playwear.

About 25% of the mix. Okay. Then starting off the month here, given the comp guidance, I assume -- traditionally one of the areas impacted by weather has always been your blanket, sleepers, etc. I guess it is a fair assumption to guess that you need a turn in the weather here for the sleepwear business to pick up?

Well, sleepwear, I think Joe mentioned earlier, we have moved that forward this year. Most of that launches as we move later into the second half, so that is not a problem right now. I mean it's no question, it has been hot as hell, but I would say we are encouraged even through that.

Then, last question, you know, given -- I think you guys are still of the mindset that this is going to be a 20% growth for the next few years, given your initiatives. And you have stocks trading at historically low multiple here. Is there anything in your debt covenants that preclude you from doing a share repurchase if the stock price doesn't start to move in the right direction?

Brad, the amended term loan, we put an amendment in place in the second quarter. There are some limitations, but that is not what is preventing us from doing the share buyback. Our cash flow has been strong. We have been paying down debt, and our focus is to use our cash to fund our growth initiatives. Near-term, you should expect that the cash would continue to be used to delever, but we have given some consideration to a share repurchase program. We will be discussing that with our Board at our meeting next month. But as of right now there is no plans to do a share repurchase program.

Margaret Whitfield with Ryan Beck.

I wanted more color on retail if you could give us some points on the Q2 comp in terms of the trends by month and how you're doing thus far in July, and if you could isolate those brand stores versus the other varieties of stores and how they performed in Q2?

We don't like to give comps by month, assume -- when we had our call with you the last time, April was a good month for us and then we saw things start to slow down in May and June and for the quarter up 1.8%.

And again I would say the strength was largely in our baby category, and the earlier question, looking at the inventory on a comp store basis, we did a lot more baby sales on a lot less, over 20% less inventory. So just gives you a sense for the strength of the product.

If you look at on a comp basis, breaking down that 1.8% comp, baby again was up 13%. Our sleepwear comps were down about 5% and playwear comps were down less than 1%. So sleepwear was the largest decrease and again in retrospect, you can say the product was good. It was not great and we focus on making our product great.

Across regions, we have three regions, East, North, and the South. Baby comps were strong across the board in all -- East, North, and South, respectively, of about 15% in the East, of about 11% in the North, of about 14% in the South. And the trends in sleepwear and playwear, I would say are similar in terms of the overall chain, that down mid-single digit in sleepwear across the three regions. And actually in the South, our playwear comps were up about 4%.

So baby was the stress and if you look in the brand stores, our baby business was up about 10% compared to about 14% in the outlets. Brand stores were up 1.6% in the second quarter. The outlets are up 1.9%. But the brand stores were up against a 14% comp in the second quarter of last year.

We've talked about these different segments in the past. If you're interested in that, I will share that with you. The outlets, we have four outlet segments. The mill stores, their comps were up about 3%. The tourist stores were also up about 3%. Trade area outlets were down just slightly about two tenths of a percent. The drive to outlet stores where we have had a lot of questions, given the fuel price increase, their comps were up 1.7% on a 4.4% comp last year. So the decline in the drive to outlet store comps that we saw in the third quarter last year when fuel prices started to increase did not repeat in the second quarter this year.

Okay. I was also surprised that your OshKosh stores comped better than Carter's, although I thought the focus initially has been on enhancing the Carter's experience, and it looks like you're not expecting much in the way of a lift in Carter retail in the second half. I wondered why.

We are taking a more conservative few view based on trends. Again, it's important to keep in mind we have a new team in place, new president, new senior VP operations, terrific people. We are giving them some time. We always set the bar high, but we're giving them a little bit of time to make the changes in the business they believe and we believe are important to sustain good long-term growth.

With all that said, we have delivered positive comps for the second quarter. We have positive comps in the second half and for the year and overall fully delivering on the guidance that we had given earlier this year and on the last call.

So now your comment on OshKosh, keep in mind that is really not a comp for us. We weren't managing that business in the second quarter of last year. We have significantly improved the quality of that business, both the product profitability and the quality of the sales, and the quality of the earnings. So our first comp is really going to be in the third quarter. We have made the progress we expected to make in OshKosh, not in every area, but I would say OshKosh is everything we hoped it would be a year ago.

Okay. Thanks again.

(OPERATOR INSTRUCTIONS). Christina De Marval, Next Generation Equity Research.

First question, Joe, I guess relates to the guidance and the shift in the view, the bottom line from the third to the fourth quarter. I recognize most of that relates to the retail channel and expectations there. Can you share what percentage of the wholesale business is in place? How much is baby replenishment in particularly in the fourth quarter?

Baby, with regards to that, baby breaks into startups, which are in that. We have all startups in for the third and fourth quarter, and then there is some baby programs that are commit, programs for this spring period and that starts from 11/20 through 3/20 and 4/20. Those are all in the system. So the only thing we don't have in baby would be replenishment which when you count the launches and the commit probably comes anywhere from about 40% of the business I would estimate. So pretty much, baby is all in the system.

The replenishment is 40% of business?

Of baby.

Of baby. Okay.

Of baby. There are three components to baby. Launch, commit, and replenishment. (indiscernible) the part we're missing, and that we always get on a weekly basis.

Okay.

But I think the positive part about that is that we reset Starters earlier this year than last year so that should be a boost to our replenishment.

And then moving to the mass business, as the growth there continues to exceed other channels, can you discuss the segment margin dynamics there and the outlook for the Carter's business overall as the mass channel continues to account for a bigger portion of the mix?

The margins in the mass channel, as you know, had been good. In terms of the first half, the operating margin for the mass channel has gone from last year about 9.5% to about 14% this year. On an annual basis, we expect that the operating margin in the mass channel will go from around 12% up to closer to 12.5%, say. So we are showing an improvement in all segments of our business but for our Carter's retail segment and for the year we expect whereas last year Carter's retail operating margin was around 19.5% sales, probably closer to 18% of sales. And that reflects the investment in this new scene and it's bringing them on board.

It also reflects the promotion that we had to make in the second quarter. We cleared out that spring merchandise. Also reflects the fact that some of these stores are starting out a bit slower than we had expected. And so we're not seeing the productivity from those new stores initially. But again we have experience that the stores ramp up fairly quickly. Within the first couple of years, they get up to the level that we expect them to be.

And then just a couple of housekeeping questions. Mike, just wondering you broke down gross margin by, in the second quarter, by Carter's and OshKosh. Can you do the same for SG&A?

Sure. Happy to. In terms of Carter's SG&A, Carter's SG&A in the second quarter was 33.8%. What would you like, for the quarters?

For second quarter.

Second quarter. The SG&A for the second quarter was 25.7%.

At Carter's.

At Carter's. And then for OshKosh, the SG&A for the second quarter was 38.2%. Keep in mind, we've got higher mix of retail sales. Their SG&A was higher at Carter's.

Okay. And then I'm wondering the guidance was very helpful and detailed. Just wondering in terms of the third and fourth quarter wholesale revenue guidance, can you give us what you're looking for, excluding the impact of the reduced off-price from business, if you look at dollars versus dollars.

In terms of the 3% growth, consolidated growth in sales for the third quarter, Carter's growth is going to be up 6%, and wholesale will be up 4%, mass up 12%, retail up 6%. OshKosh will be down 2% in total sales in the third quarter but up 4% when you strip out about $15 million of nonrecurring sales from last year. And wholesale right now we expect will be down about 4%, due to the lower-than-expected bookings Joe talked about. Retail will be up 7% after stripping out the nonrecurring sales from those closed lifestyle stores.

Thank you and good luck.

Dennis Rosenberg, TSR consulting.

Fred, earlier in your comments you said you looked especially favorably on the outlook for '07. Could you give us some rough parameters for '07 by segment on sales and operating margin expectations?

I will let Mike take the second part of that question. The reason we feel bullish about '07 is we think we have done the things that meet the consumers' needs. Not to sound like a broken record, but a year and a half ago or so, maybe two years, we launched into this brand study and the discovery was there is a sea of sameness out there in product and in the shopping experience.

If we attack those two areas, it made a real difference in this business, we could really improve our business. What makes me feel good is that we have done those things and we are seeing a significant elevation of product design and that is across all brands. There is no question in my mind, our minds, that we don't -- that every brand we have, including our subbrands, will have a better, much stronger product agenda as we move into spring '07.

It is not just an opinion. It's validated by our customers' response and in many cases, it is about our forward bookings. And we also see that we are making the shopping experience better, both in our wholesale accounts and certainly in the mass channel and permeating our retail stores. So with all those vital signs pointing in the right direction, we're feeling we are doing the right things.

I wouldn't say we are immune to what is going on in the economy, but our style is not to lean on the economy. It is to lean on what the consumer needs. We have these iconic brands and subbrands that are demand brands and they are products that consumers need. So from a macro point of view, we feel we are doing the right things and the vital signs are there.

Our growth in terms of growth objectives, the growth objectives for '07 I would say are consistent with what we've shared with you in the past. We are still focused on top line growth of 8% to 10%, earnings growth of 15% to 20%. Our track record has consistently been at the top end or above the top end of that range, but that continues to be the guidance that I would give you.

Just to break that down, Carter's we continue on a standalone basis, we continue to believe that that continues to be a solid 8% to 10% top line growth business. This year Carter's is going to be up 9%. Just breaking that down by channel within Carter's, our wholesale business we believe will grow 6% to 8%. This year it will be up 9%.

I'm happy to give you baby sleep and play below that. I think that might be helpful for you to know. But baby and sleepwear businesses, we believe, will grow 6% to 8% a year in the wholesale channel. This year our baby business and wholesale will be up 12%. Terrific strength in the baby product category.

Sleepwear relative to the objective of 6% to 8% growth will be up 9% this year. And playwear has -- our current view is that will be 8% to 10% top line growth. This year, up only 5%. Again I would say our spring '06 and fall '06 playwear was good, not great, and we're revitalizing the design of that product for spring '07.

Mass channel for Carter's, we expect that it will grow over 10% a year. This year it will be up over 20% growth. And in retail we believe that will grow over 10% a year driven by 3% comps, at least 3% comps, and we're 7% from new stores. And the number of new stores for our current view, we will probably open up some 25 to 30 stores a year. Most of those will be in the brand center locations.

In terms of OshKosh, that is a 10% to 15% growth business. That is the growth objective for purposes of guidance. Wholesale will be at 10% to 15% growth business. I like to think we have upside on that, given a fairly low base. This year on a full-year basis OshKosh will do around $90 million in sales. The wholesale business will do around $90 million, compared to about $430 million for the Carter's wholesale business. So there is no question in our mind that OshKosh can be significantly larger business in the wholesale sector. And OshKosh's retail business we believe will grow over 10% a year. Again similar assumptions 3% comps, 7% new. And we expect the door growth there will be more in the range of 15 to 20 doors opened year near-term.

Can you talk about operating margin at OshKosh next year versus this year and at Carter's especially at retail?

This year our operating margin will be around 13%. We still believe that we have plenty of upside to that. My personal opinion I don't think there is any shortage of margin improvement opportunities. Just breaking down the 13% this year our gross margin will be around 37%. SG&A will be around 26%, and our royalties which has been a terrific source of growth is around 2% of our sales. I think today a good range for a gross margin is probably 36% to 38% and we're in the middle of that range.

I see upside in the gross margin as we move more of our mix to retail, closer to 50% of our mix versus 43% today. So I do see upside to that, but our strategy has always been particularly in product cost savings to reinvest that back into the product.

The opportunity I would say is in SG&A. That can be better. Our Carter's stores are not as productive. Even though their four wall contribution is closed to 30%, we still believe they are as productive as they can be. We think with our new team we can improve productivity of those stores. OshKosh's retail stores is lagging in productivity to the Carter's stores. We have learned a lot over the years improving the profitability of our Carter's stores, and we think we can replicate that success with the OshKosh stores.

And royalties we think it's a significant opportunity. I shared with you the growth they are having this year. We acquired some terrific talent at OshKosh in their licensing business. And we believe that royalties can improve as a percentage of sales. So I guess I would guide you consistent with what I shared with you in the past. We plan to expand our operating margins 25 to 50 basis points a year, and we will do that for the foreseeable future. We don't view that as particularly difficult to do. It is what we have done for the past fourteen years. OshKosh's operating margin significant progress over the past year, up 10% operating margin this year. We do believe that that can approximate Carter's operating margin, which is over 13% this year.

(OPERATOR INSTRUCTIONS) With that, ladies and gentlemen, we have no further questions on our roster. Therefore, Mr. Rowan, I'll turn the conference back over to you for any closing remarks.

Thank you. I can't add a lot more to the closing than what we have talked about. We see the fundamentals of our business as good. We have confidence in our year. We think especially as we roll into '07, we will be building momentum. We are focused heavily on the OshKosh turnaround in our stores, and we see good results surfacing. We thank you for your attendance, and we always learn by your questions. Thank you.

Ladies and gentlemen, this does conclude today's Carter's call. If you would like to listen to replay of this call, it will be available beginning at 11:30 AM Eastern daylight time today through midnight Friday, August 4. The dial-in number for the replay is 888-203-1112 in the U.S. and Canada and 719-457-0820 from international locations. The confirmation number to access the replay is 554-2621. Again that is 888-203-1112 and in the continental United States and Canada, and 719-457-08 20 internationally and the confirmation code is 554-2621. We appreciate your participation and you may disconnect at this time.