Charles & Colvard Ltd (CTHR) 2007 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Charles & Colvard Limited second quarter 2007 earnings conference call. At this time, all participants are in a listen-only mode. We'll be facilitating a question-and-answer session towards the end of this conference. (OPERATOR INSTRUCTIONS)

And with that, I would now like to turn the presentation over to your host for today's conference, Mr. Bill Zima of Integrated Corporate Relations. Please go ahead, sir.

Good afternoon, everyone. Thank you for participating in the Charles & Colvard second quarter 2007 conference call. Joining us from management are Bob Thomas, President and Chief Executive Officer (sic - See Press Release); Jim Braun, Chief Financial Officer; and Dennis Reed, Executive Vice President and Chief Marketing Officer (sic - See Press Release).

Before we begin, I would like to remind everyone that except for the historical information presented, the matters disclosed in this conference call include forward-looking statements. These statements represent the Company's current judgment on the future and are subject to risk factors and uncertainties that could cause actual results to differ materially. To the extent that there are any statements that could be construed as forward-looking, they should be considered in the context of all of our previous releases and federal filings.

With that said, I would now like to turn the call over to Bob Thomas. Bob?

Thank you, Bill, and good afternoon, ladies and gentlemen. Thank you for being with us this afternoon. I will start with a review related to the second quarter, Jim will then review the financials in greater detail, followed by Dennis who will update you on many of our current marketing initiatives. I will then conclude by discussing our plans and overall outlook for the remainder of the fiscal year.

First, some key financial highlights for the second quarter. Net sales decreased 11% to $7.6 million, compared to $8.5 million in the prior second year -- quarter. This decrease was primarily a result of the use of existing inventory by our direct manufacturing customers, retail customers, resulting in lower replenishment volumes for moissanite jewels. The weak overall jewelry and retail environment should also be considered.

Gross profit margins decreased 250 basis points to 72.5%, compared to 75% in the comparable quarter of 2006, primarily as a result of higher cost of productions in the period that the jewels were produced. Actual gross margins remained within our 65% to 75% guidance range.

Net income for the first quarter was $529,000, or $0.03 per diluted share, compared to $1.1 million, or $0.06 per diluted share in the prior year period.

Excuse me. As we have said in previous calls, because of the timing delay of when we sell and ship loose jewels, and when they are sold at retail, it is inaccurate to equate our sales in any given period to the actual retail demand during that period. Moissanite is a component in the jewelry made and sold by our direct customers and there are two levels of inventory between Charles & Colvard and the consumer -- the inventories held by our direct manufacturing customers and the inventories held by retailers.

Our second quarter sales results reflect a number of factors, including a weak overall jewelry retail environment, which resulted in slower than planned sell-through at retail, which results in lower replenishment orders and an unplanned inventory build at the retail level.

The other major factor was the overly aggressive purchases by our direct customers during previous initial distribution executions.

Sales of moissanite jewels to our top four direct customers, which represented approximately 71% of sales, were down 18% in the second quarter compared to the prior year. At the same time, sales to all other direct customers were up 14% over the same quarter last year.

The top four customers during the quarter were Samuel Aaron International (SAI), Reeves Park, K&G Creations and Stuller, Inc.. SAI was the largest representing $2.7 million or 35% of sales in the second quarter. This manufacturer supplies retail customers Kohl's, Boscov, JC Penney and Zales Canada. The second largest was Reeves Park with $1.2 million in purchases. Their customers include JC Penney, Von Maur, Helzberg, and Ross-Simons. K&G Creations were third -- it was third with $900,000 in purchases. Their customers include Finlay, AAFES and Zale Outlet. Stuller Incorporated was fourth with $700,000 in purchases and their primary customer base is independent retailers.

Looking back, as we established initial distribution in 2005 and the additional distribution of the Sarah Ferguson range in 2006 at Finlay, large stocking orders were required to build the necessary ranges of jewelry to establish the beginning inventory levels at the retail locations. Excess orders related to both the size of the assortment offered and the styles selected for the range occurred. The situation requires the jewelry manufacturer involved to allow the retailer to rebalance their inventories to more reasonable stock levels and more salable styles. This is common practice in the jewelry industry, and most, if not all, major retailers require their suppliers to participate in this activity as a normal course of business. When this occurs, the manufacturer accepts returns from the retailer, and then the manufacturer will typically rework the merchandise, reusing the components, as they build what they believe will be more salable styles. This activity in the moissanite category is an ongoing exercise for each of our direct manufacturing customers and will always be a regular course of action, a normal course of business for those customers.

Because of the increased transparency we have achieved over the past several quarters, we now have a much better visibility to that inventory, what I characterize as the systemic excess inventory. That is a limiting factor to the current demand for moissanite orders for Charles & Colvard.

With our improved visibility, we can now better help our customers and the retail -- and those retailers reduce the current excess inventory. We are fully committed to this effort and have and we will execute retailer-specific programs to build demand for moissanite jewelry, clearing the path for more robust replenishment orders.

Additionally, we are also committed to working with our direct customers and the retailers to minimize or to limit the mistakes or miscalculations that could lead to excess inventories issues in the future.

With regards to our sell-in performance during the quarter, the initial stocking orders for new or expanded distribution amounted to approximately $1.7 million during the second quarter of 2007 versus orders of approximately $590,000 for the initial stocking in new distribution in the same period of 2006. This increase in our sell-in performance was largely fueled by the increased door count at Kohl's.

With regards to sell-through during Q2 '07, while we do not have total transparency to the sales and inventory levels of all our direct customers or to all the moissanite retail outlets, we have made good progress in gaining access to more specific data. At the end of the quarter, we had moissanite sales visibility at approximately 1,700 doors operated by JC Penney, Helzberg, Finlay, Kohl's, Zale Canada, Von Maur, Belks, Zale Outlet and Gordon's. Generally speaking, the data we receive from those retailers is in aggregate form and does not provide location-specific sales data. You should know that we can currently identify over 2,000 retail doors operated by the retailers above and other regional chains in North America that sell the moissanite category. We do not have a reliable method of giving you a store count on the number of independent jewelers carrying moissanite jewelry.

We would like for you to understand that all installed programs for companies we have data on are being managed more closely than in the past with respect to the inventory, and we have promotional programs in place for all those retailers in the second half of our fiscal year. We intend to assist the preceding retailers from a marketing standpoint to raise awareness and retail sales results.

Later in the call, I will provide additional thoughts on our prospects for the remainder of 2007, but first Jim Braun, our CFO, will review the financials and then Dennis Reed, our President and Chief Marketing Officer, will review our marketing efforts and activities. Jim?

Good afternoon, and thank you for joining us for today's call. As a reminder, share or per share data for all periods presented have been adjusted to reflect the effect of a one-share for four-share owned split effective in the form of 25% stock dividend distributed on January 30th, 2006.

For the three months ended June 30th, 2007, net sales decreased 11% to $7.6 million as compared to $8.5 million in the second quarter of 2006. Gross profit decreased 14% to $5.5 million in the second quarter of 2007, from $6.4 million in the comparable quarter of 2006. Gross profit margin as a percentage of sales for the second quarter was 72.5%, a decrease of 250 basis points when compared to the same quarter in 2006. This decrease was primarily caused by higher production costs in the period that the jewels were produced.

The average selling price per karat for the first -- excuse me, for the second quarter was slightly 3% below the second quarter of 2006. As we have discussed in past calls, we expect that the average selling price per karat will fluctuate based on stone size required of our customers.

Total operating expenses as a percentage of net sales were 61% for the second quarter, compared to 55% for the same quarter in 2006. Marketing and sales expense was down $135,000 in the second quarter over the prior year, primarily due to decreased advertising expense. As a percentage of sales, marketing and sales expense increased to 46%, compared to 42% in the prior-year period.

Second quarter net income was $529,000 or $0.03 per diluted share compared to $1.1 million or $0.06 per diluted share for the second quarter of 2006.

Charles & Colvard's domestic sales in the second quarter decreased 12% to $6.3 million, compared to the second quarter of 2006. International sales for the second quarter decreased 8% to $1.2 million, with strong results from Thailand and Taiwan, offset by reduced sales in Canada.

Total shipments of 46,800 carats for the current period were 9% less than the 51,100 carats shipped in the same period of 2006. Shipments of carats in the U.S. decreased 7% while international shipments of carats decreased 15%.

I would like to point out that our effective tax rate of 49% for the three months ended June 30, 2007 was higher than the 42% rate in the same period of the previous year primarily due to the implementation of FASB Interpretation 48 and the tax effect of our non-U.S. operations being a larger percentage of income before taxes. On January 1, 2007, the Company implemented FASB Interpretation 48 accounting for uncertainty in income taxes. This implementation resulted in the recording of $38,000 of tax expense during the second quarter.

In the second quarter, the Company's cash position decreased to $9.6 million from $15.3 million at March 31, 2007. This $5.7 million decrease was primarily due to the $2.5 million increase in receivables, $2.4 million increase in inventory, and the $1.4 million dividend paid on June 15, 2007, partially offset by $529,000 of net income generated during the quarter.

Total inventory including consignment increased by $2.4 million from $37.9 million at March 31, 2007 to $40.2 million at June 30, 2007, primarily due to the required level of raw material purchases. The Company's raw material inventories of silicon carbide crystals are purchased under exclusive supply agreements with a limited number of suppliers. Because the supply agreements restrict the sale of these crystals to only the Company, the suppliers negotiate minimum purchase commitments with the Company that may result in periodic levels of raw and in-process inventories that are higher than the Company might otherwise maintain.

In April 2007, the Board of Directors authorized a repurchase program for up to 1 million shares of the Company's common stock. This program expires in April, 2008. During the three months ended June 30, 2007, no shares were repurchased under the program.

I would like to turn the call over to Dennis who will review our marketing initiatives.

Thanks, Jim. In the second quarter, we continued the marketing initiatives that we've historically provided in the form of support to moissanite retailers through a variety of retailer directed programs, such as participation in USA Today advertising for Mom's Day with Helzberg, USA Today advertising for the JC Penney Diamond Showcase event, and local newspaper advertising for the 525-plus moissanite trunk shows that occurred with retailers such as Alvin's, Belk's, Gordon's, Helzberg's, JC Penney, Macy's, Rogers, The Navy Exchange, Von Maur, Zales Canada, and Zale Outlet. These activities are funded by the participating retailers, their manufacturers and directly from Charles & Colvard.

As Jim mentioned, the sales and marketing expenses for this second quarter were $3.5 million or approximately 46% of revenue. The significant expense buckets were direct retailer support from programs -- direct retailer support programs totaling $1.65 million, sales expenses consisting of sales, training and trunk show activity totaling $929,000, and $486,000 on new marketing initiatives and on market research for a follow-up direct response TV campaign.

As I discussed in the last call, in order to increase consumer awareness and generate increased sales, we are introducing new marketing programs, specifically broadcast, online advertising, targeted direct mail and local market out-phone initiatives. I would like to update you on the progress with each of these initiatives. First, broadcast. Working with and in support of a reasonable department store chain, Boscov's, we have begun the production of a local television commercial which will air during the fourth quarter as a 30-second spot in five markets -- Philadelphia, Pittsburgh, Baltimore, South Central PA and Wilkes-Barre Scranton area. In addition, this campaign will include a web component, a 1/4 page moissanite jewelry tab insert in local newspapers running on the season's busiest shopping day, the Friday after Thanksgiving.

We also have a direct response TV broadcast initiative that we are developing with K&G Creations and their spokesperson, the Duchess of York, Sarah Ferguson. We completed the first phase of this, which involved consumer research to verify the validity of the direction. We received favorable feedback and we plan to implement an early fourth quarter launch.

With online, we have begun a multi-dimensional moissanite awareness building campaign that includes initiatives to increase moissanite.com's natural search rankings on key search engine sites. Moissanite.com content expansion is in process for a fourth quarter launch and will include a moissanite educational micro site. This micro site will also act as a link that we can provide to retailers as part of a new, authorized E-tailer program scheduled to be unveiled in the fourth quarter.

Another online initiative in process for the fourth quarter is a community of women campaign, consisting of an achievers program that partners influential women with moissanite, and creates a network of ambassadors promoting moissanite jewelry with quarterly newsletters and an (inaudible) women's moissanite online network.

Next is direct mail. Targeted campaigns are in production to support JC Penney, Alvin's and Balk in the late third quarter. In cooperation with The Nielsen Group, we have taken the demographic data from our warranty card and profiled the moissanite shopper. We utilize this data to target shoppers in a direct mail campaign. If these early campaigns drive the return rates we expect, we have plans to expand this program to other retailers and markets in Q4.

The next initiative is out-of-home. In June, we launched a new retailer out-of-home advertising campaign consisting of mall boards, banners and billboards as a 90-day test program in select mall locations within three markets -- Atlanta, Phoenix, and Seattle. All participating retailers, Helzberg, JC Penney and Macy's, have reported increases traffic and sales linked to this campaign. We anticipate future positive feedback and we will therefore continue this mall-centric campaign with a possible expansion into additional markets.

And lastly, our advertising campaign and PR. A moissanite jewelry centric ad concept has been selected as the fourth quarter ad campaign. This new ad campaign with a moissanite jewelry focus concept using the color red is in production with a media buy that includes a significant portion allocated to mass appeal in titles such as People and Us Weekly, you will see the new ad campaign appearing in November and December publications. As before, we will be tagging various select retailers in these adds.

Additionally, a unique PR awareness building and sales-generating initiative was created for the staff -- with the staff of Oprah magazine and Oprah Online. The Moissanite Milestone Moments campaign is designed as a multi-leg PR contest initiative in partnership with Oprah.com which has 5 million unique visitors each month and Oprah magazine, which has 15.6 million monthly readers. Launching online in October and in the November issue of Oprah, visitors and readers will be encouraged to enter the contest by sharing their inspirational stories and significant milestone moments of their lives. True to Oprah's basic platform of empowering women and encouraging women to live their best, the winner of the Milestone Moments contest will be selected by a judging panel of the Oprah editorial staff and shall be rewarded in January with a significant moissanite jewelry gift that commemorates the winner's milestone moment. Promotional partner JC Penney will benefit from the exposure, advertising and in-store promotion.

We believe that these dedicated sales and marketing efforts will continue to raise consumer awareness and demand for our jewel. I would now like to turn the call back over to Bob who will discuss our initiatives and outlook for the remainder of fiscal 2007. Bob?

Thank you, Dennis. Our efforts during the second half of 2007 will intensify as we work to further establish the category in the minds of consumers while building a meaningful business for the retailers who offer fine moissanite jewelry. Dennis has described many, but not all, of the various activities and endeavors that we will expand or initiate later this year.

As I indicated previously, we will commit resources to assist those retailers who find themselves with excess inventory while at the same time build new relationships with the training, advertising, and marketing support that have been effective tools for us in the past.

Concerning the new distribution opportunities for the Company in 2007, it now appears that the anticipated additional distribution at Sears will not occur in 2007. The senior merchant at Sears responsible for our category has resigned to accept another position in the jewelry industry and the ongoing test results at the approximately 150 Sears locations where moissanite jewelry is currently available have been inconclusive. The new merchant at Sears who is now responsible for our category would like more time to judge the sales results at the existing locations before making a decision about additional distribution.

We do expect to see the continued expansion of our category at Kohl's during the second half to a total of approximately 835 retail locations by year-end. This is up from the Kohl's distribution at approximately 287 doors as of the end of the second quarter. That distribution will be wholly supported by our direct customer, Samuel Aaron International.

Other new distributions scheduled for the second half of the year includes 22 new Belks locations and expansion of the program at AAFES to a total of 78 outlets and 25 new Zale Outlet locations.

Our efforts to bring new manufacturers to the category will continue as well. KGK, our newest direct customer, has an pressive range of moissanite jewelry in development that will be presented to prestigious department store and independent retailers. We are hopeful that we will see positive results from those presentations that will occur in the next several weeks.

Internationally, we continue to experience strong comparable results in both the United Kingdom and Italy and we also see continued heightened interest from India.

I will conclude my remarks with an update on our 2007 revenue guidance. Given the enhanced visibility to the inventory issues confronting certain current moissanite retailers and the unlikely prospect of additional distribution at Sears for the remainder of the year, we now expect fiscal 2007 net sales to be in the range of $35 to $38 million with a larger percentage of the second half revenue expected to occur in the fourth quarter. Sales are expected to trend stronger in the second half compared to the first half with a larger percentage in the fourth quarter as retailers accelerate their rollout for the holiday season and the total moissanite door count continues to build. The Company believes that full-year gross profit margins will remain in the range of 65% to 75%, and that full-year marketing and sales expense will be in the range of approximately 43% to 48% of total net sales. The expectation for sales and marketing expense for fiscal 2007 has increased on a percentage basis as the Company will be supporting revenue initiatives at a higher level than in the past.

In conclusion, despite the lack of consistency and predictability of our revenue stream, we have now posted 26 consecutive quarters of profitability. We remain highly confident in our ultimate success in building this Company to a more prominent position in the fine jewely industry and I look forward to speaking to you again as that success becomes more apparent. Thank you for your continuing interest in Charles & Colvard. We will now respond to your questions and comments. Operator?

Thank you, sir . (OPERATOR INSTRUCTIONS) And we'll go first to Chris Krueger with Northland Securities.

Hi. Good afternoon, guys.

Yes, sir, good afternoon.

Hi. Just a few quick questions. I didn't quite get everything, but on these Oprah-related marketing efforts. What was the timing on that again?

The dot-com portion, Chris, will start in October and the title -- it will break in November, which actually is a mid-October break. It will be on stand and in home in mid-October.

Okay, and is that the first Oprah-related marketing efforts you guys have had ever?

We have done advertising in the title, and it has proven to be a very good title for us. But this is a really unique association that we have developed with Oprah and Oprah.com that has a PR element that we feel very strongly we help pull interest to the category and who knows where it can take us beyond that.

Okay. On your Kohl's rollout, I'd say -- you indicated you hope to get to 835 locations by year end. Can you tell us what that was at the end of the first quarter? At the end of the second quarter?

The end of the first quarter, I believe, in my comments was 2--- 287.

208 at the end of the first. We rolled in to 79 in --

February. That was 208 at the end of December. 287 at the end of March, and it is still at 287, but we announced that 450, we're going in --

Beginning the end of July --

Yes, end of July, beginning of August.

So about 450 additional during the third quarter?

Yes. Going in the --

Starting in the next several weeks here, Chris.

Right.

And then it looks like a few more in the fourth?

Right.

Okay. Your recent distributor, KGK, indicated they're in development and they're presenting to their customers soon. Does this mean they really haven't bought anything yet? They just wait - they have to wait until they get the response from their customers?

Their purchase from us have been minimal at this point.

Most manufacturing purchases are -- because of order from a retailer, Chris.

Right. Okay. And last, I guess it sounds like you are getting better and better visibility into a large portion of stores. Is it going to get to a point where you provide sort of a same-store sales data or is it at -- just not possible with the way the data is presented to you?

Just to give you some -- some -- It's a great question. Yes, it really is and it's something we struggle with -- we spend a lot of time on it, but to give you -- JC Penney is really the only national retailer where we -- we're -- has been anniversaried and we have more than one year to compare. Finlay has had the category for more than a year, but it's not the same doors because of the Federated May thing and so those doors are not the same. Both Kohl's and Helzberg, the initial distribution of both those locations didn't start until the third -- really didn't occur until the third and fourth quarter of '06, so we don't have an annual comparison in ether of those doors. So that just gives you an idea and when we have one major retailer out there where we do have data, anything we say in hard numbers, really can -- is -- it leads back and is proprietary to JC Penney and it just wouldn't be appropriate for us to divulge that.

Yes, you'd like to at least have some more lumped in like if these others get another --

Yes sir. As we anniversary multiple doors in some of these other major retailers, then we're hopeful that we can give you the kind of data that you really would like to have.

Okay. That's all I got for now. Thanks.

Thank you, sir.

(OPERATOR INSTRUCTIONS) We'll take our next question from Tom [Mizzoulis,] private investor.

Guys, could you tell me about Landau? I understand that they had dropped the product but were considering doing another test. Is that correct and when is that taking place?

Hi, Tom, it's Dennis.

Hi, Dennis.

We are aware of trunk show activity that Landau is involved with currently with the moissanite suppliers out there, but that's really about all we know at this point.

Okay. How about Gordon's -- Gordon's -- it had been classified as a test. Is it more than a test? Is it becoming a permanent category?

There's many issues inside the Zales building, and our success or lack of success of Gordon is sort of [solitude,] Tom. But I think the bigger question is what is going to happen to the name plate, and I think that affects us as well so I wouldn't characterize it as a failure but I wouldn't say it was a success at this point either. So that distribution may go away at some point, but I wouldn't read too much in to that.

Now also as an overall picture of the industry, is the industry now more or less considering you to be a permanent category, and are all the players more or less in a either watching mode or deciding whether or not they even want to carry the product? I mean where do you stand in the overall industry?

I think we're in the best place we have ever been in terms of our receptiveness by the industry for the category. The challenge is we're competing for open to buy dollars in a very competitive environment and a very slow retail environment. And we have to demonstrate to new companies the -- that there's a business opportunity for them to divert dollars from existing programs or other new businesses to come to our category. It's not a question of whether moissanite as a jewel has -- has a fit in the jewelry industry anymore. It's more does -- does the financial opportunity really stand there for that retailer for them to come into the category, and it's our job to really convince them that it does.

Excellent. Okay. Thank you, guys.

Thank you, sir.

We'll go next to Eric Wold with Merriman Curhan Ford.

Hey, good afternoon, everybody.

Yes, sir?

Can you update us on what you can say about the negotiations or the purchase agreement with Cree and then where you are in possibly taking that level down and then kind of longer term -- I'm not trying to get into kind of '08 guidance but kind of the thoughts on -- with the inventory is sitting at now with what's been classified as long term versus short term, there's obviously some thought there. I mean will you have to take that inventory down over the next say, 12 to 18 months to what you believe is a more meaningful level? And then kind of lastly, kind of going back to the Cree, if you are able to renegotiate that, is there some absolute kind of minimum level that you can take it down to without (expletive) them off is the right word -- but almost some level can you take it down to, almost zero if you wanted to?

Eric, the thing -- there's a minimum level where you start to destroy the infrastructure that would be very, very difficult to build back, and so that's the minimum level. It's not whether they are upset or not upset, but it's a reasonable minimum level that allows the infrastructure to stay in place so that when the upturn does come here, we don't have to completely rebuild that infrastructure. But to answer the first part of your question, in our discussions with Cree have remained very positive, up to and including 2:00 this afternoon. As we said before, in the current quarter, we will expect to receive deliveries of the 60 KG of material, which is similar to what it has been over the past two quarters, but we -- we are very optimistic that in the fourth quarter, that will be reduced by a significant amount, and will stay at a reduced amount as we work down this inventory that exists, so we're -- we're optimistic with our discussions with Cree, and as soon as we have an amendment to that agreement, we certainly will do the proper filings and everyone will be aware of it, and I would expect that you would see that sometime over the next two to three weeks.

Okay, and then kind of going -- can you walk through, kind of I guess for Jim, kind of the thought process on what gets classified as short-term and long-term inventory? Is that based on the next coming 12-month period or what comes into that decision?

It's a review of what can be used over -- within a range over the next 12-month period, yes.

Okay, so it's based on going forward four quarters?

Correct.

Okay. Perfect. Thank you.

Thank you, sir.

(OPERATOR INSTRUCTIONS) We'll go next to Jiwon Lee with Sidoti and Company.

Hi, good afternoon. I just have two quick questions. First of all, Bob, do you have some visibility towards whether Samuel Aaron have enough inventory to support the additional 450 doors at Kohl's in the third quarter?

Some of the inventory that's going to -- on the rollout that's going to take place this month was shipped in the second quarter, but for the -- the larger -- or for the next phase of that, that will require purchase orders being placed here. The inventory level at most of the manufacturers today with one exception are relatively back to a more normal situation. The inventory -- excess inventory, as we said here this afternoon, basically is one further step down the distribution chain at the retail level. But the manufacturers themselves, at least today, we feel are -- in a more normalized situation, again, with one possible exception.

Okay. And typically in the fourth quarter, your sales and marketing expenses sort of jump because of the various -- sort of a holiday, retail support that you take on. Now since your expenses are pretty much up there to that level at least in terms of the percentage of the sales, how should we look at this holiday, sort of marketing and other support expenses this year?

Well, that's a good question. I think that the guidance we provided on those expenses are full-year numbers, and there will be -- be periods where they may not approach that bottom number, and there may be a period where it goes over slightly, depending on the revenue. As we've demonstrated quite clearly, the predictability stream of our revenue is difficult at best.

And some of the marketing elements that we put in to the marketplace in a given quarter, the decisions have to be made at the very front end of a quarter or even maybe the quarter prior, so you are committing dollars before you know what your revenue stream is going to look like and we do our very best efforts to keep it in line with expectation, but sometimes it's very hard to predict ultimately where you're going to end up on that number.

Our discipline is in place, Jiwon. We are striving to remain in the black on any given quarter. But as we have clearly said here this afternoon, we are going to be very aggressive in the coming quarters to get this revenue stream back in a positive momentum mode. So we're -- we -- our discipline is in place, but we are certainly taking a more aggressive attitude about building that revenue.

Let me see if I can ask one quick question. How should I put this? Has there been any pricing, sort of changes at your retail leads in some of your larger retails during the quarter? I'm asking mainly the retail pricing changes?

Right. Jiwon, there was pricing adjustments made late fourth quarter -- mid-fourth quarter of '06, heading into the holiday season, and they were fairly dramatic changes in the upward direction, due primarily to the retailer needing to make adjustments for the change of price of gold. And those prices -- that elevated price level has stayed relatively constant with some exceptions since that point. So there was -- there was a change of pricing, but that goes back to mid-fourth quarter.

And we did see some -- some slight modification in February in certain locations, but those -- those reductions were not back to the previous level.

I see. Okay. That's all for me. Thank you very much.

Thank you very much.

Thanks a lot.

(OPERATOR INSTRUCTIONS) I'm sorry, gentlemen. We do have a question from Chris Doucet with Doucet Asset Management.

Good afternoon, gentlemen.

Good afternoon, sir.

Hi, Chris.

Quick question, I guess. Couple of quick questions -- Jim, I guess this question's for you. Where are you pulling your inventory now? What quarter and what are the gross margins on that inventory?

Well, the gross margins of the quarter that we're pulling down which is mid-- production in mid-'05, I'm pretty sure of. The -- let me make sure that that's the case. And obviously they were the 72.5% that we had for the existing quarter.

Okay. And Dennis, I guess this question is for you, the decision-maker that left Sears, did he go somewhere where we might be able to have another opportunity?

Great question, Chris. Yes and yes.

And can you guys -- are you guys at liberty to say where he went or -- ?

I don't know if it has been released publicly. There is some trade noise about it, but I wouldn't want to be the first person to put it out there, if you don't mind. But it can be positive for us, and we're certainly pursuing it through one of our manufacturing partners.

Okay. And Bob, I guess this question is for you, the stock buyback that you guys announced a couple of quarters ago, is the reason that we didn't buy any stock back in the quarter is because the Board told you you couldn't, because you had to buy so much inventory during the quarter?

Well, the Board certainly reviews the use of cash as a normal course of business, and we have discussions about what those uses of cash should and shouldn't be at any given point of time. Certainly we would like to address the inventory situation, the inventory build. We feel like that is the more critical element on our balance sheet at present, and that has remained the number one discussion item with the Board now for several quarters.

All right. Thank you very much, gentlemen. Good luck with the quarter.

Thank you, sir.

And we'll take our next question from [Gina Wu,] Private Investor.

Hi, Gina.

Hi. This is Gina and this question is for Dennis. You mentioned a little bit regarding the online natural search for the keywords and products.

Yes.

I was wondering if there's plans for any online sales or on the site of our own or your affiliates?

Well, we do have online retailers, quite a significant number of online retailers, out there offering moissanite jewelry and moissanite loose jewels. We have current interest in selling direct to consumer on our side. It would be really a conflict of the current distribution model that we currently have, although we are very much in support of the online channel as a channel of sales and we have very good relationships with several online retailers out there, which we will continue to develop and nurture.

I see. And you mentioned there's a social networking, is that also for the women who wear your jewels?

Right.

Can you elaborate a little bit?

Well, that's an on-coming initiative. You'll start to see that in the late third quarter. It's an ambassador's program using the online -- our online website, our online site, and it will provide a community for women to gather to tell their stories about moissanite, and we're very excited about it.

Okay, and then I was wondering for -- will you -- besides the conflict, you can't have direct links from your site to increase sell-through because from the demographics, I mean, the women who purchase the jewel are -- I mean, in their 30, 40, and they have the money, and they can purchase either/or diamond or in the middle somewhere. But your jewelry is way more -- quality wise and affordability. I see a direct online -- I mean whatever should help out for the -- I mean, the revenue down the road.

Right. You point out a very good issue for us, Gina, and that is how do we make our site more commercial, if you will, allowing her to find a place where she can go and purchase moissanite ranges of jewelry rather than more informational because she wants -- when she's at our site, we recognize that she wants to see beautiful pieces of jewelry, and she wants to know where to go buy them, and it's part of the evolution of the development of this site, of our current site, and we expect that we'll be able to improve that element as we move forward.

Okay. So you -- and another thing is will you be able to -- I mean -- gave a little bit more information on the demographics you are trying to approach, and I see you are going to have a -- campaign with Oprah, and what is your -- I mean, core demographic information, if you are at liberty to share?

Sure it's female predominantly, and it's age really 35 years and older, and household income of $45,000 and greater, so it's relatively broad, but we want to include as many folks as we can into our outreach.

And we'll take our next question from Ryan Thibodeaux with Maple Leaf Partners.

Good afternoon, guys.

Yes, sir?

Bob, you mentioned, I think, in the early part of the call, something about the systemic excess inventory. Could you just kind of review that?

Basically what happens -- and this is true of all jewelry categories, as retailers develop develop their ranges and they build styles, a broad range of styles, some of those styles don't sell, and they force that inventory back to the manufacturer, if they want to continue to do business with that particular retailer. And then they select new styles and typically on a negotiated basis, the manufacturer will take back X value and ship X new value and rework that inventory. And I call that a systemic excess inventory, because that's the jewelry system as it now exists with the major retailers and the established manufacturers. And I think it's going to be true across all categories, whether it's gold, colored stone jewelry or diamond jewelry, and there's going to be a certain amount of that in the system at all points in time.

Okay. Just to be clear, that's nothing that's being returned back to Charles & Colvard. That's a transaction between the end retailer and your manufacturer?

Exactly but it does have a direct impact on us because if the manufacturer has that inventory, he doesn't need to replace it with new orders so it does have a direct impact on our revenue in any given quarter. But we do -- and this needs to be said. We negotiate return allowances with manufacturers on the front end. And then, we don't report that return allowance as revenue. That is -- that's accrued and is not reported as revenue. So if we have a 2% return allowance with a particular manufacturer, and he buys $100, we show you $98 in revenue.

So is this issue -- is this more predominant with the manufacturer in question than it is with the others?

Yes, the biggest inventory problem right now is fairly obvious. It's K&G and Finlay. That's the biggest inventory issue. Now, there are other minor and smaller issues across the board, but that's more the systemic as opposed to the larger issue that we're facing. Just as early as 14 -- or four quarters ago, K&G was our largest customer and you can see over the last three quarters how that's no longer the case. All the public filings are there for you to see.

And Jim, last quarter you gave out a quasi same-store sales figure, I know it wasn't that per se, but it was something based on the 1,200 stores that you guys had data on, and you gave out like an 9% number, positive number. Do you have an update for that this quarter?

We got so much criticism, and rightly so, for how we described that that we just had to back away because the same store sales data is not there and if we use that number, again, it's -- it's convoluted how we had to get to it.

Because it wasn't qualified as same-store sales. It was this group of retailers, but all of their doors weren't necessarily the same doors as they had a year earlier. And we tried to give information, and we couched it at what it was, but I think it was more confusing than helpful to most of our analysts.

And to give you some flavor of that, I worked on that for four hours trying to get it to a point where I could make it understandable, and at a late hour, we decided that we're better off being very straightforward about what we do have and not try to come up with a number that's -- that at best is going to be hard to explain and confusing.

Okay, and lastly, what -- can you say what level of sell-in versus replenish is kind of included in the adjusted guidance number and what the -- how much that differed from the previous guidance number?

Well, there's at least -- there's somewhere between $4 million and $6 million of sell-in that we don't expect at this point.

Okay. And would you say that that for the full year, the ratio of sell-in to replenish is similar to what you said it was in the current quarter or in the second quarter?

I'd have to think about that a minute. No, I wouldn't say that.

In other words, do you expect sell-through or sell-in to ramp as you go into the back half?

We think we'll see a lot more sell-through based on where we are today.

Right.

With -- because -- that's - - I'll stop there. We'll see more sell-through than sell-in definitely.

Okay. Thank you.

Thank you.

Thanks, Ryan.

(OPERATOR INSTRUCTIONS) We'll go next to Tom Mizzoulis, private investor.

Dennis, could you tell me of the advertising that you are going to be spending for the second half of this year, what percentage is going to be new programs versus the old type of programs you have been doing in the past?

Tom, I don't know if I have that by percentage terms --

I guess what I'm getting at is that we've had results because we have been doing a lot of advertising in the same magazines over and over. In these new initiatives, it seems to me like you have take an major change in your marketing and awareness campaign. Is that correct?

That is absolutely correct, and we have somewhat diminished the relative role of fashion book advertising on our overall advertising elements for the fourth quarter. I think the out-of-home initiative, to me, is very intriguing. This target direct mail through Nielsen could provide us with a wonderful vehicle for outreach for new business and for trunk shows and for our existing clients so we're excited about those initiatives. This Oprah initiative with the PR element that's attached to it is also a very exciting initiative that's incremental to the fourth quarter of this year.

And can you also talk a little bit about the Sarah Ferguson program?

Well, it's a direct-response TV campaign, Tom. And our hope, just depending on timetables of execution, is to have something out in early fourth quarter, and dependant upon the response, the actual response that we get, this could be a very large program. We're developing it in a way that it's scalable. So if the program tests well, and we see consumer response to this direct TV campaign, we can ramp this to a very significant amount of outreach.

We are supporting a retailer in this effort. It's a not a Charles & Colvard execution.

Right. Thank you.

It's a support of a retailer and a manufacturer.

Okay.

As is the Boscov's TV initiative.

Going to the Sears, basically the holding-off on the decision, do you find that that's more of an administrative issue than -- ? In other words --

I think what I said in the prepared comments is accurate. I don't know that we could put a -- put it on a balance beam and tell you where it's more change in personnel or whether it's more test results. I don't know that we know that. I think that you have to rely on that both of those played a part in the decision not to go forward with the full rollout at this point in time.

But your activity on the marketing side is directly with the retailers, so you are having control as opposed to leaving it in the hands of the manufacturer?

More so than ever.

We're sitting at the table, Tom.

Perfect. Okay. That's what I wanted to hear. Okay and one last thing, at one time you talked about looking into an info commercial to try to educate consumers. Is that still on the table? Is it on the drawing board anywhere?

That DR TV campaign with Sarah Ferguson really could be classified as an infomercial type concept.

Okay. Perfect. Thank you, guys.

Thank you.

There appear to be no further questions. Gentlemen, I would like to turn things back to you for any additional or closing comments.

Thank you, operator. We certainly appreciate everyone's participation this afternoon and I'd like to repeat something I said during the call as a way to say goodbye. We remain highly confident in our ultimate success in building this Company into a prominent position in the fine jewelry industry and I truly do look forward to speaking to you again as that success becomes more apparent. Thank you, everyone, and good night.

Again, that does conclude today's conference call. Thank you for your participation. You may disconnect at this time.