Charles & Colvard Ltd (CTHR) 2007 Q4 法說會逐字稿

Good afternoon, ladies and gentlemen, thank you for standing by. Welcome to Charles & Colvard Fourth Quarter 2007 Earnings Conference Call. At this time, all participants are in a listen-only mode. Following today's presentation instructions will be given for the question-and-answer session. (Operator Instructions) As a reminder, this conference is being recorded today, Thursday, February the 21st of 2008. I would now like to turn the conference over to Jean Fontana of ICR. Please go ahead, ma'am.

Jean Fontana. Thank you. Good afternoon, everyone. Thank you for participating in the Charles & Colvard Fourth Quarter 2007 Conference Call. Joining us from management are Bob Thomas, Chairman and Chief Executive Officer; Jim Braun, Chief Financial Officer; and Dennis Reed, President and Chief Marketing Officer.

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, Jean, and welcome to the call, ladies and gentlemen. We are disappointed with our sales and earnings results for the fourth quarter and for the full year, and our Board of Directors and our management are taking actions to meet the short-term challenges facing the company while, at the same time, positioning the company to achieve improved results and increase shareholder value.

While the current retail environment can best be described as challenging, we continue to view moissanite as a viable, affordable luxury category.

As we stated in mid-January, we have engaged Cantor International to evaluate our current business model and to make recommendations to drive improved sales performance. While we look forward to the findings of the Cantor work, we are not idle. We are taking actions to improve our performance.

Operationally, revenue in the fourth quarter was down 35% from the prior year -- $7.9 million versus $12.1 million and for the full year down 32% to $27.8 million versus $40.7 million.

Gross margins in the quarter were 68.6% versus 76.9% in the fourth quarter of 2006. For the full year, gross margins were 72.6% versus 73.5% in 2006.

In the fourth quarter of 2007, we experienced a loss of $1.1 million versus earnings of $1.3 million in the same quarter of 2006. For the full year we experienced a net loss of $24,000 versus income of $6.1 million for the full year of 2006.

To say that we are not pleased with these results is a huge understatement.

In addressing the revenue decline and the increase in our bad debt reserves, I would remind you that our sales performance in any given period does not equate to actual demand at retail, but it certainly is impacted by the overall retail environment.

We were pleased with the sample data available to us that shows improved retail sales momentum of the moissanite category during the quarter, although retailers experiencing and overall decline in jewelry sales during the period have delayed restocking orders to jewelry manufacturers in all categories.

Therefore, orders we would normally expect to see in the fourth quarter for delivery to retailers in future periods were not placed. So while we were encouraged by the evidence of stronger retail sales performance of the moissanite category during the period, we realized and have to accept and understand that we are not immune to the broad decisions of retailers to delay replenishment orders.

As disclosed in an 8-K filing in November of 2007, we did not renew the existing manufacturing agreement with K&G Creations who represented 11% of our total sales in 2007. Despite good faith efforts to reach a new agreement, K&G has decided to exit the moissanite category and our revenue and bad debt reserve in the president were negatively impacted by this development.

The company is in the process of winding up its relationship with K&G, and we are assisting its former retail customers in obtaining new moissanite manufacturing vendors.

Our bad debt reserve was also negatively impacted due to slow payment from Reeves Park. Reeves Park and the company are negotiating to bring the account current.

During the year ended December 31, 2007, Reeves Park, Samuel Aaron International, and Stuller accounted for 20%, 19%, and 14% of our total revenue, respectively. In 2006, those customers accounted for 37%, 13%, 8%, respectively, and K&B Creations accounted for 21%.

Addressing sell-in -- there was no significant sell-in activity during the fourth quarter of 2007 and for the full year we estimate the total revenue attributable to the sell-in at new retail distribution to be approximately $1.9 million, which occurred primarily in the first half of the year.

Regarding sell-through -- at December 31, 2007, chains with greater than 50 stores that sell moissanite jewelry were JCPenney, Finlay, Kohl's, Helzberg Jewelers, the Army and Air Force Exchange system, and Belk. Each of those retailers continues to offer the moissanite category and together operate approximately 2,400 retail outlets.

Although we are still not in a position to provide definitive same-store sales numbers, we have evidence that the total retail sales of fine moissanite jewelry during 2007 was improved in aggregate for this group over 2006. The increased presence at Kohl's was the most important factor in that success.

We believe that we will see enhanced cooperation from the retailers and our current direct customers in 2008 as we work to lower customer inventory levels and improve retail demand and consumer awareness.

In a joint effort with Stuller, Incorporated, we see enhanced efforts and results from our initiatives to increase our distribution at existing independent retailers.

We enjoyed improved results from our distribution through the retail television shopping channels in 2007, further evidencing the viability of our category.

As we work to increase the velocity of sell-through, the impact of greatly increased metal costs will continue to have a negative impact on the affordability of fine jewelry. In cooperation with our customers and the retailers they supply, we are developing strategies and tactics to meet key consumer price points.

While we have great optimism and confidence in the future of moissanite as a fine jewelry category, we are not unaware of the issues and challenges we face. In an effort to more clearly identify strategic choices and opportunities, our Board of Directors has engaged the services of Cantor International to provide a thorough review of our business strategy and model. That work is in progress and our intention is to provide you with a report on our planned actions from that review.

We currently expect to make that report in the second fiscal quarter of the year. In the meantime, we are not idle, and we plan to focus on the following items during 2008 -- we will continue to be diligent in working to reduce our inventory and to collect the receivables due the company building cash; we are actively taking prudent cost containment steps, overhead reduction is ongoing; we will attempt to build on the early success of our initiative to build independent retailer involvement in our category; we will continue to work closely with our direct customers and the retailers to remove any inventory overhang that exists; where there is opportunity, we will execute programs to build our international revenue base; we will seek other new distribution outlets that do not damage our important installed base of moissanite retailers; we will be diligent in our efforts to work to return to consistent profitability.

It is important for us to communicate to you that we are not blind to the issues currently impacting Charles & Colvard. Managing the company to improve performance necessitates that we work and continue to work to build demand for our jewelry, but that we also expend every effort to resolve our inventory and receivables issues.

Later in the call, Dennis Reed, our President and Chief Marketing Officer, will speak to the marketing initiatives, and I will have additional comments at the end of the call. But now I ask Jim Braun, our Chief Financial Officer, to briefly review the financials. Jim?

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

For the three months ended December 31, 2007, net sales decreased 35% to $7.9 million as compared to $12.1 million in the fourth quarter of 2006.

Domestic sales in the fourth quarter decreased 40% to $6.6 million compared to the fourth quarter of 2006.

International sales for the fourth quarter increased 20% to $1.3 million with strong results from all key geographic regions.

Gross profit decreased 42% to $5.4 million compared to $9.3 million in the prior-year period. Gross profit margins decreased 830 basis points to 68.6% in the fourth quarter of 2007 from 76.9% in the comparable quarter of 2006 primarily as a result of higher production costs during the period being released from inventory.

Total operating expenses as a percentage of net sales were 90% for the fourth quarter compared to 61% for the same quarter in 2006 as marketing and sales expenses increased to 62% of net sales in the fourth quarter of 2007 as compared to 52% in the same quarter of 2006.

Marketing and sales expense were down $1,376,000 in the fourth quarter versus the prior year primarily due to decreased co-op advertising expense resulting from our lower sales. In addition, general and administrative expenses increased by $1.1 million primarily resulting from an increase in bad debt expense related to reserve recorded for two customers with significantly past due accounts. This resulted in an operating loss for the three months ended December 31, 2007, of $1.7 million compared to an operating profit of $1.9 million for the same period in 2006.

Net loss for the fourth quarter of 2007 was $1.1 million or $0.06 per diluted share as compared to net income of $1.3 million, or $0.07 per diluted share in the fourth quarter of 2006.

The average selling price per carat for the fourth quarter approximated the fourth quarter of the 2006 amount. As we have discussed on past calls, we expect that the average selling price per carat will fluctuate based on stone size requirements of our customers.

I'd like to point out that our effective tax rate of the income tax benefit recorded at 31% for the three months ended December 31, 2007, is lower than the statutory rates due to non-U.S. operating losses being a larger percentage of income before taxes. This was also the primary reason for tax expense for the full year of 2007 to slightly exceeding consolidated pretax income for the year.

In the fourth quarter, the company's cash position increased to $7 million at December 31, 2007, from $6.3 million at September 30, 2007. This $700,000 fourth quarter increase was primarily due to the $2 million decrease in accounts receivable excluding the effect of the change in the reserve for uncollectable accounts, offset by the $1.1 million net loss for the period and the approximate $300,000 increase in inventory.

Total shipments of 43,800 carats for the current period were 73% less than the 69 sales and 700 carats shipped in the same period of 2006. Shipments of carats in the U.S. decreased 43% while international shipments of carats increased 25%.

At December 31, 2007, total inventory, including consignment, increased by $323,000 compared to the end of the third quarter of 2007 and by $8.5 million compared to December 31, 2006.

The company's raw material inventories of silicon carbide crystals are purchased under exclusive supply agreements with a limited number of suppliers. Cost of 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.

On November 12, 2007, the company entered into a letter agreement with Cree, Inc., that reduce the company's commitment for purchases of silicon carbide crystals from Cree during each quarter of 2008 for approximately $1.7 million that was purchased during the fourth quarter of 2007 to approximately $700,000 for each quarter of 2008.

Due to Cree's raising prices on this reduction in quantity, the price per gram paid to Cree during 2008 will increase by 22% over the price paid during the fourth quarter of 2007.

Accounts receivable net decreased to $9.4 million compared to $12 million at September 30, 2007 -- $940,000 of this decrease was caused by an increase in the provision for collectable accounts due to slow-paying customers that I mentioned earlier.

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 December 31, 2007, no shares were repurchased under the program.

I'd like to turn the call over to Dennis, who will review our marketing initiatives.

Thanks, Jim. With the objectives of increasing consumer awareness and ownership of moissanite jewelry in the fourth quarter, I want to recap the marketing initiatives outlined during the last call.

If you recall, I named six areas -- the first, the new fall ad campaign. The campaign tagged retailers and appeared in the November and December issues of Fashion & Lifestyle publications "In Style," "O," the Oprah magazine, as well as in select issues of "People" and "US Weekly." These publications collectively reported a circulation of over 21 million. We were generally pleased with the addition of "People" and "US Weekly," as we saw measurable lifts in consumer visits to moissanite.com on the days on which those titles hit the newsstands.

The second initiative was TV. In support of Boscov's, JCPenney, and our distributor, Stuller, Charles & Colvard funded three 30-second TV commercials. The first designed as a news flash type format had two 30-second spots promoting moissanite at JCPenney and aired in 11 top moissanite markets with results, unfortunately, we found challenging to measure. A Boscov 30-second TV commercial aired in five Pennsylvania and Delaware markets in late November. The Boscov campaign was deemed a success by the retailer, and we look forward to supporting similar activities with them in the future. And, lastly, Stuller tested a broadcast initiative with their retailers. The Stuller customized 30-second on-demand commercials aired prior to Christmas and, due to its preliminary success, we will continue the program with their retailers throughout 2008.

The third initiative was out of home. Billboards and in-mall advertising supported Helzberg's, JCPenney, and Macy's in key moissanite markets. We tested a 30-second commercial video clip promoting moissanite at JCPenney that aired in non-traditional locations in executive airports and health club kiosks in our seven top markets. Measuring the effectiveness of these institutional vehicles is challenging, however, this activity generated over 13 million impressions.

The fourth initiative was Internet marketing. Brillianceofme.com -- I referred to this microsite during the third quarter call. It's a dynamic site designed with a focus on women featuring testimonials, an insider blog, monthly newsletter, and a section featuring an awards program honoring noted women of achievement. Accessible through moissanite.com and through the URLs Ilovemoissanite.com or brillianceofme.com, this site will launch at the end of the month.

What is moissanite.com? It is a comprehensive educational site designed to address the superiority of moissanite as compared to gemstones and other jewels and provide visitors with the facts about moissanite. This site will also be the educational link that Charles & Colvard will provide to online retailers selling moissanite and will be required as a link for retailers participating in our authorized Internet retailer program, which is currently being developed. We anticipate both the educational site and the Internet retailer program to launch in early April.

The fifth initiative was targeted direct mail. We continue to work with the Nielsen Group on targeted direct mail programs supporting retailers such as Alvin's, Belk's, Day's, and Rogers during the fourth quarter. Charles & Colvard supported another direct mail initiative, which launched in December through our distributor, Stuller.

The sixth initiative was our PR initiatives. The Moissanite Milestone Moments contest ended January 16th with a record number of reader responses -- over 13,600 stories from women around the country. You should know that the Oprah team considers any program a success if it generates 1,000 responses, so it is not an exaggeration to say moissanite is on both Hearst Publications and Oprah's radar screen. The number of media impressions for this program was estimated to be at over 18 million.

Post-PR includes next week presenting the 5-carat moissanite necklace to the winner, a cancer survivor, with coverage that will be on our website and coverage in the May issue of "Oprah."

"The Tyra Banks Show" featured moissanite earrings as part of a studio audience giveaway on their December 18th pre-holiday broadcast. This PR initiative was very successful as measured by the number of consumer visits to our website on the date of airing.

Additionally, Charles & Colvard continue retailer support to assist our manufacturers and retailers in driving consumers to their retail outlets. We continued the retailer support initiatives and sales support for Belk, Boscov's, Finlay, Helzberg, Zale Outlets, HSN, JCPenney, and Kohl's. We created nearly 200 million impressions in newspaper, outdoor, and broadcast vehicles for Boscov's, Finlay, Helzberg, and JCPenney alone.

Local newspaper advertising and PR placement continued for the 499 trunk shows that occurred in the fourth quarter with retailers such as Alvin's, Belk's, Helzberg's, JCPenney's, Macys, Zale's Canada, and Zale Outlets. These activities were jointly funded by the retailers, their manufacturers, and Charles & Colvard. The almost 500 million impressions made by this comprehensive campaign contributed to the increase in consumer awareness as measured by our fourth quarter study.

We saw evidence of increased sales at retail as compared with the previous year for the period but not at a velocity to overcome the inventory overhang that we had going into the season.

The sales and marketing expense for the fourth quarter was $4.85 million, or approximately 62% of revenue. This compared to the $6.2 million in the same period last year. In the first half of this year, our focus will be on retailer support for both in case and trunk show activities and launching and expanding our Web-related marketing activities.

Thank you for your attention, and now I'll turn the call back to Bob for his closing comments. Bob?

Thanks, Dennis and Jim. As I described earlier, there is evidence that our jewel has become a viable and sustainable new category in the world of fine jewelry. Our task is to identify and build on the successes we have enjoyed while, at the same time, acknowledging and learning from our mistakes. We are prepared to do both.

In closing, I remind you of the positives and the reasons for my sustained enthusiasm and optimism for the company. We are the worldwide sole source of moissanite for use in fine jewelry. We provide jewelry manufacturers, retailers, and consumers a strong value proposition that builds incremental sales, not cannibalizing sales of other jewelry categories.

We enjoy a highly scalable operating structure requiring very little capital to grow and perhaps, most importantly, the size of the opportunity is enormous. As consumers come to know and appreciate the beauty of our jewel by capturing only a small share of the worldwide fine jewelry market, Charles & Colvard could be propelled into a much larger and more successful enterprise.

While we execute any necessary mid-course corrections, our destination, or our goal, remains the same -- we will work to build the company and to increase shareholder value.

We will now respond to your questions and comments.

Thank you, gentlemen. (Operator Instructions) Eric Wold, Merriman Curhan and Ford.

A couple of questions -- one, one the K&G situation -- how long do you think it would take to transition those retailers that are using K&G over to a new supplier?

The work is in progress, Eric. In one case, we would expect it to be accomplished this quarter. In another case it may take a month into the second quarter to get that done, but the work is in progress, and the retailers have expressed strong interest and desire to go forward with the category, and that's very positive.

So maybe by the start of the third quarter, or halfway through the year, we should be pretty far along there?

I would think we'd be well along the way in both -- as I said, in one case, we expect orders to starting to be shipped in the last month of this quarter and, in the second case, we would expect to see the retailer receiving new goods about mid-second quarter. That's our current projection.

Okay. I know you guys aren't giving guidance for this year, but a couple of points around that. With the higher purchase price for Cree, the 20%, 22% higher price, what point will those purchases start flowing through the P&L? How much inventory do you have? I know you've got different sizes in your inventory, but if you start purchasing stuff from Cree now at the higher price, when should that start flowing through the P&L?

It would be after approximately, of our revenue, about $150 million. And the quantity that we're buying from Cree is pretty small at these levels, so it would be -- hopefully, not that long, but it will be after $150 million of sales.

Okay, and then on the marketing side, I know there's a lot of pre-planned marketing you did in Q4 that you couldn't get out of ahead of the quarter. Were you able to adjust Q1 or was there still some spending in Q1 that you weren't able to change? And then if you look into this year, should we expect overall marketing dollars for '08 to be lower or higher than '07?

We're not prepared to give you the dollar figure, Eric, but on a percentage basis, we're hopeful to bring that back to a more traditional percentage of revenue. As you know, prior to the fourth quarter, it had been profitable for 27 consecutive quarters, and that was a record that we certainly had some pride about, and our intentions are to attempt to achieve consistent profitability once again.

So on a percentage of revenue basis, that sales and marketing spend will come back to a more traditional percentage -- somewhere below 50%.

The first part of your question about the first quarter -- there was not a lot of pre-planned activity in the fourth quarter. As Dennis alluded to, it was primarily related to supporting retailers via trunk shows or through very specific and targeted promotional events.

Okay, and the last question -- with the lower level of minimum purchases through Cree that you negotiated in November, at what point -- I guess, the first part is, you know, did you think the minimum was lowered enough? Would you have liked to have lowered that minimum even more? And then, two, at what point does the minimum get so low that Cree is able to open up and offer the product to other manufacturers so that exclusive need disappears.

They could not offer it to anybody else. We've met all the thresholds. The danger that you speak of is that we are now a very, very small part of the total Cree revenue. We are a niche business for them. Without giving away too much, we are the only customer they have for the type of crystal that we require. All their other products flow through a slightly different technical crystal, a different crystal growth "geometry," I think, is the word I'm searching for.

So by coming very small, very specialized and with higher quality specs on our crystals or different quality specs, certainly, on our crystals, then there are other applications. We run the risk of not being able to restart that production at some future point if it is not maintained at some minimum level; very, very tough conversations with Cree about this. Ideally, it would be great to shut those growers down for some period of time and use our inventory and build our cash more rapidly. From a practicality point of view, we don't think that is in the best long-term interest of our shareholders for this company.

Just to follow on that -- so, theoretically, if Cree decided to shut those down and not pursue this line of business anymore, one, you have theoretically, enough inventory to last years at the current run rate and then, two, you've got other suppliers which could, over those years, catch up and turn on and become a major supplier if that situation arises?

Yes, that's correct, but we have a good relationship. Obviously, we negotiate very hard, and they do as well each time one of these opportunities arise, but we feel that Cree has a business obligation as well as obligations on different levels to continue to supply us as long as we act responsibly and reasonably, and we think that will be the case.

But your second part of your question is accurate -- Norstel has shown improvement in both quality and quantity, and if we needed more material from them in any given period, at this point, we're developing confidence that they could deliver.

[Eric Otteo, Bichetta Capital].

I wanted to touch on the manufacturer and distributor space and first of all start out with Reeves Park and their issues. How do you view them as a customer over the near term as far as sell-in, and then, longer-term, if things can get resolved, where we see them, longer term?

Well, apparently, in 2007 they were our largest customer. They currently supply JCPenney, Helzberg, the Belk's, Ross Simons, Ultra, other retailers around the country as well as are the best source for the ShopNBCWeb.com and other various accounts, and they support the trunk show lines and activities at both JCPenney, Helzberg, as well as Belk. So they are an important execution part of our business from that point of view.

They have been working hard to bring additional capital to their business as they made significant investments and have a big inventory position in trunk show merchandise as it relates to Charles & Colvard, and that's a significant portion of the issue with us on the receivables.

With all that said, they are an ongoing business operating successfully and, in some cases, are showing some really significant growth in certain segments or in retailers. So they're an important part of our business. So they are important part of our business, and we want to work with them, and we intend to work with them to resolve the issue to the benefit of our shareholders while going through this transitional period until they find additional sources of capital for their business. But as you know, today is not a wonderful environment for that type of activity.

And as far as the potential for other manufacturer distributors, can you talk about any prospects that may be out there? How do you plan to get back into some of these other retailers?

Well, we don't think we've lost any retailers that will be in service by K&G. Now, certainly, we don't know each and every account that they sold merchandise to, but the majors, the more important ones, we have every reason to believe that those relationships will be maintained. There will be some interim period where their orders are not being fulfilled on a timely basis, as they evaluate and select new manufacturers, but we've been -- good indications that those will happen and are happening.

The other manufacturer question is important. We have different manufacturers visit us from time to time, we are in constant communication with a select few of people who have been around this category for some time now and haven't taken the plunge. But our relations in the industry are good and really have improved over the last 24 months, and so bringing other manufacturing partners is not an issue. But we are reluctant to do that and create competition for the existing distribution. If manufacturers have new distribution that comes with them, then that is a different scenario. But just to add manufacturers to compete in the spaces where we already exist is not a healthy situation.

And turning to the Cantor report coming out -- can you talk about what kind of communication you have with them on an ongoing basis? I assume they're not just going to pop in with a report sometime in the second quarter?

No, sir, no. I was on the phone along with several other board members last night from 8 until almost 9 p.m. because that was the time that everybody could be there. I was on the phone again with Mr. Cantor this morning. Some of our executives have been on the phone with part of that review team this morning, every day. So it's an ongoing process. They are being extremely diligent, and are very capable of doing the investigation work, and we're looking forward to their recommendations.

We will get interim reports on their findings and feelings, but they're a fact-based company and any strategic business model type recommendations would not be formalized until the timeframe we've disclosed.

You might also want to say that they are talking not just internally but also to our manufacturing customers as well as to the major retailers that carry the moissanite category.

They are doing a thorough business model and strategy review. I can't stress that word enough. It is thorough, to say the least.

I don't know how many or if any conclusions they've drawn but based on what you've been talking to them about, do you have a feel for how long it may take to implement recommendations when those start coming through?

I really couldn't speculate on that without seeing those, and they have not indicated what their recommendations may or may not be, so it really is not fair for me to try to speculate on what they might be and once we have them, then we can estimate the execution period, but we don't have them today.

Chris Krueger, Northland Securities.

I'm not sure if you stated this number on the call, I don't think you did. Back in November when you announced that your commitment to purchase silicon carbide reduced a lot for this coming year, are the numbers still the same where you purchased approximately $11.4 million in '07, and that could drop as low as to $2.8 million in '08?

From Cree. That is from Cree. We bought -- in the first three quarters we bought $9.3 million and then $1.7 million in the fourth quarter. So it's roughly $11 million, and I might be off a couple hundred thousand there, I'm doing this from memory. And then our commitment to Cree is between $700,000 and $750,000 per quarter for 2008.

Okay, so that's the same as before. Back in, I don't know, May or June, you guys announced that you signed up with the KGK Group. Any update there on their progress?

Yes, they are now a vendor of record with JCPenney, and we continue to work with them in a prospecting mode for the better retail market, which we define as better department store market and better chain jewelry store market, for example, a Nordstrom, even the Macy's stores, which are the buying offices are within the Macy's Corporation. Those we would deem as hot prospects or prospects that we would like to see an affiliation with KGK develop, and that's ongoing. We find their team to be very good to work with, and we look forward to seeing that business expand.

Okay, and then, finally, any more commentary on either Kohl's and how progress is going there, and if there was any changes at potential Sears throughout.

We would expect that Sears would be in service to K&G, and we don't have prospects that that will continue. Sears, the conversations there are not frequent, but our indications are that once the K&G pullout is complete there, then it would be a start-over with Sears.

That's correct. Sears, really, we were in a test mode with Sears, and with their performance and with the change in our relationship with K&G, Bob's characterization is accurate.

With respect to Kohl's, now we're involved 925 doors, approximately, and while we were all pressing to do better in terms of performance on a first-door basis, especially as it relates to the inventory load-in that we did with Kohl's, they are very committed to the category, and we're expect to see expansion in volume with them year-over-year.

Anthony Chiarenza, Key Equity Investors.

A question about, as we look at the economic slowdown over, whatever, the next six, nine months, is that a net positive or negative? Because my thought is, given that moissanite is cheaper, will that cause some customers to go to a lower price point and perhaps be a positive for sales?

That's one possible scenario, but the bigger issue is if the people aren't in the stores, they can't buy. And so the mall traffic, as everybody is well aware, is way down. So that's one issue.

The other issue, as I alluded to in my comments, is the metals price. Gold at $960 to $1,000 has had a significant impact on the retail price of all fine jewelry and moissanite jewelry included. And as I said, we're working to engineer specific products that will hit hot button consumer price points through our manufacturing group, along with the retailers and our internal team here, we are working to engineer specific products to hit specific price points, and once that program gets underway, gets tested and rolled out, then what you describe could be very, very accurate.

But to give an anecdotal example, a one-carat moissanite pendant that sold for $499 in the fall of 2005 would be out today at $729, and the moissanite stone component of that has been increased in price about 1.5% over that period. So the impact, not only of the gold price, but also the increased margin requirements the retailers have proven to be challenging for us, and it really demonstrated some price elasticity that we're still learning from.

As you're trying to adapt, does that mean you're trying to put less gold in a particular product or maybe making more silver or -- what would --?

Those are two of the choices that can be made as we engineer to price points. Historically, we have required our manufacturers to put moissanite only in 14-carat gold or higher metal. Several years ago, when platinum was less than $1,000 a carat there were several retailers that were successful selling moissanite set in platinum. Today platinum is about $2,000 a carat.

An ounce.

An ounce, I'm sorry, an ounce. But those metal choices and the engineering -- stone size is another way to address that. So we're working, again, with our designers -- the designers at our manufacturing partners to engineer some products that will hit price points to a broader audience.

And on the buyback program, you mentioned that you didn't buy anything back over the past quarter. Given the current valuation, I mean, I would imagine the board at least considered at some point to actually implement some of it. Obviously, the stock price is less than $0.50 of book value and so forth, and it would make probably good sense to use some shareholder funds to buy back shares. Obviously, it's accretive. You're increasing book value by doing that.

Yes, sir. The balancing act there is, as our revenue stream slowed down dramatically during the period, and our commitment to Cree for the raw material purchases were at that level, it was being prudent to maintain cash at certain levels, and so the decisions not to buy back shares were carefully considered and put in the mix of all the uses of cash.

Now that the Cree commitment has been reduced materially, and with some hopefully improved revenue momentum in future periods, I'm sure that the board will continue to look at that on a regular basis.

Jay Steinhilber, Smith Barney.

Continuing on the cash flow theme, can you provide me with the worst-case scenario on the accounts receivable? I see you did a write-off. Can we expect more write-offs, moving forward?

Our position on that and with our auditors is very, very simple. We have to make our best estimate and justify that estimate through great examination, and if we thought it was going to be [our] we would have taken a larger reserve. Because we have a reserve doesn't mean we're not going to make every effort to collect every dollar, and those reserves will be looked at on a monthly basis or on a weekly basis internally but will be reported on a quarterly basis. If something materially changes that causes our estimates or our evaluation of the situation to change, certainly we would reduce or increase those allowances as they exist. But, no, if we thought it were materially difference in this day, we would have taken a larger reserve.

So what I'm hearing is hopefully it was very conservative in the accounting of the receivable, and that the personal guarantee from your customer is -- gives you confidence that that's a good number?

Well, we have confidence in the number for a variety of reasons, and I won't comment on what the specific reasons are.

Okay, second question -- am I not correct that the Cree purchase agreements, you can continue those into 2009 via the contract? So, therefore, we could see reduced commitments, maybe to the $700,000 level per quarter for '09 also, is that correct?

Our agreement with Cree is for the current year, and because of the technical nature and the difficulty of speccing the raw material that goes into our crystals and different things, we sit down with Cree on a regular basis and give them indications about what to expect. Because we have dramatically lowered the volume requirements over there, we wouldn't expect to have -- and they have existing inventories to supply us for future periods -- this period and future periods -- we wouldn't expect to have that conversation until mid to late second quarter, early third quarter for '09 -- give us some more visibility and what our revenue looks like and then make a decision. But those conversations won't even take place until either very late in the second quarter or early third quarter.

But isn't there a multi-year agreement as far as the total revenue or total amount that you have to buy?

No, no, no, there is not. We have a multi-year agreement with Norstel, and that agreement can be extended, and we're currently in discussions with Norstel. In the early part of our agreement, they did not supply the volumes that they anticipated. They are getting up to speed and, as I said earlier, the quality and the quantity are both -- have improved to a point where we have more confidence in them, but we have the ability to extend the delivery of those crystals into the future.

But your point on Cree -- our contract with them goes to 2015. The amount purchased every year is set in the previous year. So we have set the purchases for 2008. What Bob was saying, we will set the purchases for 2009 probably in the third quarter of 2008.

Al Shams, Mid South Capital.

In view of the poor performance of the company and the executive team over the last few years, has anyone considered the executive team taking a haircut to their compensation until we get this matter taken care of?

Let me address that specifically but more broadly. As part of the Cantor review, everything is on the table including not only compensation levels but the individuals who receive those compensation. And I'm not trying to make light of it or -- but everything is on the table during this Cantor review, and so the board, we met earlier this week, conversations were held across a broad array of issues. We would hope to be able to share more details but no definitive decisions were reached, but over the course of the coming days and weeks, as those decisions are reached, if they are reached, we will certainly disclose any material developments.

Okay, was compensation one of the issues that was discussed at the board meeting.

Say again?

Was executive compensation one of the issues discussed in the boardroom?

Compensation, both from the board members themselves as well as members of the executive team was a topic of conversation.

Have you mentioned specifically how you intend to regrow revenues or grow revenues from these levels or is that being held in abeyance until you get the reports from consultants?

We've addressed that in our comments -- actually, are posted on our website now, and I would ask you to go and read our comments (inaudible) these are. It continues to be and not near as it was a year ago, not nearly as bad was it and maybe June of '07. But there continues to be an inventory override in certain of these retailers, and they are precluded from reordering. So we are helping them move merchandise that, in one case, we shipped in 2005. So it is incumbent upon us to increase the velocity at those existing retailers so that space can be cleared for new orders. And that is when you'll see increased momentum on our revenue line.

The other thing we're dealing with, of course, is the overall economy and the behavior of consumers and the availability of credit. So those issues are impacting that and make it very difficult for us to project when that revenue momentum may be regained on the positive side.

Jay Steinhilber.

Is there any glimmer of light with your distributors as far as possible new retailers? I know it's a difficult environment, but can you give us some light on that? Are we getting close to anything?

There is no major announcement we're holding our breath about. We are making some incremental progress. We haven't put our releases on any of those, and I don't want to mislead anyone -- one of them is an important international win for us with a chain store, but it's not 1,000 stores, it's not 1,000 doors, it's not a 500-door chain, but we are certainly continuing to work with our manufacturing customers as well as talking to new manufacturers about new distribution. And as Dennis alluded to, KGK is an important part of that, given their expertise and experience domestically and others in different marketplaces.

And one final question -- as far as the cash flow goes, do we expect to have to take on any debt or anything like that, moving forward? I think your balance sheet is fine, but can you give us some idea on your end what you see?

Given this credit environment, I think it would be foolish for us to predict that credit would be easy to put on the balance sheet -- or debt. But, by the same token, an operating line is not out of the question at some point down the road. We agreed, our balance sheet is strong, we believe we're very healthy, but I'm not going to cut off any path or say that our options aren't open -- they are.

But with the reduced purchases from Cree, it would seem like that it would be very unlikely that we would have to take on any debt in 2008. I know I can't hold you to it, but would you agree that's a fair assessment?

Given the operating history that we've had here when we had $20 million in the bank, and the big upside going on, we always have been pretty conservative and always paid our bills on time or ahead of time, and we think we'll be able to continue to do that with the resources we have.

Rick Federman, Federman Investments.

I want to circle back to the inventory at retail for just a minute -- did I understand correctly that you believe that the larger retailers, at any rate, had better sell-through in '07 than in '06 but just did not reorder due to cautious stance on the business environment?

We have strong evidence from the retailers that we get solid information from, that the total retail sales of moissanite jewelry in '07 was higher than in '06. Same-store sales -- I don't have that number, I can't provide it, but total retail sales, in other words, customers buying pieces of moissanite at a higher level than they did in '06. Not only that, the number of units was up substantially particularly at one location. So the retailers enjoyed success with the category. We get into an environment where the retailers have little or no confidence about the consumer during, at least, the first half of '08 and maybe longer than that, and I'll leave it to you to read some of the retailer comments as they post their results, about what they expect to see.

But when they see a slowdown, they didn't just shut down the moissanite category, they shut down everything in the jewelry category. So the diamond guys, the gold guys, the colored stone guys -- everyone is seeing reduced order flow based on their decision to operate in a leaner way for '08 until they see some recovery from the consumer.

Well, given the fact that many of these retailers have sort of heavy inventory going into the season, do you know after the holiday season is over, is there a level of existing inventory relative to more normal times. I mean, is it high, is it low, or is it fairly normal now?

Every retailer is different, but some we would characterize as normal, and some we would characterize as still having overhang. Some of that was based on mistakes that were made by manufacturers back in '05 where the SKUs were wrong, and the assortment was just too big.

So that does exist at certain places, but we are in a much-improved place than we were six, nine, 12 months ago.

Can you comment or can Dennis comment on the venture -- I guess that's what you'd call it -- with the "Oprah" magazine. I mean, I know that you got 13,600 responses. Was there any measurable business, anything that you can say, "You know, maybe it wasn't great, but this is what came of it?"

What I can say, Rick, is that JCPenney enjoyed a change in sell-through momentum with the onset of this program, and we saw a positive trend, especially in unit volume with respect to the activity around the Milestone Moments campaign. So from their perspective, from the retailer perspective, I think they would deem it as a successful venture.

It's hard for us to follow the trail back to the stones leaving our building to them to say that we saw what we needed to see to make the ROI make sense, but there is certainly evidence that shows that their business expanded as a result of that activity. So I would say that they would call it a successful venture.

What kind of conversations or program are you going to continue along this line? I mean, I heard your comments earlier in the prepared remarks, but is there going to be a continued effort with this, or is it sort of a wait and see at this point?

I think it's more of a wait and see. I would characterize it in that way, Rick, because it's really a fall effort. That's -- if you look at where our sales and marketing expenses dominantly fall, and we have ongoing conversations about what innovative marketing activity we can do with folks like JCPenney to help their fall performance. We've been down to Dallas recently just to start those conversations. So I would say we're at the early stages of program development for that.

All right, thank you, good luck.

Thank you, sir, very much. Operator, we'll take one more. We've about expended our hour, I think.

[Preston Falks], Princor Financial Service Corporation.

The last caller answered some of my questions, I was going to ask about the "Oprah"/JCPenney promotion. I thought that would get a lot of press for your product. I just had a quick question on valuating the stores during the holiday season. JCPenney seemed to have a more inviting jewelry display for not only moissanite but just jewelry, in general. Kohl's did a very good job with the Sunday flyers and put your name in there, but the store doesn't seem to have a great jewelry counter. Can you comment on that, and if that can affect moving your product? It seems that JCPenney is more like a jewelry business type, you know, competing with a Zale's or something, like a regular jewelry store?

Yes, Preston, obviously, JCPenney has been an established department store for much, much longer than Kohl's. It hasn't been that long ago when Kohl's was a grocery store chain in Milwaukee, and they've evolved into this very successful department store chain. So Penney's has had a much longer history in the jewelry category and has a more evolved program in place with -- associates have been there longer and a longer track record, they are certainly expert at selling fine jewelry in a department store setting, and we are very pleased that they have had success with the moissanite category.

Kohl's, on the other hand, is an evolving department store and a growing department store and an important department store in off-mall locations that creates a different type of shopping experience for their customer. And they understand that their jewelry counter, like maybe other segments of their business and other businesses, need to evolve, and they are working to do that. As Dennis said, they are committed to the category, they are pleased -- not thrilled -- but pleased with where we are in our revenue contribution there, and so we understand what you're saying. But, more importantly, Kohl's understands it and is working to evolve their jewelry business into a more meaningful part of their overall business.

A last question at this -- 2006, it looked like your business was going to explode with big box stores, and I did read somewhere mid last year in the Wall Street Journal how sometimes small companies selling to big box stores sometimes the growth and sales don't materialize the way initially getting into these big stores. I know you were originally, you were going to Mom and Pop and online and QVC and shopping networks. Do you see the big store is where you need to be or are you going back to the old --?

The answer to your question is, women -- moissanite, we know from our warranty cards, has been primarily a self-purchase item. Women traditionally are very comfortable and shop for almost everything they buy in department store settings, and so I think that is an indication that we are in the right setting from that point of view.

Retail jewelers, on the other hand, know that they have not always been warm and welcoming to women shoppers, and they are using the moissanite category as a way to welcome women into their stores for the self-purchase.

So we are not opposed to any distribution in any channel as long as it's not going to create an erosion of velocity in the existing locations, and we're going to -- when we get to price war type of issue among various competitors. So we're mindful of the image, we're mindful of (inaudible) and, at the same time, we want to grow revenue. We want to be a much, much bigger business, and we're doing what we believe are the correct steps to make that happen, over time.

Part of that is to make sure that the inventory that is in the existing retailers turns in an acceptable level so that they continue to be very pleased with the category and then grow the business to increase consumer awareness and increase consumer demand.

Thank you all very much for your comments. At this point in time, we will say goodnight to you and thank you again for being on our call this afternoon. We know that it's been a difficult year. We understand that there will be difficulties ahead, but we are certainly working hard to regain some revenue momentum and to return to a situation where we can sustain profitability. Thank you for your interest and your attention tonight.

Thank you. And ladies and gentlemen, that will conclude today's teleconference. We do thank you again for your participation and at this time you may disconnect.