Citi Trends Inc (CTRN) 2008 Q2 法說會逐字稿

Good day, ladies and gentlemen. Welcome to the Citi Trends conference call. Today's call is being recorded. At this time for opening remarks and introductions, I'd like to turn the call over to the Chief Financial Officer, Mr. Bruce Smith. Please go ahead, sir.

Thank you, Michael. Good afternoon, everybody, and thank you for joining us today. Also on the call with me are Ed Anderson, Chairman and Chief Executive Officer, and Beth Feher,, our Chief Merchandising Officer. Our second quarter earnings release was sent out at 4:00 p.m. Eastern time today. If you have not received the release it is available on our Company website under the investor relations section at www.cititrends.com.

You should be aware that the prepared remarks made during the call may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and management may make additional forward-looking statements in response to your questions. These statements do not guarantee future performance; therefore, undue reliance should not be placed upon them. Such statements involve known and unknown risks, uncertainties and other factors that may cause the actual results to differ materially. We refer to the Company's most recent report on Form 10-K filed with the Securities and Exchange Commission for a more detailed discussion of the factors that could cause actual results to differ materially from those described in any forward-looking statements.

Ed and I will provide you with some details related to the second quarter results and our guidance for the remainder of the year, after which Ed, Beth and I will address any questions you may have. Now I'll turn the call over to Ed.

Thank you, Bruce, and good afternoon, everyone. Total sales in the second quarter increased 19.5% to $115.7 million and comparable-store sales increased 6.5%. Net income was $2.8 million compared with $0.6 million in last year's second quarter. Earnings per diluted share were $0.20 in the second quarter compared with $0.04 in 2007. Note that the 2007 second quarter included a $0.03 per share expense related to a secondary stock offering.

comparable-store sales by month were as follows; i[ 5% in May, up 14.8% in June and down 1.9% in July. For the quarter slightly more than half of the 6.5% increase came from an increase in the number of customer transactions and the remainder from an increase in the number of items per transaction. By category: Children's sales were up 18% versus up 4% to last year's second quarter; home division was up 11% in this year's second quarter versus up 2% last year; men's was up 4% after being down 1% in 2007 second quarter; women's was up 2% this year versus up 4% last year; and accessories were flat compared to down 1% in 2007. Sales of nationally-recognized urban brands performed in line with our other merchandise and accounted for 42% of our sales, the same as last year's second quarter.

Sales in the second quarter were clearly aided by the government tax rebate checks. Our sales closely tracked the rebate check process, increasing as they came out and slowing down immediately as the process ended. comparable-store sales in the August month through Tuesday August 19th for the first 17 days of the third quarter were down 1.7%. Beginning of August was negatively impacted by sales in the state of Florida, where the state of Florida did not anniversary last years ten-day tax-free holiday. We estimate that that impact on the entire Company was a 2% drag on comparable sales. Because of the uncertain nature of the economy and our own sales trends, I believe our sales over the next couple of quarters will be flat to up low single digits.

We have continued our progress in inventory management. Total Company inventories at the end of the second quarter were 9% less than last year. Comparable-store inventories were 18% less than last year. We ended the second quarter with 13% less comparable-store inventories than a year ago, so we delivered a 6.5% comparable-store sales increase in the quarter with over 15% less average inventory. These lower inventory levels have had a positive impact on our business, the most obvious being reduced markdowns resulting in improved gross margin. Lower inventory levels have positive impacts on shrinkage results, as well as payroll. Despite the large decreases in inventory from last year, I still believe we have enough inventory to deliver positive comp sales.

Inventory shrinkage was 1.5% in the second quarter compared with 2.3% in last years second quarter. We were overall pleased with the shrinkage results. This year shrinkage was 1.7% in the first quarter. The main reason for the improved results has been our focus on reducing store manager turnover and reducing the span of control of district managers in order to increase the level of supervision. As we've mentioned in the past we believe that store manager turnover is a leading indicator of high shrinkage. Our store manager turnover has increased recently, but we will continue to stay focused on this issue and intend to control inventory shrinkage within reasonable limits.

As I reported last quarter, we completed the expansion of our Darlington distribution center in the first quarter. The building and equipment are fully operational. Also we're in the final testing stages of a new warehouse management system to improve productivity and inventory management and I expect to go live with the [WM Pass] in the third quarter. In the second quarter we opened four new stores and expanded two existing stores. Since quarter end we have opened one more new store and one more expanded store.

With the opening tomorrow of another new store in Chicago we will have opened 18 new stores and expanded seven existing stores year to date. New markets recently opened include Kansas City, Missouri, and Philadelphia. The new and expanded stores have performed well to this point. We expect to open 38 to 40 new stores, expand ten stores and close one store for the full year. We do expect to add a net of 15% additional selling square footage for the full year. New store openings will be somewhat more back-end loaded than previous years.

Now Bruce Smith will review the operating results, the balance sheet and guidance for the remainder of 2008.

Total sales in the second quarter were up 19.5% and are up 16.4% year to date. The second quarter sales increase was a result of opening 35 stores since last year's second quarter and the 6.5% increase in comparable-store sales that Ed discussed. Gross margin for the quarter increased to 38.8% from 36.2% last year due primarily to lower merchandise markdowns and inventory shrinkage. Our efforts to improve the management of inventory levels, together with the strong sales performance in the second quarter, resulted in a 160 basis point reduction in markdowns. Additionally, the steps taken in the past year to lower inventory shrinkage, such as reducing store manager turnover, decreasing the district manager's span of control, and installing sophisticated surveillance systems in our high-shrinkage stores resulted in an 80 basis points decrease during the quarter.

SG&A expenses were 31.9% of sales in the second quarter, down from 32.6% last year. The year-over-year decrease in expense ratio was due to expense leverage from the 6.5% comp, better management of store payroll, and the $450,000 in expenses last year associated with the secondary stock offering. These expense benefits were partially offset by a higher bonus accrual this year due to the improved results in the second quarter and by increased store supervision costs as a result of reducing the span of store control given to our district managers in order to improve the focus on individual stores. Depreciation expense for the quarter increased $1.1 million and rose from 3.1% of sales in the second quarter last year to 3.5% this year. That was as a result of capital expenditures incurred for new, relocated and expanded stores and the expansion of Darlington distribution center.

The effective income tax rate used in 2008 second quarter was 36% compared to 34% last year. The higher rate in the second quarter this year is a result of us raising our effective tax rate forecast from the 32% used in the first quarter to a little more than 33% for the first six months of the year, thereby requiring an adjustment in the second quarter to get to that rate. The change in our effective tax rate expectation includes the decline in our interest rate environment over the past few months, which has the effect of reducing our interest income on auction rate securities.. Since this interest income is tax free, the expected decrease has an adverse impact on our tax rate. Net income for the quarter was $2.8 million this year compared to $627,000 in 2007's second quarter, while earnings per share was $0.20 versus $0.04 last year. Year to date net income has increased from $6.3 million last year to $8 million this year. Earnings per share have increased 24% from $0.45 to $0.56.

In reviewing the balance sheet, total inventories were actually down 9% from the end of 2007 second quarter despite an increase in store selling square footage of 16%. Inventories in comparable stores were down 18%, as Ed mentioned, as we continue to bring our inventory levels more in line with where we think they need to be. You may remember that at the end of last year's second quarter the our comparable-store inventories were up 12% over the previous year.

To give you an update on the auction rate securities of more than $50 million on our balance sheet, we did have one issuer redeem $2.3 million of securities at par value in the second quarter. More importantly our primary investment bank for auction rate securities announced publicly that they have committed to purchase all of their clients' securities in June of 2010 at par value to the extent that any of them have not been redeemed by then. Although we continue to earn interest income on the ARS and have not needed liquidity in these securities to run the business, we do look forward to converting them back from a noncurrent investment to one that is current as was originally intended.

We had discussed earlier this year that we increased our credit facility to $35 million to be safe in light of the lack of ARS liquidity. However, as it turned out we have not to borrow anything under the credit facility and may not have to, even as we build inventory for the Christmas season. For the second quarter we've recorded an unrealize loss of $1.7 million, net of taxes, related to the auction rate securities. This charge only affected the balance sheet, not the statement of income, due to the belief that this is a temporary loss. We believe that the undertaking by our investment bank to purchase the ARS at par value in June of 2010 certainly increases the likelihood that this unrealized loss will prove to be temporary.

Our guidance for fiscal 2008 remains unchanged, with earnings in the range of $1.10 to $1.15 per diluted share, which takes into account the strong second quarter results and the outlook for the second half that Ed discussed earlier. This guidance assumes an anticipated four-year comp-store sales increase of 1% to 2%, an increase in selling square footage of 15%, and an effective tax rate of approximately 33%. One thing to keep in mind as it relates to income taxes is that last year our income tax rate in the second half of the year, 27%, was abnormally low and therefore will adversely affect the second half earnings comparison by about $0.05 per share.

Michael, if you'd come back on we're now ready to answer questions.

(OPERATOR INSTRUCTIONS) Our first question is from the line of Evren Kopelman with JPMorgan. Please go ahead.

Thank you. Good afternoon, guys. First question. Just to confirm you said August to date down 1.7%, but if you exclude the Florida impact that it would be about flattish?

That's correct. We said that for the first 17 -- through yesterday, for the first 17 days of August, our comp sales were down 1.7% but we also said that during this same timeframe we were going against last year's Florida's tax-free holiday,, which they did not anniversary, and we had est -- we had calculated that those stores had a negative impact that dragged the Company comp down about 2%. So, yes, without the Florida impact during that timeframe the sales would have been about flat during that timeframe, yes.

Okay, which is relatively in line with what you expect for the second half, right You said flat to up low single digit, so --?

We pulled our estimate for the second half back some, and you may have read that in the press release, but we had previously said 2% to 3% --

Right.

-- and if you look the numbers when I got it pulled for the full year, I guess it's 1% to 2%. That implies 0% to 1% for the second half.

Okay, so that's where I wanted to ask about. What are the drivers and pressures on comp growth in the second half? You had talked about those.

We don't see anything new going on in the second half really that hasn't been going on, I guess, for probably most of this year other than just a lot we're reading about the economy and the economy seems to not be getting any better and we're listening and watching what other retailers are saying about their business. And frankly our own business was negative in July, almost 2%, and it's been negative even maybe with an asterisk around it the first of August. But our own business has been negative, and so we think it's prudent to manage our business and manage our expectations towards something that's close to flat.

Okay, great. Thank you.

Thank you. Our next question is from the line of Jeff Klinefelter with Piper Jaffray. Please go ahead.

Yes, thank you. A few questions for you. First of all, Ed, just continuing on that comp subject, last year could -- you remind us what your comps were, how they flowed during the three months of the quarter last year? Weren't you -- didn't you post fairly strong comps at the beginning of August last year?

Yes, Jeff, by the way how are you doing?

Very well.

(inaudible) comps a little bit. I'll just continue with what we were speaking with Evren. In addition to the fact that our sales are down negative 1.7% now at the beginning of August with the drag from the -- not anniversarying Florida's tax-free holiday, August was a very strong month last year. In fact, weeks two and three of August were up over 20%. The August month in last year's third quarter was up 14.6%. After August the comparisons get considerably easier as we work our way through the second half. August last year was plus 14.6%. September was negative 6%. October was negative 3%. The third quarter in total for those three months was plus 2%. Now just pushing through the rest of the year while I'm on the subject. November was plus 5.3%. December, the big month, was negative 4.6%. January was flat so the fourth quarter was negative 1%. So last year's third quarter was plus 2% with a strong August. The fourth quarter was negative 1% with a weak December.

Okay. So therein lies your thinking about at least a flat to low single-digit comp. Obviously the easier comparison should --

No, the easier comparison should make it easier, but that's -- it's not in our future, Jeff, and we -- the July month at -- let's go back to the second quarter for a second. The second quarter I guess May was up 4% or 5%, Bruce, June was up 14% and then July was down 2%. But May and June were positives against last year's positives. July was actually a negative 2% this year against last year's negative 5%. So we actually had negative -- so the July numbers bothers us a little bit. In fact, even though with an asterisk maybe at the beginning of August we're still running negative, so -- but that's probably being a little more cautious about our forecast.

Okay, good. Thank you, that's helpful. And then also a couple other things, one on the warehouse management system. You indicated you're testing it -- or finishing you're testing on it and you may be implementing it in Q3. Historically that has been a stumbling block for retailers. (LAUGHTER) It has in some cases created some product flow issues. So any more color you could add there to provide a little bit more comfort on that being a smooth process?

Well, Jeff, that was well worded the way you characterized this risk that companies take on when they install warehouse management systems because it often is a risky thing for retailers and depending how it's done, if it's done poorly, it can cripple a business. However, at Citi Trends our approach is to be very conservative in this. We're only bringing this system up in one of our two DCs. We have two distribution centers, as you know, and we're bringing this system up in the larger of the two, but we're only bringing it up in one.

We've installed the equipment that's going to be operating new and that's been operating for some time and we actually are bringing this system up in pieces, and so we actually are already operating with part of it already. For example, the inventory piece of the system is already up and running. The receiving part of the system is coming up, I think, in this week or so, and the picking part really is the only piece that's left to be done and that's going to be done some time in September or October. So we're bringing it up in pieces and we're watching it. We have a back-out plan. We're only doing it in one of our distribution centers. So I think we're doing all the things that we can to keep the risk down into a manageable level. We don't have to do this by the way. There's nothing volume related around it, so if we see something we don't like, we just back off and do it a later day.

Okay, thank you. And then lastly on new stores and I guess the environment for one in terms of new store opportunities, leasing rates, et cetera, with what's happening in the marketplace are you seeing any changes for your particular type of real estate becoming more available in greater quantities or greater frequency, pricing on those boxes? And then also, any more color you can give us on the new market performance? You said generally performing on plan. You said before Baltimore was the one underperforming market. Can you give us more color around the markets, which are performing above and which are below expectations?

Okay, two sets of questions there. One is the general subject of real estate; its availability, its cost as it relates to Citi Trends. What we have seen to this point is we've expected the commercial real estate market to react with lower prices and better availability and what we have seen to this point is we have seen availability pick up. In other words there are more sites available and so the selection were precise and the markets we're looking at seems to be better so we're getting a good look at more sites than we may have had maybe a year ago or even two years ago. One of the things that has not happened yet is we've not seen landlords be realistic about pricing in this environment, so there's a lot of real estate, for example, coming on to the market but people are holding on to its prices. We think that's going to change over the next few months and maybe as we go through this year end and we see some pricing come back to us but at this point availability seems to be improving but not quite yet pricing but we think it will.

On the second piece, on our new stores and how they're operating, Chicago is probably the biggest new market for us this year. I guess we have now two or three stores up in the Chicago market. We just opened Kansas City and Philadelphia in the last two or three weeks so it's a little bit early to make a real call on those stores, but generally speaking the new stores have continued to be good, Jeff. Those stores we've opened up in Youngstown, Ohio, in the Cleveland, market, in Chicago markets, additional stores down in Texas, and other backfill markets in some smaller towns have continued to perform well.

The Baltimore market has continued to be the negative market for Citi Trends. I looked at those stores today before the phone call to see how they're doing lately. These four stores up there continue to underperform our expectations. They're all four making money but it's small amounts of money and not the returns that we expect. All four of them are running positive increases in 2008 from 5% to 10%, but even at those rates we still aren't getting to the levels that we'd like to and we still have not yet solved that puzzle. This is still the only market where we have not hit our expectations to this point.

Okay. Thank you very much, appreciate it. Good luck.

Thank you. Our next question is one from Patrick McKeever with MKM Partners. Please go ahead with your question. Mr. McKeever, your line's open. Are you with us?

Yes, I am. Thank you. I thought I just hung up, but I didn't. Hi, Ed. Hi, Bruce.

Hey, Patrick.

Question on the back half -- the implied earnings guidance for the back half of the year, given the fact that the second quarter was so strong and so much above -- I know you hadn't given any specific EPS guidance for the quarter, but so far above expectations. But the back half of the year guidance implies a pretty different margin equation, but you've got such an easy comparison in the back half of the year. You've got -- operating margin was down 450 basis points in the back half of 2007. So my question is what should we be thinking there? I think I understand the sales piece of it and how much the stimulus benefited the second quarter, but your inventories are just so much better -- in such a better position than they were a year ago and shrink is improving and so forth, so don't you think you should be able to see some pretty significant operating margin recovery in the back half of the year, even if comps are negative? Or is it not the right way of thinking about it?

Okay, we hear you and let's advance because this is one of the big questions of the call is really what are we thinking about the second half of this year from the sales and margin perspective. First let me do just a minor adjustment on last year's second half. I think we actually mentioned it in the press release. Last years second half had about $0.05 per share of tax, so to catch up, if you will. So if you're looking at last year's second half you should [probably pull $0.05 out of last year's second half then compare the implied guidance for this year to last year and you get a somewhat different number. But clearly, with us coming with a $0.20 second quarter against the Street's estimate of around $0.05 -- and you have to assume that our own estimates were in that same general neighborhood -- our expectations for the second half of 2008 have changed, and the big change -- I guess in order of magnitude there are three changes.

One is [I reported to you] the comp store increases had went from 2% to 3% to 0% to 1%. That's a pretty big change when you multiply it times $250 million or so sales in the back half. And the second piece -- which we'll get into -- is we have pulled back on our interest income estimates and (inaudible) tax impacted that and there's a slight adjustment in the number of store weeks in the second half. But the big impact is really the pull back on the comp sales and followed by the interest income. Bruce, you want to add to that?

Yes. As I mentioned to an extent in my earlier points, we do -- we have lowered our expectation of interest income on the auction rate securities because of the decline in the interest rate environment over the past few months. And I guess from the estimates that we provided earlier, that probably has about a $0.03 to $0.035 impact in terms of lowering the interest income for the back half together with the income tax affect of that, because it all goes straight to the bottom line, probably in the neighborhood of $500,000.

Okay, thanks. And then I've got a question on the availability of brands. You said national brands were 42% sales in the quarter, same as last year. Is anything changing there in terms of availability of some of the hot brands? You didn't talk much about that, but often times you'll give some comments on what's hot and what's not. There's a lot of distress out there across the retail space. I have seen some change at the off price level in general. It seems like TJ and even Ross were going after some of the urban brands a little more aggressively and I was just looking -- leafing through Macy's back-to-school flier and they're pushing urban brands pretty hard right now. Is there a change going on there with competition for some of the national brands?

Patrick, thanks for the question. This question regarding our branded sales and the availability of not only the branded goods but the availability of off-priced goods, I'm going to ask Beth to respond to that.

Hi, Patrick. We definitely continuing to seek out closeouts as a big part of our business, both in the branded and in the fashion area. We generally are finding sufficient quantities in all areas, except for kids, which we do start to sense a slow down there and we think that's happening for two reasons. One is that the kids business overall has been strong leaving less goods to buy, and I think the kids vendors are cutting closer to need from that piece of it.

Got it. Okay, thanks, Beth.

Anything else, Patrick?

That's pretty much it. It's helpful. Thank you very much.

(OPERATOR INSTRUCTIONS) Our next question is from the line of Sam Chase with Stephens Investment Management/ Please go ahead.

First off, good quarter guys in a difficult environment. My question is basically following up a little bit on Patrick here. Even understanding the change in top-line expectations from a comp perspective from 2% to 3% to more flattish to 2% and also the interest income part, I'm a little -- still a little confused on -- fourth quarter last year had such a dramatic EBIT margin decline and I know some of that was bonus accrual, but when we look out this year running 18% or high double-digit down comp inventories, it seems like even on negative comps you guys are having better comp margins. So I'm just trying to reconcile the back half. Is it just conservativeness because of the environment or am I missing something?

I don't think you're missing anything. We're reluctant to give you the details of the pieces of the income statement on a forecast basis, but I think it's fair for us to tell you that we are expecting -- even with the sales being off expecting nicely improved gross margins in the second half.

Okay.

Because our inventory quality is very, very good. The good news is, if sales do come -- just like what happened in the second quarter some very nice things could happen to us but we're not counting on it on a full cash perspective.

So basically this is a scenario where the environment it is what it is and if you guys get a little bit better help then it's going to be better, but as the environment has been weak, you just providing --?

I'll complete the thought to you and give you a little bit more information, but pass on -- No, we're expecting even with flattish to maybe even a small negative to a small positive comp sales number to see some very nicely improved gross margins but because of what happened last year in the third and fourth quarter and our inventories are in markedly better shape than they were at that point. But also even though we had some expansion leverage in the second quarter, if we're running flattish comp sales increases we're going to see some deleverage (inaudible) some of that. (inaudible)

Right.

Does that make sense?

Yes, sir.

Thank you.

I appreciate it. Good luck.

Thank you. I'm not registering any further questions at this time. Mr. Anderson, please continue with any closing comments.

We really appreciate your interest in our Company and thanks for joining the conference call.

Thank you, ladies and gentlemen. This concludes the Citi Trends conference call. If you would like to listen to a replay of today's conference in its entirety you can do so by dialing 1-800-405-2236 or 303-590-3000, input the access code 11113317. Those numbers again, 800-405-2236 or 303-590-3000, input the access code 11113317. ACT would like to thank you very much for your participation. You may now disconnect. Have a very pleasant rest of your day.