Five Below Inc (FIVE) 2014 Q3 法說會逐字稿

Good day, and welcome to the Five Below third quarter earnings conference call. Today's conference is being recorded, and at this time I'd like to turn the conference over to Ms. Farah Soi. Please go ahead, ma'am.

Thank you, operator. Good afternoon, everyone. Thanks for joining us today for Five Below's third quarter 2014 financial results conference call. On today's call are Tom Vellios, co-founder and Chief Executive Officer; Joel Anderson, President; and Ken Bull, Chief Financial Officer. After management has made their formal remarks, we will open the call to questions.

I need to remind you that certain comments made during this call may constitute forward-looking statements and are made pursuant to and within the meaning of the Safe Harbor Provisions of the Private Securities Litigation Reform Act of 1995 as amended. Such forward-looking statements are subject to both known and unknown risks and uncertainties that could cause actual results to differ materially from such statements. Those risks and uncertainties are described in the press release and Five Below's SEC filings.

The forward-looking statements made today are as of the date of this call, and we do not undertake any obligation to update our forward-looking statements. Finally, we may refer to certain adjusted or non-GAAP financial measures on this call. A reconciliation schedule showing the GAAP versus non-GAAP financial measures is available in our press release issued today.

If you do not have a copy of today's press release, you may obtain one by visiting the investor relations page of our website at FiveBelow.com. I will now turn the call over to Tom.

Thank you, Farah. Thanks, everyone for joining us today. As I'm sure you've seen, we issued two announcements today. The first, announcing the appointment of Joel Anderson as CEO effective February 1, 2015, and the second, our third quarter earnings release. First, I'd like to spend a few minutes addressing our announcement of the appointment of Joel Anderson as President and CEO effective February 1, 2015.

Our succession plan and the smooth transition of leadership at Five Below has been something that David and I, together with the Board, have been working on for quite awhile now. It was critically important for us to find the right person to lead Five Below and to help realize the full potential of the amazing growth opportunity that lies ahead of us. We saw that leader in Joel when we recruited him and since he's been on board, he's hit the ground running, immersing himself in all aspects of our business, in particular, merchandising, marketing, and stores.

Additionally, his commitment to people and culture mirrors that of mine and David's, which was a key operating philosophy that we needed to find in the next leader. I know I speak for David, Ken, and the entire Five Below team, as well as our Board, when I say we believe Joel is the right person to lead the Company. It is also the right time for this transition. We have a solid and growing presence in our existing markets, and our brand is being received with great enthusiasm in newer markets, as the value proposition resonates with existing and new customers alike.

We have more than doubled the store base in the last four years alone and significantly expanded the reach of our brand over the last decade. We worked tirelessly to build a solid infrastructure of systems and talent to ensure the foundation of this great business is strong, one that will serve us well for years to come. All of this combined with our disciplined approach to running the business has driven the profitable and consistent growth we've delivered.

And as I sit here today, I'm confident that in Joel, Ken, Eric, and all our dedicated associates with their passion that we have the right team and leadership in place to move us forward. We've built a solid foundation which we will continue to strengthen to position Five Below for long-term growth and the tremendous opportunities ahead. I will work closely with Joel to ensure a smooth and orderly transition and will remain active in my new role as Executive Chairman. My partner and co-founder, David Schlessinger, will retain his seat on the Board of Directors and continue to support Joel and the entire Five Below team. And now, to our third quarter results.

We are very pleased to have delivered another quarter of solid performance. Sales for the third quarter increased 25% to $138 million and our comps increased by 1.5%, which was our 34th consecutive quarter of positive comps and which was up against a rubber band trend that helped drive a 9% comp in the third quarter last year. Earnings per share for the quarter was $0.06, which was at the high end of our guidance range.

We opened 12 stores in the third quarter for a total of 61 stores year to date. Our third-quarter openings included our first store in Brooklyn, New York, as well as our first store in San Antonio, Texas. We continue to see strong performance out of our 2014 class of stores consistent with the strength that we've seen the last three years, as customers in both new and existing markets alike embrace our value proposition and our merchandise offering.

As we always do, we will discuss our 2015 plans on our year-end call, but I can tell you that the store pipeline for next year looks good and we believe that 2015 should be another solid class for Five Below. With one additional opening in the fourth quarter, we've now completed our store opening plan for FY14. We will end the year with 366 stores, an increase of 62 stores over FY13. From a merchandising perspective, we saw strength across a broad range of categories, which Joel will speak to shortly.

With respect to gross margin declines driven by freight and occupancy that we previously discussed, and partially offset by SG&A leverage, adjusted operating income increased 21% on top of a strong 35% increase last year resulting in EPS of $0.06 for the third quarter. On the distribution front, construction on our new East Coast center located in southern New Jersey is under way, and the facility is currently scheduled to open in the second half of 2015. This new DC is in close proximity to and will replace our current facility in New Castle, Delaware.

Our associates will be offered the opportunity to transfer to the new facility, and it is expected that most associates will continue in this new distribution center which should benefit the transition process. Ken will discuss financials in a moment but our current estimate for the expected drag of this new DC on our FY15 gross margins is approximately 30 basis points or about half of what we saw from our Olive Branch, Mississippi DC, which opened in 2013.

We've worked hard all year building our capabilities, adding necessary talent, bringing on seasoned leadership, and breaking ground on a new East Coast distribution center to support the growth that lies ahead. All of this to ensure that Five Below is well positioned to execute and deliver our promise of newness and value to our customers and consistent, profitable growth for our shareholders. Ken will discuss our guidance in more detail but before he does, I would like to make a comment on Black Friday weekend.

While sales trends were in line with expectations, Thanksgiving Day and Black Friday traffic for the weekend was soft and sales were below our expectations. While the weekend overall is relevant for Five Below, keep in mind our most important holiday weeks lie ahead and as we typically do, we have factored our quarter-to-date performance along with our expectations for the remainder of Q4 into our outlook.

Additionally, you have heard other retailers speak to shipping disruptions caused by labor issues at the West Coast ports and we spoke to this at our second quarter call. We incurred higher freight costs in the form of higher container surcharges and had higher inventory levels in Q3 as we made the decision early in Q3 to shift receipts from November into October, but this result is that we're in stock and very well positioned for the holiday season.

I want to acknowledge all the work that Joel and the entire Five Below team have done to ensure that we are in great shape for the holiday season. I will now hand it over to Joel to provide additional comments on our third quarter results. Joel?

Thanks, Tom. Let me first say that I am honored to be given the opportunity to lead this amazing Company. Last quarter I shared with you the things that drew me to Five Below. First, it was a customer passion for the brand and all that stands for. Secondly, the authentic associate commitment. Third, the merchandising capabilities as well as the amazing growth that lies ahead.

Over the last few months, I have worked closely with Tom, David and the team and have the highest regard for the talented group of people at Five Below, the organization as a whole, and the highly differentiated customer value proposition. This is a unique concept with a tremendous runway for growth and numerous opportunities ahead. So I view this as being a dream job. I also feel very fortunate to be able to benefit from Tom's continued involvement in the business as Executive Chairman.

To be able to use Tom as a resource as well as David Schlessinger, both founders of our Company, is a luxury that not all incoming CEOs have. I want to take a moment to give you a sense for how I'm thinking about Five Below and what my priorities will be as CEO. Five Below is known for its speed to market and the ability to be nimble while operating in a disciplined manner that drives consistent and predictable performance. I believe in those principles and they will with continue to guide everything we do at Five Below.

Since joining the Company, I've seen firsthand that Five Below is truly a differentiated, customer-driven organization built on a foundation of disciplined efficiency and one poised for continued growth. The formula for this business is proven and the foundation is strong. Now, on to our priorities. One, we will continue to execute on the strong growth opportunity in new and existing markets for our stores. Two, we will focus on building upon the store experience for our customers and making it even better. This has made us the shopping destination of choice for pre-teens, teens, and beyond looking for trend-right, high-quality products, all at $5 and below.

Three, we'll also look to strengthen our systems to support the continued growth and enable the scaling of the business. Four, the talent within Five Below is exceptional, and we want to make sure we are constantly providing our great associates opportunities for growth within our Company. To that end, we will be implementing programs to help train and further develop talent internally providing a career path for our associates which will be critical to our future. Five, we will explore new marketing platforms and channels as well as our eCommerce options to build our brand and extend consumer awareness of Five Below.

An example of this testing is the TV spot some of you may have seen in the last couple weeks in a few of our smaller markets. And finally number six, and most importantly, we are a merchandising driven Company. We will continue to invest in our merchandising capabilities and talent to ensure we are delivering the newness and wow factor that our customers have come to expect from us, and we will approach all of these priorities with the same rigor that we have always shown, which has been a critical ingredient to our success to date. Discipline across expense management, inventory control, capital allocation, and every area of the organization.

I am energized and excited about the opportunity that we have to build on the accomplishments of Tom and David, our founders. I am looking forward to working with Ken, Eric, and the entire team to create a national footprint that's something truly special in the retail industry. Now let me turn back to the third quarter.

It was a solid Q3, particularly considering the tough comparison we were up against in Q3 from last year. All the work our merchandising and product development teams have been doing manifested itself in a great assortment of exciting product this quarter, which you will continue to see through the holiday. In Q3, we had a solid back-to-school line up that was well received by our customers. Performance in the quarter was driven by strength in several categories including toys and games, sports and candy, as well as a solid performance from our beauty category.

In addition, our Frozen assortment, which spans multiple categories, also performed well. In Q3 once again, the teams were doing what we do best, delivering relevant trend-right product at extraordinary value to our customers. We do not set trends. We are very fast followers, and the investments we have consistently made in improving our talent and capabilities continue to make us better.

One illustration of this is our ability to be able to react quickly and leverage our sourcing capabilities, an amazing base of 800 plus vendor partners. This allows us to quickly capitalize and bring trends to market like we did with the iPhone 6 cases and accessories. Within a week and a half of its release date, we had this product in our stores, and we are working on getting even better and more nimble to capture opportunities with faster response times that result in increased freshness and relevance for our customers.

And finally, as we look ahead to the key holiday selling weeks, I'm sure you'll agree that the stores and merchandising offering look great. We are well prepared for the big weeks that lie ahead. Now, Ken will discuss our financial results in more detail and review our guidance. Ken?

Thanks, Joel, and good afternoon, everyone. I will begin my remarks with a review of our third quarter results and then discuss our outlook for the remainder of the year. Our sales in the third quarter of 2014 were $138 million, up 24.6% from the $110.7 million reported in the third quarter of 2013. We ended the quarter with 365 stores, an increase of 61 new stores or 20% versus the 304 stores at the end of the third quarter of 2013.

Comparable store sales increased by 1.5% on top of a 9% comp in the third quarter of last year. The comp increase was driven primarily by ticket, which was a function of the comparison against last year's third quarter which benefited from lower ticket rubber band sales. Gross profit increased 21.6% to $41.6 million from the $34.2 million reported in the third quarter of 2013. Gross margin decreased by approximately 70 basis points to 30.2% driven by higher freight costs related to the West Coast port labor issues that we discussed on our call last quarter.

The financial impact of these higher freight costs were in line with our expectations at approximately a $0.01 EPS impact. In addition, we saw occupancy deleverage on the 1.5% comp. These items were partially offset by lower pre-opening rent versus the prior year as we opened 12 new stores in Q3 this year as compared to 28 net new stores in Q3 last year. Before I discuss SG&A, operating income, net income, and EPS, I want to point out that the results for the third quarter of 2013 reflect the founders' transaction which had no impact on our third quarter of 2014.

When I refer to adjusted SG&A, adjusted operating income, and adjusted net income, this excludes the impact of the founders' transaction for the third quarter of 2013. And when I refer to adjusted EPS, it is EPS based on adjusted net income using an adjusted diluted weighted average shares calculation for the third quarter of 2013. Please see the GAAP to non-GAAP reconciliation table in our press release for further detail.

As a percentage of sales, SG&A for the third quarter of 2014 decreased to 26.2% from 28.2% in the third quarter of 2013, due primarily to costs incurred in the prior year period related to the founders' transaction. Adjusted SG&A for the third quarter 2014 decreased to 26.2% from 26.8% in the third quarter of 2013 driven by lower pre-opening costs. Our GAAP operating income increased 81% to $5.5 million or 4% of sales from $3 million or 2.7% of sales last year.

Adjusted operating income for the third quarter of 2014 increased 21% from last year's adjusted operating income of $4.5 million. Our effective tax rate for the third quarter of 2014 was 39.5% compared to 37.9% in the third quarter of 2013. The increase versus the prior year was due to discrete items. On a GAAP basis, net income increased to $3.3 million or $0.06 per diluted share from $1.7 million or $0.03 per diluted share last year. Adjusted net income increased 28% to $3.3 million or $0.06 per diluted share from $2.6 million or $0.05 per diluted share last year.

We ended the third quarter of 2014 with $5.3 million in cash and cash equivalents, availability of $20 million under our revolving credit facility, and no debt. Inventory at the end of the third quarter was $167.2 million as compared to $115.5 million at the end of the third quarter of last year. Ending inventory on a per store basis was up 20.6% year over year.

As we said on our last call and as Tom noted earlier, the increase in per store inventory was due almost entirely to our decision to shift direct import shipments from Q4 into Q3 in anticipation of potential port issues. For the end of Q4, we expect inventory on a per store basis to return to normal levels as we sell through our holiday merchandise.

Now I would like to turn to our guidance. For the fourth quarter ending January 31, 2015, net sales are expected to be between $262 million to $266 million, assuming a 4% comparable store sales increase. With an additional store opened in the fourth quarter, we have completed our 62 planned 2014 openings and our attention is now focused on the all important holiday season.

GAAP earnings per share are expected to be $0.59 to $0.62. As Tom mentioned, our fourth quarter outlook reflects our performance quarter to date as well as the comparison against the weather challenged Q4 last year and does not assume any additional deterioration in the West Coast port situation. We feel good about our inventory position for the holiday season, having accelerated deliveries and rerouted others as needed to help mitigate the impact of the port situation.

Though we expect improved merchandise margins in Q4 given the comparison against the weather impacted fourth quarter of last year, we have incurred higher freight costs as a result of the port issues which will impact Q4. As a result, our fourth quarter guidance assumes only modest gross margin expansion. For the full year 2014, sales are expected to be in the range of $678 million to $682 million with the comparable store sales increase of approximately 4%. This compares to net sales of $535.4 million for FY13 representing a growth rate of 27%.

With an additional store opened in the fourth quarter, we have opened 62 stores in 2014 and expect to end the year with a store count of 366 as compared to our 2013 ending store count of 304. We continue to expect relatively flat gross and operating margins for the full year and a full year effective tax rate of 38%. GAAP net income is expected to be in the range of $47.2 million to $48.5 million, with GAAP diluted earnings per share of $0.86 to $0.89. Adjusted net income is expected to be in the range of $47.7 million to $49 million or approximately a 29% to 33% increase over 2013 with adjusted earnings per share expected to be $0.87 to $0.90.

With respect to CapEx, we plan to spend approximately $36 million in 2014. And as I mentioned last quarter, our capital expenditures reflect the opening of 62 new stores and investing in existing stores, corporate infrastructure, distribution centers, and system upgrades. And as I said last quarter, we will incur initial spend for the new East Coast distribution facility that we expect to be operational towards the second half of 2015. We currently estimate that we will spend approximately $25 million on this project of which approximately $4 million will be spent on initial outlays in 2014.

As is customary, we will speak to 2015 on our Q4 call, but we currently estimate that the gross margin drag from this new facility will be about half of what we saw out of Olive Branch or a drag of approximately 30 basis points. As a result of this new DC, we currently do not expect to see operating margin expansion in 2015. For all other details related to our third quarter and full year 2014 guidance, please refer to our earnings press release. And with that, I would like to turn the call back over to Tom to provide some closing comments before we open it up for questions. Tom?

Thanks, Ken. Across marketing, merchandising, stores, and the entire organization, Five Below is ready and in great position to deliver on our promise of newness, excitement, and value to our customers this holiday season. During the last 12 years, we have built an incredibly unique retail business with a very loyal customer base and passionate associates. As proud as we are about where the business is today, we are even more optimistic about the future of Five Below.

With only 366 stores today, there is a long runway for growth ahead of us. I look forward to working with Joel, Ken, Eric, and the entire Five Below team, and the Board as we embark on the amazing growth opportunity that lies ahead under Joe's leadership while staying true to our mission of delivering newness and value to our customers and consistence and profitable growth to our shareholders. Thank you for your continuing support, and we would like to wish you and your families a happy and healthy holiday season. At this point, I would like to turn it over to the operator for questions.

Thank you, sir.

(Operator Instructions)

Our first question we'll take from John Heinbockel with Guggenheim.

So Tom, a couple of things on just on the short term. Your commentary on Black Friday was, Black Friday was in line with expectations but the weekend as a whole was light and including Black Friday. Is that fair?

Yes, I think, John, just to be clear, I think if you look at the combination of Thursday/Friday, that was within the expectations and it was sort of the back end of the weekend, Saturday/Sunday, that we saw the Company fall short.

But if you look at the four days as a whole, if you put those together, that would have been light, too, or in line, or what?

Well I think, John, without getting into it -- maybe I think the best way to sort of try and sum this up, I think if you look at, here is what I feel about where we are and how we view the impact of the call it the Thanksgiving/ Black Friday impact. We feel good coming out of Q3. I think you heard that across in content and Joel spoke specifically to the performance across many of our categories.

I'm confident that from an assortment and products point of view, we are well positioned for Q4. As you know, most of our business is still ahead but clearly I think when we saw the latter part, particularly the latter part of the weekend, it did fall short to our expectations. And what we've done is we basically had taken that performance, we look at our quarter to date, and I think what we did -- now let's remind ourselves. I think original guidance was mid-single-digit that we put out there, which was lowered to 4%.

I think it's a responsible thing to do when you see something in your business that you do and what we've always consistently done, not an indicator of how we feel about our customer. I will tell you, when our customer is in our stores they are spending money as evident by the average spend from our customers.

And if something were to change as we look ahead into December, we are well positioned for it. But we felt it was the responsible thing to do and adjusted our guidance down based on what we saw. Again, knowing that the majority of the business for us is still ahead of us.

Okay, and then just as a follow-up to that. Just remind us, I believe you got hammered, in particular, by weather the first two weekends of December, so it would be this one coming up and the one after; is that correct? And then just more strategically, with you moving on to Chairman, what do you intend to spend time on that you weren't before as CEO?

Sure. I think you are correct on the weather, and Ken, jump in. I think you've done enough.

John, from a weather perspective, it was really the majority of December was really where we saw the impact last year.

And it starts the weekend coming up, John, you are correct.

Okay.

And the other which I think is a great question. Look, we have a great business. We have a great opportunity. The timing was right. When you find a great leader, David and I have always been of the mindset that when you find the right leader to transition your business, that's when the timing is right. With regard to what I'm going to do, my job is actually real simple. We have a job to do. We have a great opportunity.

We are thrilled to have Joel as the new CEO of the business starting February 1, and my focus has to be on how do I find a way to make sure in my role as Executive Chairman, together with the Board, to support Joel and to help guide the strategy and direction of the business across every aspect of the business as we continue to almost evolve this business from past and what has been to present and what it needs to be in the future. These are exciting times for Five Below.

Okay, thank you.

John, I'd just add, this is Joel. Since I joined Five Below, I've had the opportunity to work very closely with Tom, and as I said in my remarks, it's a luxury to have somebody like Tom staying on as Executive Chairman as I move into the CEO role. And I'll tell you, this is a merchandising driven Company and having somebody like Tom who's one of the best merchants I've ever met at my side to help think about our long-term strategy, new opportunities, where we can go.

In many ways, he will be freed up to focus even more on that as I take on the day-to-day responsibilities of running the Company. So I think it really works nicely being able to have Tom on board as we move ahead and move forward, and I look forward to that long-term relationship.

Thank you.

Next we'll take Charles Grom from Sterne, Agee.

Hi, guys. Good evening. Just on the fourth quarter gross profit margin, guide for only modest expansion, how much is the West Coast issue going to weigh down because obviously, [grosses] were down over 120 basis points last quarter, so is it that big of a hit in the fourth quarter?

Yes, we'll probably see a similar impact in Q4 that we did in Q3, Chuck, related to that.

Okay, and the 75 basis point decline, that was entirely the West Coast issue?

In Q3 you're referring to?

Yes.

Well we had the deleverage on occupancy expense also that was in there for Q3.

Okay. How did merchandise margins look in the third quarter?

Relatively flat. Again, where we've kind of seen us in the past, that's where we landed again in Q3.

Okay and then when you look to 2015, you identified the 30 bp hit from the new DC down in South Jersey. What do you think the offsets could be to that and what's your total gross margin expectation for next year?

Well again, 2015 we'll get into that in more detail on our Q4 call when we talk about it. And I just wanted to call out kind of the knowns at this stage, and obviously the distribution center and the new DC in New Jersey and the impact that has on gross margin and the drag there. I just wanted to get that out, and that again, you should not expect overall operating margin expansion in 2015 at this point, but really not ready to talk about anything else in particular around 2015.

Just to follow-up on John's question on the near term, when you try to dissect the softness at the end of last weekend and not to look to near-term focus but obviously everybody will be, what have you concluded? Was it regional, was it product category, or was it just simply foot traffic? Can you shed a little bit of light?

I would definitely say that it was definitely not product, actually our customer has responded very well to our product in the stores. It was not regional, it's also fair to say, and when you look at the customer spend from the customer, it's obvious that it was traffic.

Okay. All right, guys. Good luck.

Thank you.

Thanks, Chuck.

Next we'll take Dan Binder from Jefferies.

Thank you. Can you just give us an update on the global sourcing initiatives and where that is going to mix out at the end of the year? And as a follow on to that, as you do incur higher costs related to a larger buying group and more distribution, is there any reason why you wouldn't consider taking some of those sourcing gains and just passing it through to cover those higher costs?

Why don't I take the first part. I think as far as our sourcing, and again, our PD team has two functions and it's important, it's what I think makes us different, differentiates us maybe from other retailers. Our PD team is both sourcing but development, and we're just as comfortable working overseas as we are trying to create an opportunity and a business development effort around a domestic opportunity that may exist, just to sort of clarify that.

But from a sources standpoint of view, we continue to see increased penetration from overseas. Ken, I think we estimate it will be what this year you think by the time we're done?

About 25%.

So we'll get about 25% for this year, and we always tend to be opportunistic and we go overseas for the right item, not necessarily to get a better cost on an item. With regard to ways by which we would look at the expense and as it relates to margin, Ken, do you want to?

Yes, I think, Dan, we've said before just from an overall merchandise margin perspective, we wouldn't expect to see material increases there even as we increase our import penetration given that we're going to be going after kind of the newness and the wow product for the customers and that tends to drive traffic and comp, and then we get that leverage off those increased sales, but obviously we would look at a product development group and an expense item then we would get a return on that investment, but from an overall merchandise margin perspective you should still expect that to be flat in the future.

Okay, thank you.

Next we'll take Michael Lasser with UBS.

Good evening. Thanks a lot for taking my question. It relates to the positioning of the business in a world where overall retail traffic seems to be just under pressure. So given that Five Below's comp has very much been traffic driven in the past, do you think that you can sustain the type of comp growth that you've seen historically if consumers are just going to be out and about in the stores less, and if not, what can you do to influence that?

I think that's maybe I think, Michael, let's break that sort of into two pieces. We've seen very consistent performance, as you know, across our business and if you strip out last Q4, which we still believe was primarily driven and was a result of weather, we think that we have been delivering consistent performance across our stores, across all regions on a consistent basis in both older vintage of stores as well as the newer ones.

But I think we obviously can't be blind to the fact as well making sure we are careful and watching what is going on in the marketplace and how the consumer is behaving. And while we have no immediate plans today to look at it and say, and I think we spoke about this in the past, whether our Five Below should have an online presence point or not, I think those are conversations and the are discussions that I think and then strategy considerations that have to be baked into our thinking, as we think ahead for the business.

But I think we have sort of to wait and see and again, we feel really good. Again, we've come out of a Q3 that we did well. I think we mentioned where we were coming out of Thursday/Friday out of Thanksgiving. We made a decision that we think is the right decision and a smart decision coming out of the weekend and we'll watch and see what happens. What we do know for sure is that our customer continues to be passionate and loves what we have to offer in our stores.

The product offering that we have, and I think that one way or the other, that will continue to drive success and growth for this business. But too early to tell whether we've seen an actual shift and I don't believe from what we've seen so far, we don't believe that to be the case.

Okay, and then my other question is on your promotional posture. I think there's been some fear talk that you're a little more aggressive this Halloween and now you're guiding for a flat gross margin in the fourth quarter, flat operating margin next year with a slightly softer comp, and I think what most were expecting in the fourth quarter, so do you feel like you have to be a little bit more promotional in order to drive the business as well?

First of all, gross margin is flat just to be clear, but let's maybe address the Halloween. Joel, do you want to?

I can say to you our planned marketing spend isn't any greater this fourth quarter than it was last fourth quarter, so while we'll continue to do different promotions and make sure we keep the product relevant, we haven't seen any shift in an increase in our promotional spend.

And thinking of maybe Halloween, just a tad, to be sort of like transparent. Halloween is a very small part of our business. I think we are very happy with the sell-through that we had on Halloween, but it's not unusual for us within seasonal categories, particularly as we get to the end of the season, to make certain decisions based on what we view to be our strategy looking ahead, which would then in a way affect maybe our pack away, and as you know and as you may recall, we will from time to time pack away seasonal goods that we believe we would carry the following season.

So sometimes some of our decisions that maybe you see in the stores reflect maybe a change or a consideration that we may have in front of us and be thinking about. But I would not in any way say that our strategy or cadence around promotional activity has changed in any way and again Halloween, we came out of a quarter, solid back-to-school. We're very happy with the sell-throughs at Halloween, but I will tell you, Halloween is a very slow business for the Company.

That's helpful. Let me just add one last question. How have you tried to factor in the very easy comparison that you're going to experience in the 10 days leading up to Christmas because of the weather last year into your comp? I think there's a perception that you've seen these wide variations in your comp and maybe when your results actually come out, they're not as volatile as what you expect, so maybe you can give us a little more detail there. Thank you so much.

Sure. I think it's very hard to predict December, for anybody in retail. We've came out of last year and our analysis in every way that we've looked at it, we believe that weather had an impact in our performance last year in the month of December, and you know, we are going to start to see this over the next couple of weeks.

That being said, I think you also know us long enough to know how we operate as a Company, and I believe that you have to make smart decisions and intelligent decisions around what you see. And when we came out of the weekend, what we basically did is we took a guidance that was mid-single-digit and we basically adjusted to four. We'll see how December plays out. Again, we feel very good about where we are. We are ready to service our customers. Both of our DCs, we have no issues whatsoever.

We're delivering to our stores as we need to. We have no issues with receipt flow coming out of the port issues that maybe some other folks might be facing, and we'll see how December plays out. It's a great question. I'm not trying to avoid it but maybe a better question to almost postpone until we get through Christmas and get into January.

Okay.

And Michael, just wanted to add just to clarify there, the freight surcharges that we'll experience in Q4, that will be a drag on our gross margin, so we won't expect to see the expansion in gross margin that we would have despite those costs but the product margins, again, would be consistent for Q4.

Okay, thank you very much.

Thank you, Michael.

Next we'll take Meredith Adler with Barclays.

Hi, guys. I don't know if you feel comfortable talking about when you think about the total holiday sales, how much of it comes towards the end, and I don't know whether it's probably the last two weekends before Christmas, I think because you've been saying that there's more to come. Can you quantify that?

Without giving an actual number, Meredith, the majority of our business -- holiday business is ahead of us. No question about it. That's why I think in my comment I said while the first weekend is a relevant weekend, the big sales weeks are definitely ahead of us, into Christmas and those two weeks leading up to Christmas.

Okay, and you don't promote for Black Friday, right?

We've consistently have a circular that we've done every year but we're not really a promotional business. What we do is we put forth some of our key items that we feature in our stores for the holidays and that's pretty much it.

Okay, and then I have a question. I know you commented that you've made no decisions about eCommerce, but I'd maybe would address a question to Joel or even to you, Tom, about Joel's background. Was any part of the decision to bring Joel on driven by the fact that he has tremendous experience with eCommerce or is that just a side benefit?

I think we should both answer that. Let me just take our point. What we've said consistently I think, we feel that we have a tremendous opportunity in stores given the model, the performance of the model, the buildout cost, the return on invested capital, the pay back of less than a year, and I think we've chosen to put our energy into that side of the business to date, but I think we've also maintained that we always felt and continue to believe that there's a strong opportunity for an online effort in the business.

We brought Joel on board, I think primarily and mostly for the leader that Joel is, a diversed, experienced, 20 plus year leader, diverse background. If you look at his background in big box, specialty retail, most recently being the CEO of WalMart.com so all of that definitely played into our decision, but I think you should hear from Joel as well because he certainly has a point of view on that front as well.

Yes, Meredith. I'd just add with the transition to CEO, I want to make sure I not only assess the eCommerce opportunity, but assess all the Company priorities beyond what was just previously responsible as President. And as I shared in my opening remarks, we're going to approach all of this with the same discipline and rigor that Five Below always has, and so I believe in eCommerce.

I think it's an opportunity for this Company, but we don't need eCommerce to help us make our next five years. And it's an opportunity to enhance this Company but we're going to make sure that we don't lose one step of the progress that's been made under Tom and Dave's leadership the last 12 years.

Great, thank you very much, and good luck.

Thank you.

(Operator Instructions)

Next we have Paul Trussell with Deutsche Bank.

Good afternoon. I wanted to just touch base on the expenses quickly, given we've discussed a lot of changes going on in gross margin. Is there anything that we should be thinking about that would prevent or alter what has been historically an ability to leverage at 4% comps, or as we saw here in the third quarter, even at times below that?

Yes, Paul. I think we've spoken about before at that 4% comp level, we tend to see some slight leverage in the SG&A area. That is if there isn't any type of big investment, just keeping in mind that next year, again I think I called out the new distribution center that we'll have DC expenses that are included in cost of goods sold and we'll have things like depreciation related to the distribution center that's included in SG&A. But I think that's a fair statement, to see slight leverage on a 4% comp as we move forward.

Okay, and then I know you guys don't want to give a lot of color about 2015, but in highlighting then that, there's still leverage opportunities in SG&A on that kind of 4% run rate. Is the drag from gross margins just completely offsetting that or just how should we think about the 2015 view?

Yes, again I think it's still a little bit too early and I just wanted to emphasize the DC and new DC just to be able to get that out there, but from an operating margin perspective, I just wouldn't expect margin expansion at this stage of the game for 2015 but again we'll get to more detail when we come back on the Q4 call.

Thank you. Good luck.

Thanks, Paul.

Next we have Christian Buss with Credit Suisse.

And now that you guys have decided on the new distribution center, I was wondering if you could talk a little bit about your store density thoughts in those existing markets in the Northeast. Would love to get some color about what you think the opportunity is there.

You know, I think without getting into a specific number, and I think you've heard us in the past say that we believe the opportunity long term is on a national basis, clearly what we've seen, Christian, particularly I think across all of our markets, but especially as we've gone more into the East Coast, including we just opened our first store in Brooklyn, New York.

You know, the Burroughs, just a few years ago we feel completely different about them. There was a time we really didn't even think we could actually be in the Burroughs, so as we see both the ability to continue to densify as we are adding more stores. And Ken has mentioned in the past that what's been great about it while we see a bit of cannibalization early on, by the time we cycle the store around everything is back to normal so I think you can expect definitely more density in that part of the market.

You can expect that the facility will also serve on the east as we go further south. That would be a good assumption to make, and I think you can expect that some of the stores from that part of the country tend to be higher volume stores as well, so when you put all that together it made a lot of sense and we actually spent a lot of time before we made the decision, and it makes a lot of sense to really expand that facility to what would ultimately be a million square foot facility to handle what we believe the needs for the East Coast. I don't know if that answered the question without giving you an actual number.

You know what I want is the actual number, right? (laughter)

You know, what? I think let's look at that. Let us do a follow-up on that and see in fairness to you, let us get back and see if there's a range that maybe we can give you since I don't have some of the numbers in front of us, a direction of what we see in the area over the next few years.

That would be very helpful.

Fair enough? Sure, absolutely.

Next from Wells Fargo Securities, we have Matt Nemer.

Afternoon, everyone.

Hi, Matt.

Joel, congrats on your new role. I'd love to get your view of -- your early view of what areas in the business you think require investment, setting aside new stores and then questions around eCommerce really kind of more focused on systems and processes and people.

Thanks, Matt. I think I outlined six priorities for you on my previous remarks, and all those priorities are really around making sure we continue on the path of aggressive store growth, improving the store experience, and then developing our people here so we've got the ability to scale. As far as the specific initiatives and what we're going to focus on, both short term and long term, we'll really share all that with you as we get into the fourth quarter and get into the details of that.

I can tell you that we are working on our planning system and we also are working on a new ERP system. So those are specific areas that are high priorities and then beyond that, we'll get into even more detail as we share our fourth quarter earnings with you.

Okay, and then just a quick follow-up. If you look at the 2015 new store class, and I'm sure that you guys are pretty far along on that. Could you just comment on whether the balance of new and existing markets is fairly similar to what we saw in 2013 and 2014 or could it skew one way or the other? Thanks.

It's a good question. I think it's going to be fairly similar. We'll probably announce maybe a market or two as well, and we look forward -- truly look forward to having that conversation as we get to the end of the year, but I think you can expect it to be fairly similar. And we love existing markets, if you can understand. I want to be real clear about that because I think that it's on so many fronts, it makes sense for us to continue to densify existing markets.

Next from Dougherty & Company, we have Jeremy Hamblin.

Good evening, guys, and thanks for taking my question. Just a longer term question. Some of the volatility in the Company in the stock seems to be that there's such a heavy reliance on fourth quarter to drive the results of the business. As you look out a few years and the Company continues to expand into new geographies and you continue to expand the categories and the merchandise assortment that you have in your stores, do you think that at some point, Q4 starts to be a smaller portion of sales and earnings power?

Yes, any way you look at it, I think you're totally correct. Q4 is where we make most of our money. As we continue to expand, and I think we have been and need to constantly be on our game to make sure that we're ready for the holidays, and ultimately service our customer in however customer wants to be served during that key period of a time.

The other part of your question that I think is a very valid one. As we expand and as we with the markets that we've been into, but as important the markets that we will be going into, no question about it, we constantly are looking at and believe we have opportunity to grow other parts of our business outside the Q4. A great example of that is Q2.

Amongst all the quarters I think there's growth, but Q2 certainly and I think the strength that we have, the loyalty that we have with our customer, the response that we have from our customer around Q2, I think is an opportunity for us, particularly on the outdoor business to continue to build it over time, particularly as we get into some of these markets where it's that business may actually have a much longer season.

And just as a quick follow-up to that, in terms of the fourth quarter and the incredibly promotional environment that we're seeing out there and that seems to be just kind of the normal course of business these days with so many retailers opening up on Thanksgiving and driving promotions earlier and earlier and deeper and deeper, is it just harder to generate traffic than it was even if three, four years ago?

I think the hours issue is obviously one aspect of what is going on, particular to the holiday business, and I think we'll have no choice probably but to follow most of the retailers leads if that's when the customer chooses to shop. With regard to the promotional activity, though, what we've seen consistently and what I feel great about as I look at where we are as a Company, when there's traffic regardless of what is going on around us from a promotional activity standpoint of view, we continue to do really well.

When traffic is in line with our expectations in our round of centers that we're in and with the co-tenants that we're with, we do really well and we believe what drives that repeats business from our customers is our ability to continue to wow our customer. Remember, we're still the primary destination for teens and pre-teens that caters to both boy and girl, value segments, everything under one price point in a great store environment, and that has served us well.

We continue to see it either around the promotional activity, and forgive me if I'm a long winded sort of way, when there's traffic and when there's people, we do well regardless of the promotional activity around us. Without needing to be promotional ourselves.

All right, and that does conclude today's question-and-answer session. Gentlemen, I'll turn it back to you for any additional or closing remarks.

Thank you all. We really appreciate all your support and as I said earlier, have a happy and healthy holiday, and we look forward to our next call.

Once again, ladies and gentlemen, that does conclude today's call. We thank you for your participation and you may now disconnect.